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Health Care Market Imperfections

Although most individuals do not need acute medical services frequently, when care is needed, the cost can be burdensome unless services are paid for by private insurance or another third-party payer such as the government. Provision of affordable medical care is important to society at large because basic medical services, such as vaccinations, protect society through the reduction in the incidence, severity, or spread of certain diseases. The financial risk to an individual or to society at large for provision of medical services is a risk that is managed in a variety of ways worldwide. The health care delivery and financing system in a given country reflects the cultural, economic, and political character of that nation and points up the difficult choices made in allocating scarce health resources across the population. For example, many industrialized countries place great value on equal access to health care by individuals, even if it means that some must wait for or be denied certain specialized medical services. Most provide basic universal coverage to all, although certain high-technology procedures and treatments may not be readily available. To those who are well insured, the United States provides nearly instantaneous access to state-of-the-art technology, but those with no medical insurance find expensive treatment less accessible. The U.S. culture generally places relatively less value on social equity (equal access) and relatively greater value on private market solutions to financing health care.

The level of health care services provided within a nation corresponds to the stage of economic development within the country. Typically, developed market economy countries or industrialized countries with relatively high per capita income have modern health care services available to most of the population. A country may finance services for certain portions of the population differently from the way it finances services for other portions. In 1996, the average percentage of gross domestic product (GDP) devoted to health care among 29 OECD countries was about 7.8 percent.

The economics market imperfections

In a perfectly competitive market, buyers decide what to purchase based on full information about the quality and price of goods and services. Buyers, not sellers, determine the demand for goods and services, and demand for normal goods or services decreases with an increase in price, other things being equal. Price rationing occurs because buyers base purchasing decisions on the relative quality and price of the good as well as on their willingness and ability to pay. In a perfectly competitive market, no barriers to entry exist. In the real world, of course, the health care market has imperfections, and these imperfections help shape health care financing. Services may be financed (1) out of general tax revenues, (2) under a social insurance model, (3) through a voluntary private insurance system, or (4) a combination of these.

Health care market imperfections

The comparison of the health care market with a perfectly competitive market provides insight into how cost and quality problems arise, and facilitates identifying potential inefficiencies that can lead to service quality or pricing problems that negatively affect patients, providers, and insurers within the health care system. Examination of market imperfections also helps explain the difficulty of reforming health care financing and delivery systems.

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Trusts for Minor Children

Many persons make gifts from time to time to their minor children to accumulate a substantial fund for education or other use when they are old enough to handle the responsibility. A trust can be useful in such situations. The annual exclusion is available only for gifts of present interest. Unless the beneficiary has the right to the present possession and enjoyment of the property, the annual exclusion will not be allowed. Thus, the annual exclusion would not be available for a gift to a minor in trust if the funds were not presently available to that minor.

One way to avoid this problem is to establish the trust for minors known as a Section 2503(c) trust. By meeting the requirements for this trust, a gift can be made to minors without the loss of the $10,000 annual gift tax exclusion. To qualify for the annual exclusion, the trust must provide that:
1. the trustee has the discretion to distribute both principal and income.
2. The beneficiaries are entitled to receive the principal of the trust when they reach age 21.
3. Should any of the beneficiaries die before reaching maturity, his or her share of the assets would pass through his or her estate?

By meeting these requirements, income can be accumulated until the minor reaches age 21, and the $10,000 annual exclusion per beneficiary can be used. This type of trust is a popular device. Grandparents who wish to establish an educational fund for their grandchildren often use it. A provision could be included in the trust allowing it to continue beyond age 21, provided the beneficiaries agree to this continuation. A generation-skipping transfer tax could be imposed in such situations if the amounts involved were substantial.

With a Section 2503(c) trust, gifts of life insurance policies in trust for minors should qualify as those of a present interest if (1) any policy value may be used for their benefit, (2) policy ownership vests at age 21, and (3) the policy proceeds or value would be included in the child’s gross estate were he or she to die prior to age 21. Any premiums paid by the grantor should also qualify as present interest gifts. Gifts also can be made to minors under the Uniform Gifts to Minors Act or under the more recent Uniform Transfers to Minors Act. Under these acts, an adult is named custodian for the minor and manages the property through a custodian account. The property is distributed to the minor at age 18 or 21, depending on state law.

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Life Insurance Policy is an excellent type of Property to Gift

A life insurance policy often is an excellent type of property to gift. The value of the gift is the replacement cost. Were the policy included in the estate at the time of death, the estate tax value would be the amount of the death proceeds. If the face amount of the policy were $100,000 and the value for gift purposes were no more than $10,000, the policy could be transferred by gift within the annual exclusion, and there would be no gift tax consequences. Of course, the donor must live for more than three years from the date of the gift to avoid inclusion of the policy proceeds in his or her estate under IRC Section 2035.

Greatly appreciated property may make an appropriate gift. If sale of the property is anticipated, a gift to a person who is in a lower income tax bracket can make good financial sense. The donee would then sell the property and pay less tax on the gain. The gift tax consequences should be compared with the income (or capital gains) tax consequences to determine whether taxes in the overall transactions are lessened. If the property will be sold after death, it often should be retained rather than given away. This is because appreciated property receives a stepped-up tax basis if included in the estate, whereas property that is given away carries over the donor’s tax basis. If property is given away and the donee sells it, income tax must be paid on any difference between the amount received on sale and the donor’s tax basis. If the property is retained and its value included in the estate, an estate tax must be paid on the fair market value of the property. The value of the property included in the gross estate, however, becomes the new basis to be used by the beneficiaries or the estate for income or capital gains tax purposes.

Thus, suppose Larry owns only one piece of property. He paid $10,000 for it, and it is now worth $200,000. If he gives the property away and the donee sells it, the donee must pay income or capital gains tax on the $190,000 gain. If he does not give away the property but retains it until his death, naming the person to whom he would have given it during lifetime as the beneficiary, the value of the property ($200,000) will be included in his estate for estate tax purposes. The $200,000 value becomes the new tax basis for the beneficiary. If the property is then sold for its $200,000 fair market value, there is no gain, and no income or capital gains tax has to be paid by the beneficiary. As can be seen, it might be better for tax purposes to keep property rather than to give it away. One should determine in each case which approach renders the least taxes. The additional costs associated with probate should not be overlooked. These costs might offset any tax savings. There are other potential disadvantages to making taxable gifts in excess of the equivalent exemption amount. One disadvantage, of course, is the loss of control. Moreover, the transfer tax is paid earlier than would otherwise be the case if the assets were held until death.

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