Order Code RS20173
Updated May 3, 2006
CRS Report for Congress
Received through the CRS Web
Medicare: Financing the Part A
Hospital Insurance Program
Jennifer O’Sullivan
Specialist in Social Legislation
Domestic Social Policy Division
Summary
Medicare is the nation’s health insurance program for individuals aged 65 and over
and certain disabled persons. Medicare consists of four distinct parts: Part A (Hospital
Insurance [HI]); Part B (Supplementary Medical Insurance [SMI]); Part C (Medicare
Advantage [MA]); and Part D (the new prescription drug benefit added by the Medicare
Prescription Drug, Improvement, and Modernization Act of 2003 [MMA]). The Part A
program is financed primarily through payroll taxes levied on current workers and their
employers; these are credited to the HI trust fund. The Part B program is financed
through a combination of monthly premiums paid by current enrollees and general
revenues. Income from these sources is credited to the SMI trust fund. Beneficiaries can
choose to receive all their Medicare services through managed care plans under the MA
program; payment is made on their behalf in appropriate parts from the HI and SMI trust
funds. A separate account in the SMI trust fund accounts for the new Part D drug
benefit; Part D is financed through general revenues and beneficiary premiums.
The HI and SMI trust funds are overseen by a board of trustees that makes annual
reports to Congress. The 2006 report projects that under intermediate assumptions, the
HI trust fund will become insolvent in 2018, two years earlier than projected in 2005.
The revision reflects slightly higher costs and an upward revision in short-range
assumptions about utilization of HI services. The 2006 projection is eight years earlier
than that projected in 2003, prior to the enactment of MMA. That law added to HI costs.
The HI fund fails to meet both the short- and long-range tests for financial adequacy.
Because of the way it is financed, the SMI fund does not face insolvency; however, the
trustees are concerned with the program’s continued rapid growth rate.
The trustees stress the importance of considering the Medicare program as a whole,
They estimate that the difference between outlays and dedicated financing sources is
estimated to reach 45% of outlays in 2012. As required by the MMA, they have
therefore issued a determination of “excess general revenue Medicare funding.” This
report will be updated upon receipt of the 2007 trustees’ report.
Congressional Research Service ˜ The Library of Congress

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CRS-2
Health Insurance Trust Fund
What It Is. Medicare’s financial operations for Part A are accounted for through
the HI trust fund maintained by the Department of the Treasury. The trust fund is an
accounting mechanism; there is no actual transfer of money into and out of the fund.
Income to the trust fund (primarily payroll taxes) is credited to the fund in the form of
interest-bearing government securities. Expenditures for services and administrative costs
are recorded against the fund. The securities represent obligations that the government
has issued to itself. As long as the trust fund has a balance, the Treasury Department is
authorized to make payments for it from the U.S. Treasury.
Income and Outgo. The primary source of income credited to the HI trust fund
is payroll taxes paid by employees and employers. Each pays a tax of 1.45% on earnings;
the self-employed pay 2.9%. Unlike Social Security, there is no upper limit on earnings
subject to the tax.1 Additional income consists of (1) premiums paid by voluntary
enrollees who are not automatically entitled to Medicare Part A through their (or their
spouse’s) work in covered employment; (2) government credits; and (3) interest on
federal securities held by the trust fund. Since 1994, the HI fund has had an additional
funding source: the Omnibus Budget Reconciliation Act of 1993 (OBRA 93) increased
the maximum amount of Social Security benefits subject to income tax from 50% to 85%
and provided that the additional revenues would be credited to the HI trust fund.
Payments are made from the trust fund for covered Part A benefits, namely, hospital
services, skilled nursing facility services, some home health services, and hospice care.
Payments are also made for administrative costs associated with operating the program.
Board of Trustees. By law, the six-member Board is composed of the Secretary
of the Treasury, the Secretary of Health and Human Services, the Secretary of Labor, the
Commissioner of Social Security, and two public members (not of the same political
party) nominated by the President and confirmed by the Senate.2 The Secretary of the
Treasury is the Managing Trustee. The Administrator of the Centers for Medicare and
Medicaid Services (CMS), the agency that administers Medicare, is designated Secretary
of the Board.
