Medicare: Financing the Part A Hospital Insurance Program

Medicare: Financing the Part A Hospital Insurance Program

98-457 EPW
May 5, 1998
CRS Report for Congress
Received through the CRS Web
Medicare: Financing the Part A
Hospital Insurance Program
Jennifer O’Sullivan
Specialist in Social Legislation
Education and Public Welfare Division
Summary
Medicare is the nationwide health insurance program for the aged and certain
disabled persons. Medicare consists of two distinct parts — Part A (Hospital Insurance
(HI)) and Part B (Supplementary Medical Insurance (SMI)). Part A is financed primarily
through payroll taxes levied on current workers and their employers. Income from these
taxes is credited to the HI trust fund. Part B 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. Each fund is overseen by a Board of Trustees
who make annual reports to Congress concerning their financial status. The 1998 HI
report, issued April 28, 1998, projected that, under its intermediate assumptions, the HI
trust fund would become insolvent in 2008. The SMI fund does not face exhaustion
because of the way it is financed; however, the trustees are concerned about the rapid
growth of Part B.
The trustees noted that to bring the HI fund into financial solvency over 25 years
(CY1998-2022), either outlays would have to be reduced by 18% or income increased
by 22% (or some combination thereof). The trustees do not give a dollar estimate for the
outlay reductions needed to maintain financial solvency over this 25-year period.
The 1998 estimates represent a significant improvement over the 1997 projections.
This reflects the impact of the Balanced Budget Act of 1997 (BBA 97) which provided
for reductions in Medicare program outlays and transferred some Part A spending to Part
B. BBA 97 also provided for the establishment of the National Bipartisan Commission
on the Future of Medicare. This Commission is charged with making recommendations
by March 1, 1999 concerning financing, benefit structure, and other program issues.
This product will be updated upon receipt of the 1999 trustees report.
HI 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
Congressional Research Service ˜ The Library of Congress

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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. As noted, 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. Additional inco
1
me to the trust fund 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
1993) 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, 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 the Department 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 Managing Trustee. The Administrator of the Health Care
Financing Administration (HCFA — 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 HCFA 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
estimate of economic and demographic trends; they are the projections most frequently
cited. The reports are generally issued in April; the 1998 report was issued April 28,
1998.
1998 HI Trustees Report — Key Findings
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. The OBRA 93 eliminated the indexing
provision entirely beginning in 1994.
2 Public members serve 4-year terms. The 1995 appointees are Stephen Kellison, Variable Life
Insurance Company of Houston, Texas; and Marilyn Moon, Urban Institute, Wash., D.C.

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1997 Operations. In 1997, total income to the trust fund was $130.2 billion.
Payroll taxes of workers and their employers accounted for $114.7 billion (88.1%),
premiums for $1.3 billion (1.0%), interest and government credits for $10.6 billion
(8.2%), and taxation of social security benefits for $3.6 billion (2.7%). The program paid
out $139.5 billion —$137.8 billion (98.8%) in benefits and $1.7 billion (1.2%) for
administrative expenses. The balance at the end of 1997 was $115.6 billion. In FY1997,
total income was $128.5 billion and total disbursements were $137.8 billion; the
distribution of income sources and expenditures were similar to those recorded for
CY1997. (See Table 1.)
Table 1. Operation of the Hospital Insurance Trust Fund, Fiscal and
Calendar Years 1970-2007
(in millions)
Year
Fiscal Year
Calendar Year
Income
Disburse-
Balance
Income
Disburse-
Balance
ments
at
ments
at
end
end
of
of
year
year
Historical data
1970
$5,614
$4,953
$2,677
$5,979
$5,281
$3,202
1975
12,568
10,612
9,870
12,980
11,581
10,517
1980
25,415
24,288
14,490
26,097
25,577
13,749
1985
50,933
48,654
21,277
51,397
48,414
20,499
1990
79,563
66,687
95,631
80,372
66,997
98,933
1995
114,847
114,883
129,520
115,027
117,604
130,267
1996
121,135
125,317
125,338
124,603
129,929
124,942
1997
128,501
137,789
116,050
130,154
139,452
115,643
Intermediate estimate
1998
136,102
141,568
110,584
135,882
143,595
107,930
1999
139,890
145,814
104,660
140,414
147,214
101,130
2000
144,652
148,460
100,852
145,028
149,460
96,698
2001
149,644
155,266
95,230
150,582
153,800
93,480
2002
155,476
155,400
95,306
156,545
160,623
89,402
2003
161,974
167,067
90,213
163,108
170,068
82,442
2004
168,690
177,525
81,378
170,207
180,853
71,796
2005
177,905
189,751
69,532
178,072
193,305
56,563
2006
185,024
207,608
46,948
185,953
206,664
35,852
2007
193,610
217,448
23,110
194,844
221,177
9,519

