Tuesday, November 05, 2019

And You Thought Health Care Was Complicated!

by Neil H. Buchanan

A few months ago, I discussed my travails in trying to navigate the health insurance options as I transitioned into my new position at the University of Florida.  My overall purpose in writing that column was to mock the cruel joke that is "freedom of choice" in the American health care system.  Even mainstream economists have known for decades that health care is not a "normal" good as depicted in Econ 101, so the world will not be characterized by so-called efficient outcomes when people are left to fend for themselves in that marketplace.

In fact, the description in that column of my own uncertainties and wasted time in choosing a health insurance plan was almost comical in that my employer offers exactly two health insurance plans.  Two options, but the state of Florida nonetheless spends huge amounts of money trying to make the process more user-friendly.  If even a duopoly is hopelessly complicated, what hope is there for clarity in an inherently unclear world of coverage limits, deductibles, co-pays, coinsurance, and on and on?

The ultimate reason that Americans continue to be stuck with a hugely expensive health care system that fails to cover tens of millions of people and bankrupts even people with supposedly good health insurance, of course, is that Republicans (and many Democrats) have been bought by the various companies that are making huge profits at everyone else's expense.

But even within our insane set of perverse incentives, it is its own scandal that health care is tied to one's employment status -- and to one's specific employer.  We could have a health care system that is just as profitable (and cruel) as the current system is without making one's employment status the determining factor in whether one has health insurance (or how good the insurance is, or how many options one has).  What sense does it make for me to have had to change my health insurance decisions merely because I moved from one (very good) job to another?

I thought my transition to the UF health care world was annoying, and it was; but after wasting lots and lots of time on it, I ultimately made a choice that did not ruin me financially -- as far as I know.  But not being able to shake the sense that I might have made a catastrophic error (an error that now sits like a landmine at some point along my path through life) is a big part of the stress and uncertainty of our system.

As it turns out, however, this oddball system of connecting a crucial financial aspect of people's lives to their particular employer goes beyond health care.  I have recently become aware of someone's even bigger travails in trying to deal with her retirement savings accounts, nearly losing a huge sum of money because those accounts are tied to particular employers.

Prepare to be astonished and annoyed by the story of a person I will refer to only as Professor X.  Even someone with a great deal of financial savvy and access to very helpful administrators found herself spending several weeks unsnarling a mistake not of her making.  Were we not to tie retirement savings benefits to employers, this would never have happened.

There are some details to plow through before we get to the perverse "reveal," but those who stay through the end of the story will find that it is a truly strange tale of how an opaque system can inflict real harm on people.

There was a time when private employers offered what are known among finance nerds as defined-benefit plans, or what everyone else simply calls pensions.  Although it does not truly make sense for employers to pay their employees in two ways -- up front, and then many years later -- the U.S. government set up complicated rules regarding vesting, adequacy of employers' reserves, and so on.  Essentially, the goal was to guarantee that private employers were setting up their pensions so that the promised retirement benefits would actually be paid when they were supposed to be paid.

For reasons not relevant here, pensions have all but disappeared in the United States.  They are still offered to some public sector workers (at various levels of our federalist system) and perhaps also to some unionized private employees, but retirement security's fabled three-legged stool -- pensions, workers' savings, and Social Security benefits -- lost the first of its legs over the past two generations.

For many people, the idea of saving for retirement on their own has also become its own sad joke, because stagnant wages have made it nearly impossible for people to put money aside for their retirement years.  This is one of the reasons that I have written so much over the years about Social Security, because it is the only leg of the stool that is left for far too many retirees.  It would thus be especially harmful if Republicans (and so-called centrist Democrats) succeeded in using the imagined "future bankruptcy" of Social Security to cut public retirement benefits below even their very ungenerous current levels.

But I digress.  My Professor X is one of the lucky few who actually is able to take advantage of the retirement savings options that are available in principle to everyone, but in reality only the most fortunate upper-middle-class workers take up.  And those options (which finance nerds call defined-contribution plans, that is, savings) can be very appealing indeed.  Everyone has heard of 401(k) plans (called 403(b)'s for employees of nonprofits), and there are a number of additional ways in which various Congresses have made it possible for people to save tax-free for retirement.

The basic idea in all of the various plans is to allow people to save money (up to a statutory limit for each type of account) without paying taxes on the money first.  I can deposit money in a regular savings account at any time (if I do not have something on which I need to spend it), but that is known as post-tax savings.  The various tax-favored savings options are pre-tax plans, which means that one pays taxes upon withdrawal, many years in the future, allowing the larger principal to grow to a larger total.