Annual Trustees’ Report. The Board makes an annual report on the operations
of the trust fund. Financial projections included in the report are made by CMS actuaries
using major economic and other assumptions selected by the trustees. The report includes
three forecasts ranging from pessimistic (“high cost”) to mid-range (“intermediate”) to
optimistic (“low cost”). The intermediate projections represent the Trustees’ best
1 Prior to 1991, the upper limit on taxable earnings was the same as for Social Security. OBRA
90 raised the limit in 1991 to $125,000. Under automatic indexing provisions, the maximum was
increased to $130,200 in 1992 and $135,000 in 1993. OBRA 93 eliminated the upper limit
entirely beginning in 1994.
2 Public members serve four-year terms. Public members John L. Palmer and Thomas Savings
were appointed in October 2000 and continued serving through issuance of the 2005 report; they
were reappointed in a recess appointment in April 2006.

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estimate of economic and demographic trends; they are the projections most frequently
cited. The 2006 report was issued May 1, 2006.
2006 Health Insurance Trustees Report — Key Findings
2005 Operations. In calendar year (CY) 2005, total income to the HI trust fund
was $199.4 billion. Payroll taxes of workers and their employers accounted for $171.4
billion (86.0%), interest and government credits for $16.8 billion (8.4%), premiums (from
those buying into the program) for $2.4 billion (1.2%), and taxation of Social Security
benefits for $8.8 billion (4.4%). The program paid out $182.9 billion — $180.0 billion
(98.4%) in benefits and $2.9 billion (1.6%) for administrative expenses. The balance at
the end of 2005 was $285.8 billion. In FY2005, total income was $196.9 billion, and total
disbursements were $184.1 billion; the distribution of income sources and expenditures
was similar to those recorded for CY2005. (See Table 1)
Table 1. Operation of the Hospital Insurance Trust Fund,
Calendar and Fiscal Years 1970-2014
($ billions)
Year
Calendar Year
Fiscal Year
Balance at
Balance at
Income
Disbursements
end of year
Income
Disbursements
end of year
Historical data
1970
$6.0
$5.3
$3.2
$5.6
$5.0
$2.7
1975
13.0
11.6
10.5
12.6
10.6
9.9
1980
26.1
25.6
13.7
25.4
24.3
14.5
1985
51.4
48.4
20.5
50.9
48.7
21.3
1990
80.4
67.0
98.9
79.6
66.7
95.6
1995
115.0
117.6
130.3
114.8
114.9
129.5
2000
167.2
131.1
177.5
159.7
130.3
168.1
2001
174.6
143.4
208.7
171.0
141.7
197.4
2002
178.6
152.5
234.8
179.8
148.0
229.1
2003
175.8
154.6
256.0
175.8
153.8
251.1
2004
183.9
170.6
269.3
180.8
167.0
264.9
2005
199.4
182.9
285.8
196.9
184.1
277.7
Intermediate estimate
2006
210.2
200.5
295.5
208.2
189.0
297.0
2007
219.0
213.1
301.4
216.3
212.4
300.9
2008
233.4
226.6
308.3
230.4
222.3
309.1
2009
245.7
242.6
311.3
242.3
238.0
313.3
2010
257.4
259.2
309.6
255.0
254.4
314.0
2011
270.9
276.9
303.5
269.0
277.3
305.7
2012
284.3
296.5
291.3
281.8
284.9
302.6
2013
296.4
317.7
270.0
294.4
311.4
285.5
2014
308.4
339.6
238.9
306.1
333.0
258.6
2015
320.3
362.5
196.6
317.5
356.1
220.1
Source: 2006 HI and SMI Trustees’ Report. Sums may not equal totals due to rounding.

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Projected Insolvency Date. The 2006 report projects that, under intermediate
assumptions, the HI trust fund will become insolvent in 2018, two years earlier than
projected in 2005.3 The revision reflects slightly higher costs in 2005 than previously
estimated, and some upward revisions in the short-range assumptions about the utilization
of HI services. The 2006 report projects insolvency eight years earlier than did the 2003
report, issued prior to the enactment of MMA.4 That law added to HI costs, primarily
through higher payments to rural hospitals and to private plans under the MA program.