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Source: 1998 HI Trustees Report. Numbers may not add due to rounding.
Projected Insolvency Date. The 1998 Trustees report stated that the program failed
to meet both short-range and long-range tests of financial adequacy. Under the Trustee’s
1998 intermediate assumptions, the fund would become insolvent in 2008. This is
considerably better than the 2001 date projected in the 1997 report. The later insolvency
date reflects the substantial changes made by the BBA 97. The trustees estimate that BBA
97 is expected to substantially reduce the gap between income and assets over the next
5 years; however there would be a return to steadily increasing deficits beginning in 2003.
The projected date of the trust fund depletion has been reestimated several times
since the August 1997 enactment of BBA 97. At the time of enactment, the
Congressional Budget Office (CBO) estimated that the HI fund would be depleted in
FY2007. Shortly thereafter, in September 1997, the Trustees estimated that the fund
would be depleted in CY2010. In January 1998, CBO (using its January 1998 baseline)
estimated that the fund would become insolvent early in FY2010. The trustees report now
estimates 2008. While these reestimates reflect slight changes in economic assumptions,
they all show that the problems facing the HI fund have been only partially addressed.
Long-Range Financial Soundness. The 1998 HI Trustees report does not contain
actual dollar projections beyond the year 2007. Instead, the trustees measure long-range
financial soundness by comparing: (1) HI tax income (payroll tax contributions and
income from the taxation of social security benefits) as a percentage of taxable payroll
(“income rate”) with (2) HI incurred cost as a percentage of taxable payroll (“cost
rate”). The trustees view this measure as more meaningful since the value of the dollar
changes over time. There is already a gap between the cost rate and the income rate. In
1998, the estimated cost rate is 3.40% of taxable payroll, while the estimated income rate
is only 3.02%. The gap is thus 0.38% of taxable payroll in 1998. Since costs are rising
faster than payroll tax receipts, this deficit increases dramatically over the 75-year
projection period rising to 0.59 in 2010, 2.68% in 2030 and 4.39% by 2070.
The trustees state that to bring the program into actuarial balance for the first
25 years, would require either a reduction in outlays of 18% or an increase in total
income of 22% (or some combination thereof) throughout the 25-year period. If
changes were just made to the payroll tax, the rate would have to be immediately
increased from the current level of 1.45% to 1.81% for employees and employers, each;
the rate for the self-employed would go from the current 2.9 % to 3.62%.
Larger changes would be required to maintain financial soundness over the 75-year
projection period. To achieve long-term financial solvency, the payroll tax for both
employees and employers would have to be immediately increased by 1.05 percentage
points; the rate would thus go from 1.45% to 2.5%. This represents a substantial
improvement over the 1997 report when the trustees estimated that the rate would need
to be increased by 2.16 percentage points (for a total of 3.61%). The trustees estimate that
the BBA 97 changes reduced the long-range financial deficit by half.
What the Projections Reflect. Both the short-range and long-range projections
reflect the fact that HI costs (reflecting largely increases in medical costs) are rising faster
than HI income. Beginning in 2011, the program will begin to experience the impact of

