Battle Looms on Plans to Tax Fringe Benefits

Along with their $13-an-hour salaries, assembly-line workers who belong to the United Auto Workers enjoy fringe benefits worth another $8 to $9 an hour, perhaps the most generous benefits package in the nation for industrial workers. And, making those benefits sweeter yet, they are tax-exempt.

No wonder the UAW and other unions are up in arms over proposals in the White House and Congress to tax health insurance and other fringe benefits as part of a sweeping tax reform package. “We are right between the hairs of the gun sights on this one,” UAW spokesman Peter Laarman said.

The big gun is in the hands of President Reagan, who will announce his tax reform package on May 28. His expected proposal to tax some fringe benefits--notably up to $20 a month in health insurance contributions--figures to set off one of the toughest fights during the coming debate over tax reform.

Tempting Revenue Source

To Reagan’s Treasury Department, fringe benefits are a tempting source of new revenue to offset some of the losses from Reagan’s desire to reduce tax rates and increase the personal exemption. In the Treasury Department’s tax reform proposal of last November, the basic building block for the package that Reagan will announce next week, taxing some fringe benefits would have produced $70 billion in additional revenues over five years.

Sen. Bill Bradley (D-N. J.), co-author of one of the leading congressional tax reform proposals, says that a fringe benefit should be treated for what it is--income. “A fringe benefit is not a free good,” he told the weekly magazine National Journal. Leaving fringe benefits untaxed, he said, forces higher tax rates on cash income.

Although Bradley would tax virtually all fringe benefits, Reagan would be more cautious. On health insurance, the key fringe benefit, he is expected to propose taxing only the first $10 a month in employer contributions to individual coverage and $20 a month for family coverage.

But Senate Finance Committee Chairman Bob Packwood (R-Ore.), a strong believer in using the tax code to promote such social goals as health insurance and child care, has warned that he will ask his committee to scuttle the Administration’s tax program if it tries to take a substantial bite out of fringe benefits.

“I’ve told Jim (Treasury Secretary James A. Baker III) how strongly I feel about employee fringe benefits,” Packwood said recently. “It’s a critical issue.”

Taxing fringe benefits would have virtually universal impact. Employer-paid health insurance now covers 81 million workers and 80 million family members. The next most common forms of benefits are life insurance (70 million workers covered), pension plans (52 million), dental care (30 million), disability insurance (22 million), eye care (11 million) and child care (2 million).

Social Incentives

Congress made employer contributions to pension plans and disability insurance tax-free in 1921, and it extended the special treatment to health insurance in 1939 and life insurance in 1959. “The tax code was modified precisely to create incentives to fulfill these social goals,” said Frank McArdle of the Employee Benefit Research Institute.

During the 1970s, as inflation-driven salary increases pushed millions of Americans into tax brackets once reserved for the affluent, tax-exempt fringe benefits became ever more appealing. And Congress continued to enact more tax exemptions.

In 1978, for example, Congress permitted workers to shelter some of their income in tax-exempt retirement accounts that receive matching contributions from employers. Companies have made these plans available to 20 million workers, and about two-thirds of them have agreed to set aside some of their income, according to the Employers Council on Flexible Compensation.

Also in 1978, Congress extended tax-free status to so-called cafeteria plans that give workers the chance to choose their own mix of employer-paid benefits. A single worker might trade some life and health insurance for extra vacation days, for example, but a working mother might be more interested in day care.

Plans Cover 5 Million

Five million workers are now enrolled in cafeteria plans. In Los Angeles County, the Bank of America, UCLA, Dow Chemical and Eastman Kodak are among the firms offering the increasingly popular plans.

The Treasury Department’s initial tax reform blueprint of last November would have eliminated tax-exempt status for cafeteria plans. The President’s May 28 proposal probably will include a provision to merely limit the value of benefits that could be sheltered from taxes under such plans.

But the most far-reaching benefit is health insurance, and Reagan’s package is expected to alter the Treasury Department’s original proposal to tax part of this benefit.

In its initial plan, the department wanted workers to pay taxes on the value of company-paid insurance coverage in excess of $70 a month for individuals and $175 for families. That would have provided incentives for workers to choose lower-cost insurance plans.

But the new version, sources say, would change the “last dollar” taxation to “first dollar,” with the income tax applying to the first $10 of employer-paid premiums for individuals and $20 for families. That approach would affect all workers with any health insurance benefits, not just those with the most generous plans. And it would provide no incentive to switch to lower-cost plans--an advantage in labor’s view but a negative to economists trying to control the cost of health care.

The new approach satisfies Senate Finance Committee Chairman Packwood, who has been publicly supporting the White House tax plan ever since Reagan adopted it. But die-hard opponents of taxing health insurance warn that either approach would open the door to further taxation.

“If you start with health benefits, you are really putting all benefits on the table,” said Deborah Chollet, senior research associate at the Employee Benefit Research Institute.

Indeed, Sen. Bradley and Rep. Richard A. Gephardt (D-Mo.), authors of the leading Democratic tax reform package in Congress, would tax immediately the full benefit of not only health insurance but life insurance as well. Employer-paid premiums on amounts of life insurance in excess of $50,000 already are taxed, making them unique among fringe benefits.

In contrast to the Bradley-Gephardt plan, a Republican tax reform package sponsored by Rep. Jack Kemp of New York and Sen. Bob Kasten of Wisconsin would leave fringe benefits untouched. Kemp, calling the issue vital to the well-being of “the blue-collar working man and woman,” told the Senate Finance Committee, “I agree with Bob Packwood and, strangely enough, with (AFL-CIO President) Lane Kirkland.”

‘Enough Tax Already’

Organized labor agrees with Kemp. A spokesman for UAW Local 887, whose 14,000 members include workers at Rockwell International facilities in Los Angeles and Orange counties, said: “Our people see a tax on fringe benefits as just another way to get at the working man and woman in this country. If you listen to members talk out in the plants, they say there is enough tax already.”

Big business, rarely a friend of labor, is an ally on this issue. Employer-financed programs such as health and life insurance and child care create good will between workers and management, said James Klein, manager of employee benefits for the U.S. Chamber of Commerce, and “we shouldn’t tinker with the system.”

If health insurance benefits were taxed, Klein said, workers who expected low medical bills might want their union leaders to negotiate with their employers for the option of more in wages instead of health insurance. That could leave only the higher-risk workers enrolled in insurance plans, and the cost of insuring them would rise on a per-worker basis.

Risk of Big Medical Bills

Ultimately, Klein warned, some of the dropouts from the employer-financed insurance system would run up substantial medical bills, despite their expectation of good health, and the government would inevitably be called on to pay for their care.

Sen. Packwood shares that concern. “I believe the federal government is a poor administrator, and its delivery of health care benefits would probably be inferior to our private insurance system,” he said in an advertisement sponsored by the Health Insurance Assn. of America.

“I think it is better for employees and cheaper for the taxpayer if benefits are provided through the private sector. I believe there is more local control, less red tape and more competition.”

Packwood ended his message with an invitation to readers of the ad to join the fight against taxation of fringe benefits--an invitation to step right into the coming debate over tax reform.