The 2006 report states that beginning in 2004, tax income (from payroll taxes and
from the taxation of Social Security benefits) began to be less than expenditures.
Expenditures will exceed total income beginning in 2010. If income falls short of
expenditures, costs are met by drawing on HI fund assets through transfers from the
general fund of the Treasury until the fund is depleted.
Short- and Long-Range Financial Soundness. The 2006 report states that
the fund fails to meet the short-range (i.e., 10-year, 2006-2015) test of financial adequacy
since total HI assets at the start of the year are estimated to decline to below 100% of
expenditures during 2012.
Further, a substantial actuarial deficit exists over the full long-range projection
period (2006-2080). For projections beyond 2015, the trustees do not use actual dollar
figures due to the difficulty of comparing dollar values for different time periods. Instead,
they measure long-range financial soundness by comparing the fund’s “income rate” (the
ratio of tax income to taxable payroll) with its “cost rate” (the ratio of expenditures for
insured persons to taxable payroll).5 Under the 2006 intermediate assumptions, the
trustees state that cost rates are projected to exceed income rates by a steadily and rapidly
growing margin. In 2006, the income rate is projected at 3.08 while the cost rate is
projected at 3.13, a negative gap of 0.05 percentage points. This gap is projected to widen
to 0.53% in 2015, 1.03% in 2020, and 8.17% in 2080. By 2080, tax income, will cover
less than one-third of projected expenditures. Looked at another way, the trustees
estimate the present value of unfunded HI obligations through 2080 at $11.3 trillion.
The trustees state that substantial changes would be required to maintain financial
soundness over the 75-year projection period. For example, income could be increased
by immediately increasing the payroll tax rate for employees and employers combined
from 2.90% to 6.41%. Alternatively, expenditures could be reduced by a corresponding
amount, but this would require an immediate decrease in benefits of 51%. These changes
could be implemented more gradually throughout the 75-year period, but they would
ultimately have to be more stringent.
3 Generally, total income to the trust fund has exceeded expenditures; however, this trend was
reversed from 1995 to 1997. In 1998, income again began exceeding expenditures. In addition,
expenditures actually declined from the previous year’s levels for each of three fiscal years
(FY1998, FY1999, and FY2000) and for two calendar years (1998 and 1999).
4 For a history of projections, see CRS Report RS20946, Medicare: History of Part A Trust Fund
Insolvency Projections, by Jennifer O’Sullivan.
5 The cost rate calculations exclude expenditures for the relatively small number of persons who
buy into Part A.

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Projection Factors. The trustees’ projections of income and outgo reflect several
demographic and economic variables. These include the consumer price index, fertility
rate, workforce size and wage increases, and life expectancy. They also include estimates
specific to the HI program including the use of inpatient hospital, skilled nursing facility,
and home health services. A key variable is the estimated growth rate in the cost of
services. Over the long-term, the trustees now assume that per-beneficiary expenditures
will decline from the recent rates of growth at 2-3% above the rate of per capita GDP
growth to a rate equal to GDP growth at the end of the period.
Beginning in 2011, the program will also begin to experience the impact of major
demographic changes. First, baby boomers (persons born between 1946 and 1964) begin
to turn age 65 and become eligible for Medicare. The baby boom population is likely to
live longer than previous generations. This will mean an increase in the number of “old”
beneficiaries (i.e., those 85 and over). The combination of these factors is estimated to
contribute to the increase in the size of the HI population from 42.7 million in 2006 to
47.2 million in 2011, and 78.3 million in 2030. Accompanying this significant increase
is a shift in the number of covered workers supporting each HI enrollee. In 2005, there
were nearly 3.9. This number is predicted to decrease to 2.4 in 2030 and 2.0 by 2080.
The combination of expenditure and demographic factors results in an increase in
the size of the HI program relative to other sectors of the economy. According to the
2006 report, if no changes are made in current Medicare law, the HI program’s cost is
expected to rise from 1.48% of GDP in 2006 to 2.77% in 2030, and 4.9% in 2080.