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major demographic changes. First, baby boomers (persons born between 1946-1964)
begin turning age 65. Second, there is a shift in the number of covered workers
supporting each HI enrollee. In 1997, there were 3.9; in 2010 there will be 3.6; while in
2030 there will only be an estimated 2.3.
The combination of expenditure and demographic factors is also reflected in the
increasing size of the HI program relative to other sectors of the economy. According to
the 1998 report, the program’s cost is expected to rise from 1.7% of gross domestic
product (GDP) in 1997 to about 3.4% of GDP in 2070.
Related Issues
What Outlays are Needed to Keep Fund Solvent? The trustees do not give a
dollar estimate for the outlay reductions needed to maintain financial solvency over the
long-range projection periods. The 2008 projected insolvency date is one year beyond the
date that dollar projections are made. Similarly, CBO’s 2010 projected insolvency date
is beyond its 10-year projection period.
Previous Projections. Trustees have projected impending insolvency for the HI
trust fund beginning with the 1970 report. (See Table 2.) Since that time, Congress made
a number of changes in the program which had the effect of reducing expenditure growth.
Most of the changes were made as part of budget reconciliation legislation and have had
the effect of delaying the insolvency date. BBA 97 made the most significant changes.
In addition to constraining increases in payments for services, it also shifted a significant
portion of home health spending from HI (Part A) trust fund to the SMI (Part B) trust
fund. As a result the projected insolvency date has been delayed.
Table 2. Year in Which the Hospital Insurance Trust Fund Was Projected
to Become Insolvent in past Trustees’ Reports
Year of
Year of
Year of
trustees’
Year of
trustees’
Year of
trustees’
Year of
report
insolvency
report
insolvency
report
insolvency
1970
1972
1980
1994
1989
*
1971
1973
1981
1991
1990
2003
1972
1976
1982
1987
1991
2005
1973
none indicated
1983
1990
1992
2002
1974
none indicated
1984
1991
1993
1999
1975
late 1990s
1985
1998
1994
2001
1976
early 1990s
1986
1996
1995
2002
1977
late 1980s
1986 amended
1998
1996
2001
1978
1990
1987
2002
1997
2001
1979
1992
1988
2005
1998
2008
Source: Intermediate projections of various HI trustees’ reports, 1970-1998.
*Contained no long-range projections.

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What Happens When Fund Becomes Insolvent? Payments cannot be made from
the HI fund unless there are sufficient monies credited to it. Neither the Social Security
trust fund nor the Medicare trust fund has ever run out of money and there are no
provisions in the Social Security Act governing what would happen in such an event.
There is no authority in law for a general revenue funding of the shortfall. Of course, the
fund would continue to have payroll taxes credited to it though these would be insufficient
to pay all the pending claims. At least in the initial days or months, the Secretary could
elect to hold up payment of the bills until the fund was credited with sufficient payroll tax
receipts. Over the longer term this would not be a viable option.
Recommendations for Change. In 1997, the trustees recommended that in the short
term, the Congress enact, at the earliest possible date, legislation to reduce the growth in
HI costs and extend the date of exhaustion of the fund. They stated that enactment of
short-term measures would provide time to address the long-term issues. To facilitate this
process they recommended establishment of a national advisory group on Medicare
Reform. BBA 97 restrained the rate of HI growth through a combination of measures.
It limited the growth in annual payment updates for all providers and provided for the
establishment of prospective payment systems for skilled nursing facilities and home
health agencies. The legislation also transferred a significant portion of home health
spending to the Part B program; while this action does not reduce overall program
spending , it does reduce Part A costs and thus delays the program’s insolvency.
BBA 97 also provided for the establishment of a 17-member National Bipartisan
Commission on the Future of Medicare. This Commission is required to review the
program’s financial condition, identify problems that threaten its financial security and
analyze potential solutions. The Commission, which began its work in March 1998, is
required to submit a report by March 1, 1999. The report is to include only those detailed
recommendations, findings and conclusions that receive approval of at least 11
Commission members. During its review, the Commission is expected to examine a
number of recommendations which have been offered for addressing some of Medicare’s
problems. These include raising the program’s eligibility age, means testing, combining
Part A and Part B (perhaps in conjunction with a change in the benefit package), replacing
the program’s guarantee of a defined package of benefits with a defined per beneficiary
contribution utilizing the Federal Employees Health Benefits Plan (FEHBP) model, and
privatizing all or a portion of the program.
The trustees have recommended that reforms be developed and enacted as rapidly
as possible. They note that the sooner solutions are enacted, the more flexible and gradual
they can be. Further, the early introduction of further reforms increases the time for
affected parties to adjust their expectations.
Some observers have expressed concern that the Commission, faced with almost 10
years of projected solvency, may be unable to come to an agreement on major reform
recommendations. Some observers have also noted that the Commission’s required
reporting date, March 1999 is too early to allow review of the impact of major reform
changes included in BBA 97. The legislation significantly expanded the private plan
options available to beneficiaries for obtaining services. Under the new Medicare+Choice
program, beneficiaries will continue to be able to enroll in a health maintenance
organization; they will also be able to select from preferred provider organizations
(PPOs), provider-sponsored organizations (PSOs), and private fee-for-service plans.

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Further, under a demonstration program, a limited number of beneficiaries will be able
to establish medical savings accounts (MSAs) in conjunction with a high deductible plan.