4. Creating Individual Self-Insurance for Small Medical Bills

Problem: Because employees (through their employers) are able to purchase health insurance with pretax dollars, but individuals are not allowed to self-insure (personal savings) for small medical expenses with pretax dollars, too often people buy low-deductible health insurance, using insurers to pay for small medical bills that would be less expensive if paid out-of-pocket.

Solution: Individuals should be able to make annual deposits to individual Medisave accounts and to use these funds for medical expenses without tax penalty.

Discussion: The easiest way to hold down premium increases is to choose health insurance policies with high deductibles. Table 3 presents the marginal cost (premium increase per additional dollar of coverage) of buying down the deductible on a representative individual health insurance policy for a middle-aged male. As the table shows: [18]

  • Lowering the deductible from $750 to $500 costs 55 cents in additional premium for each additional dollar of insurance coverage.

  • Lowering the deductible from $500 to $250 costs 62 cents in additional premium for each additional dollar of insurance coverage.

While lower-deductible policies may occasionally be a good buy from the point of view of an isolated individual, they cannot possibly be a good buy for policyholders as a group. As noted above, hiring an insurance company to pay small medical bills can double the costs of the medical service. As a result, low-deductible policyholders as a group are paying far more in premiums than they will "collect" in medical benefits. Table 3 also shows an even more bizarre phenomenon: [19]

  • Lowering the deductible from $250 to $100 costs $2.14 for each additional dollar of insurance coverage.

  • Policyholders who choose this option are paying $1.14 more than any possible benefit they could derive from each additional dollar of coverage.



(Male, Age 40)1

Lowering the Deductible2

Additional Premium

Cost of Each $1 of Additional Coverage3

$1,000 ð $750



$750 ð $500



$500 ð $250



$250 ð $100



1Assumes the policyholder lives in a city with average health care costs.

2Policy has a 20 percent copayment up to a maximum of 51,000.

3Because the policy has a 20 percent copayment, additional coverage is

80 percent of the difference between the two deductibles.

Source: Golden Rule Insurance Company.

Low-deductible insurance policies, then, are not simply wasteful. In some cases policyholders pay more than any possible value that could be gained from the extra coverage. Yet the current tax law encourages such policies and discourages high-deductible policies. On a $1,000-deductible policy, for example, the first $1,000 must be paid out-of-pocket with after-tax dollars. If that $1,000 were paid by employer-provided insurance, the premium could be paid with pretax dollars, thus benefiting from a tax subsidy.

To eliminate the perverse incentives in the current system, we should allow individuals to make deposits, say, of $300 per year to individual Medisave accounts. These accounts would serve as self-insurance for small medical bills and would be an altemative to the wasteful practice of using, third-party insurers for this purpose. Medisave accounts would be the private property of the account holder and become part of an individual's estate at the time of death. Contributions to Medisave accounts should receive the same tax encouragement as payments for conventional health insurance. [20]

This proposal is designed to change incentives and, therefore, change the way in which we hay for medical care. It is not designed to change the total tax benefit people now receive For example, the average insured worker in the U.S. economy has a deductible of about $250. [21] If that deductible were raised to $ 1,000, the premium saving would be about $300 – an amount that would be deposited to a Medisave account. For the average worker, then, there would be no change in the amount reserved for health care benefits or in the total tax subsidy. Yet the change would encourage prudence, eliminate waste and give employees greater control over how their health care dollars are spent.

Creating individual and family Medisave accounts would represent a major departure from the current system of paying for health care. These accounts would have immediate advantages which would become even more important over time. [22]

  1. Medisave accounts would give individuals direct control over their health care dollars – freeing them from wasteful consumption decisions by other policyholders and from the arbitrary, bureaucratic constraints imposed by third-party insurers.

  2. When people spent money from their Medisave accounts, they would be spending their own money, not someone else's money – giving people excellent incentives to become prudent buyers in the medical marketplace.

  3. The funds in Medisave accounts would grow over time, allowing people to choose higher-deductible policies – thus relying less on third-party insurers and acquiring more control over how their health care dollars are spent.

  4. Since Medisave accounts would last over an individual's entire life, they would allow people to engage in lifetime planning – recognizing that health (and medical expenses) are related to choices people make throughout their lives.

  5. Medisave accounts would eventually become an important source of funds from which to purchase health insurance or make direct payments for medical expenses not covered by Medicare during retirement.