(Editor's note: The following is an edited transcript of testimony Fiscal Policy Director Michael D. LaFaive gave to the Michigan House Tax Policy Committee on June 21, 2009.)

Good morning. It's a pleasure to be here today and I appreciate the opportunity to speak on the subject of potential budget reforms.

As some of you may know, the Mackinac Center has put forth a steady stream of state budget policy recommendations. In 1995 we published our first comprehensive state budget study and followed it up with similar studies in 2003 and 2004. In addition, we've posted scores of more targeted budget recommendations, and will continue to do so. These included, but were not limited to, privatizing the University of Michigan, devolving state police road patrols to counties, and moving the state of Michigan's civil service employees into what are known Health Savings Accounts as a way to save money on the cost of providing health insurance.

That's what I'm here to discuss today. A Health Savings Account (HSA) is a thrice blessed tax-advantaged account into which money is placed by an employer and or an employee to pay for ongoing medical expenses. These accounts are married to a qualified consumer-directed health plan (CDHP) insurance policy to cover unpredictable big-ticket expenses.

Most people have become familiar with the general concept: The money in the HSA is spent for routine or less costly types of care, up to the point at which the deductible is met and then the actual insurance kicks in. For example, a 2009 federal law requires that HSA deductibles be at least $1,150 for self-coverage and $2,300 for family coverage. There are ceilings, too. These accounts are "thrice blessed" because money going in is untaxed by the federal government, it earns interest tax free, and it can be withdrawn and used for qualified medical expenses tax free.

Savings accrue to employers because high deductible insurance premiums cost less than premiums associated with more traditional insurance, including PPOs or HMOs. The opportunity to rein in health care costs and also provide consumers with greater health care choices has led to an explosion of growth in the use of HSAs. An estimate by the AHIP Center for Policy and Research indicates that the number of people using HSA/CDHPs has grown from 1 million in early 2005 to more than 8 million by January 2009. In 2008, large and small group HSA coverage leapt 35 percent and 34 percent respectively.

In the fall of 2007, my colleague James Porterfield and I published a short essay that included very conservative estimates on what the state could save if it adopted HSAs for all its civil service employees. We estimated savings of $16.2 million in the first year with total savings growing to $1.1 billion through 2015. The assumptions included the state (as employer) paying 100 percent of the legally allowable contributions to the employees' HSAs, and 100 percent of the premiums associated with the high-deductible insurance policy. As an aside, this is a very rare occurrence. A survey of 6,000 employers nationwide published by Information Strategies Inc. indicated that fewer than 10 percent provided employees with 100 percent premium support.

We are in the process of revisiting the HSA concept and recalculating our numbers based on insurance costs more in line with those for private sector employees. We do so knowing that state employees currently make premium contributions of 5 percent to 10 percent depending on their coverage. Under our assumptions the state would pay 100 percent of the premiums for the HDIP and fund 75 percent of the legally allowable employee contributions to each civil servant.

Based on these and other assumptions, we estimate first-year savings of $106 million from moving state civil servants into HSAs, and cumulative savings of up to $5.9 billion through 2021. This staggering figure represents the difference between estimated costs of CDHPs at a 3.5 percent annual increase (an upper bound for such plans) versus the upper limit of 9 percent annual increases projected for PPO premiums by the Citizens Research Council of Michigan. We would be happy to provide you with estimates based on more modest increases in premium hikes if you would like.

It should be noted here that this is a complicated subject, and in 10 minutes I can't fully detail every assumption made for our estimates. I can, however, provide additional detail to all who wish to see it.

We have also run the numbers for public school employees. As you know, one of the cost savings ideas under consideration in various places is to sweep school employees into the state's health plan. We calculated the savings for rolling almost 209,000 public school FTEs into a state-administered HSA/CDHP. Our estimates for upper bound savings total $451 million in the first year of a switch with cumulative savings through 2021 of $26 billion. These are maximum potential savings based on expected annual PPO premium increases of 9.3 percent. Again, if you'd like to see what the result would be of more modest increases in state-paid premiums we would be happy to provide them.

While moving state and public school employees into these consumer-directed health care plans would represent a seismic shift in public policy, that does not mean it could not or should not be done. Indeed, there will be a seismic shift in public policy if we do nothing to address the exploding cost of health coverage for government employees.

Moreover, in almost every case, employees come out ahead with patient-centered HSA plans. To cite just one of the many advantages, the maximum out-of-pocket expense is an absolute, hard number, while with traditional insurance there is no limit to some of the co-pay amounts.

I have one caveat related to state reforms. Revolutionizing state employee health care is no small thing. Starting the process may trigger a struggle over who has the legal right to change the benefit structure of state employees. If the authority does ultimately rest with the Civil Service Commission, the Legislature could still ask the Commission to change the benefits provided to state employees.

Enacting such reforms will certainly be difficult and contentious, but the value for the long term fiscal viability of this state is impossible to deny. In 2007 when we first wrote about this issue, we concluded by saying, "the state may soon find its fiscal back against the wall once again." Well, here we are. If only the state had begun this process two years ago when it was first recommended, you might have less cutting to do now. I urge you to consider the HSA idea as one huge and relatively painless option for saving state taxpayers billions of dollars.

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Michael D. LaFaive is director of the Morey Fiscal Policy Initiative at the Mackinac Center for Public Policy, a research and educational institute in Midland, Mich. James Porterfield serves on the advisory committee for Consumers for Health Care Choices and is an independent research analyst. Permission to reprint in whole or in part is hereby granted, provided that the authors and the Center are properly cited.