Congressional Budget Office (CBO) Estimates. The CBO March 2006 10-
year baseline estimates are more optimistic than those made by the trustees. On a year-to-
year basis over the FY2006-FY2015 period, CBO projects slightly higher amounts of total
income and lower amounts of total outlays beginning in FY2009. The impact is
cumulative. By FY2015, CBO’s end-of-year balance estimate is $93.6 billion more than
the trustees’ ($313.7 billion versus $220.1 billion).
Issues
Status of Program as a Whole. As noted, HI and SMI are financed very
differently. HI is funded by current workers through a payroll tax, while SMI is funded
by premiums from current beneficiaries and federal general revenues. Because of this
financing, the SMI trust fund’s income is projected to equal expenditures for all future
years. Historically, therefore, the major focus of concern was the HI fund. More recently
attention has also turned to the rapid increase in SMI costs, which have been growing
significantly faster than GDP. For a number of years, the trustees have been emphasizing
the importance of considering the program as a whole and the fact that the projected
increases are unsustainable over time. To further emphasize this point, in 2002 they
began issuing a single report covering the entire program.
The enactment of MMA made the consideration of the future of the total program
more critical. The legislation increased spending under Parts A, B, and C. In addition,
it added a new prescription drug benefit under Part D; spending for this new benefit is
recorded as a separate account in the SMI trust fund. The trustees note that these changes
have important implications. In 2005, total Medicare expenditures represented 2.73% of
GDP. In 2006 (the first year of the new drug benefit), total expenditures are expected to
be 3.21% of GDP. The percentage is expected to increase to 7.33% by 2035 and 10.99%

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by 2080. The trustees note that over the past 50 years, total federal tax receipts have
averaged 11% of GDP. They further note that projected Medicare costs will exceed those
for Social Security by 2027 and represent nearly twice the cost of Social Security by 2080.
There will also be a shift in the sources of Medicare income. In 2005, HI payroll
taxes accounted for 50% of total non-interest income to the program; general revenues
represented 35%; and beneficiary premiums accounted for 12%. By 2017 (just prior to
the projected exhaustion of the HI fund), payroll tax income will account for a smaller
portion (35%) while the portion paid for by general revenues will grow to 46% and the
portion paid by premiums will grow to 14%.
Required Response. There is concern that over time the economy will be unable
to support the increasing reliance on general revenues which in large measure comes from
taxes paid by the under-65 population. In response, MMA (Section 801) requires the
trustees report to include an expanded analysis of Medicare expenditures and revenues.
Specifically, a determination must be made as to whether general revenue financing will
exceed 45% of total Medicare outlays within the next seven years. General revenues
financing is defined as total Medicare outlays minus dedicated financing sources (i.e., HI
payroll taxes; income from taxation of Social Security benefits; state transfers for
prescription drug benefits; premiums paid under Parts A, B, and D; and any gifts received
by the trust funds). The trustees project that the 45% trigger will first be exceeded in
FY2012 which is within the required seven-year test period (i.e., 2006-2012). The 2006
report, therefore, makes a determination of “excess general revenue Medicare funding”.
(CBO projects the trigger will be reached in FY2011.)
MMA (Sections 802-804) further requires that if an excess general revenue funding
determination is made for two successive years, the President is required to submit a
legislative proposal to respond to the warning. The Congress is required to consider the
proposal on an expedited basis. However, passage of legislation within a specific time
frame is not required.
Prospects. Many persons have suggested that the problems facing Medicare are
more urgent than those facing Social Security. The issues confronting the program are
unlikely to get any easier. There are no simple solutions to address the problems raised
by the aging of the population, the rapid rise in health care costs, and the advances in
health care delivery and medical technology. Trustees and many other observers continue
to warn that the magnitude of the impending deficit and the expanding drain on the
federal budget need to be addressed. At the same time, observers express concern about
the impact of any solution on beneficiaries’ out-of-pocket costs.
At the time the 2006 trustees report was issued, the Administration stated that the
Congress could take an initial step to address the impending shortfall by passing some of
the Medicare proposals included in the President’s FY2007 budget. These proposals
included reductions in payment increases for certain provider categories.6 As of this
writing, it is uncertain whether Congress will consider Medicare legislation this year.
crsphpgw
6 See CRS Report RL33306, Medicare: FY2007 Budget Issues, by Hinda Chaikind.

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