And this is what Professor X was able to do.  Like me, however, she recently changed employers.  I use a financial company called TIAA to manage my pre-tax retirement funds, and because I have changed jobs at various times in my career, I know that TIAA is legally prohibited from simply pooling my retirement savings from each of those employers into one account in my name.  To this day, I have accounts that TIAA must keep separate and identifies by my previous employers -- the University of Michigan, Rutgers, GW, and so on.  Why?  No one has ever offered even the beginning of a decent explanation to me, but those are the rules.

Does this matter?  In one sense, not at all.  If I have $100 that is truly mine, and the bank that holds my money puts random names on four different accounts of $25 each, I do not care so long as I can withdraw the money when the time comes.  It might be silly and administratively wasteful, but so be it.

What Professor X discovered when she changed jobs, however, is that different types of pre-tax savings plans have booby traps built into them.  She assumed that her old accounts would continue to be held by her financial management fund (her equivalent of TIAA) and that she would be able to add to those funds under a new account tied to her new employer.

Not so fast.  It turns out that one type of deferred compensation vehicle, known as a 457 plan, is not always allowed to be held under the name of the old employer.  Why?  Who knows, but federal law says that some cannot.  What happens to the money?  If one jumps through the correct hoops in the right way and at the right time, 457 money can be rolled over tax-free into a new account tied to the new employer.

Again, this would be a great idea in general, because we would generally want to simply plunk all old money into one pot and add new money to it.  But this is only true of some funds, and it is not at all obvious to savers that 457's work this way.  TIAA and its peers are supposed to inform people when they need to do something special, but the snail-mail letter to Professor X was apparently lost.  A month later, she received -- via a secure electronic mail system, not a paper letter (proving that the company could have contacted her if it had wanted to) -- notice that she was too late and that the money would be disbursed.

Why is that bad?  Because the entire balance of the account was going to be paid out all at once, and that entire amount would be taxable in 2019 at regular income tax rates.  For Professor X, this would immediately throw her into the top tax bracket and thus cost her 37 percent in federal taxes (plus any state taxes) this year, which in her case would have meant a six-figure tax payment.

Understandably freaking out, Professor X scrambled and discovered that she could get a second bite at the apple, but only if her now-previous employer said that she could do so after the initial deadline.  Again, why should that be required?  Apparently because the previous employer is legally still the "owner" of the funds.  Whatever.  In this case, that employer was nice about it and agreed to an extension.

Problem solved?  Not a chance.  I am not making this up, but Professor X's finance company told her that the 457 plan in question was a "top hat" plan, and "top hat plans are set up under specific conditions between employers and providers and can only be distributed after termination of employment or rolled over to other top hat plans, which" Professor X's new employer does not offer.

There were actually two more -- equally absurd, and also caused by differences in the options available from different employers -- steps in this odyssey, but there is no reason to sweat those even more excruciatingly silly details here.  It turned out in the end that Professor X was spared the current tax bill, and thus was saved from a huge hit to her retirement bottom line.  But this was only because her finance company provided a very good customer service team and because she was able to take the time and effort to get this done correctly.

Again, because these tax-favored plans are tied to specific employers and have differing, inconsistent rules, a person's financial wellbeing was seriously endangered by one lost letter.  True, even after such a hit, Professor X would have been better off than most people who are not able to save in the first place; but that is hardly an excuse to set up a system that can have such arbitrary and enormous consequences.

A number of years ago, I wrote a column, "I Guess You Can Take That Away From Me," in which I pointed out that people wrongly think of money in savings accounts as "safe" in the sense that it is their money and thus that it cannot be legally taken away from them.  That mistaken belief is part of what makes some people foolishly favor privatizing Social Security, because they think that "Congress can take away my Social Security benefits, but nobody can take away private savings."

But of course, there are all kinds of ways in which private savings can be taken away.  Tax rates can change.  Financial institutions can impose arbitrary fees -- or go broke, which raises the question of whether Congress would be willing to provide insurance to make depositors whole.  Would a Congress that cut Social Security be a Congress that provides this other kind of social insurance?  Maybe.  Maybe not.

What almost happened to Professor X was a particularly toxic mixture of mistakes and arbitrary rules, but as soon as this country decided that we were going to provide pre-tax savings plan options, we found ourselves headed down the path toward unintended consequences and weird outcomes.

When I changed jobs this year, I was reminded how ridiculous it is to tie health care outcomes to particular employers.  Professor X learned how ridiculous it is (in so, so many ways) to tie retirement savings to particular employers.  Employers spend untold billions of dollars administering the whole suite of legal benefits that need not have anything to do with employment, and they would surely be delighted if they did not have to employ an army of Human Resource specialists to deal with all of it.

Even if we cannot bring ourselves to adopt better health care laws or improved retirement benefits, is it too much to ask -- especially in a world where people are increasingly expected not to stay in the same job for life -- to make it all independent of particular employers?  Professor X dodged a bullet, but only by random luck.  Many people are not so fortunate.

No comments: