Over the past few weeks, policymakers have suddenly started sounding very worried about Medicare. President Joe Biden’s budget proposal being released Thursday includes a plan to “extend Medicare for another generation.” At the State of the Union, Biden got members of Congress from both parties to stand up and cheer for avoiding Medicare cuts. One common phrase is repeating in headline after headline: Medicare is in a “funding crisis.”
The implication of Biden’s rhetoric is that Medicare faces impending extinction: Without his plan, which is primarily a set of new tax increases, the program may not be there for that next generation.
The reality is a little more complicated. It is true that, as of right now, Medicare is projected to be unable to pay all of its bills as early as 2028. Without congressional action, a stronger economy, or more likely, both, the government could end up without enough money to cover everything it promises enrollees within five years.
That would be unprecedented and would likely provoke a political crisis. But it is not quite the same thing as Medicare going bankrupt and ceasing to exist entirely. Alarm bells have sounded about Medicare’s trust fund for decades, with the exact date of when it would run out of money moving forward and back. But, eventually, Congress will need to act.
To understand the program’s financial situation, start with how Medicare is structured. Medicare is broken down into several different parts. Part A covers hospital care, stays at skilled-nursing facilities, and home health care. Part B pays for outpatient physician care. Part D is the prescription drug benefit, which is administered by private insurance plans. Most Medicare beneficiaries — anyone over age 65 — get their insurance directly through the government. But almost half are now insured through Medicare Advantage (also known as Part C) in which patients sign up for a private plan, paid for largely by the federal government, which provides a comprehensive suite of benefits. (Those plans are also more expensive to the government and their growing enrollment is contributing to the solvency problem, which we’ll return to.)
Different parts of Medicare are funded in different ways, but when we’re talking about a Medicare funding crisis, we’re talking about the benefits paid by Part A: hospital services. Hospital bills for Medicare enrollees are funded almost entirely through the program’s dedicated payroll taxes. If those benefits cost more than the government receives in Medicare payroll taxes in a given year, as can happen in an economic downturn, the difference comes out of a trust fund earmarked specifically for Part A. The Medicare trustees, who issue annual reports on the program’s finances, project that Medicare spending will begin outpacing revenue again in 2024, requiring the program to dip into the trust fund. The trust fund is projected to be fully depleted by 2028 without further policy changes.
In that scenario, the continually incoming revenue from payroll taxes is still projected to cover about 90 percent of Part A’s costs — but not all of them, and without the trust fund, there would be a shortfall. Nobody is sure what happens then, because it’s never been allowed to happen before. Presumably, the health care industry would apply enormous pressure on lawmakers to do something and make sure they get paid for all the services they provide. Any true solvency crisis would likely be short-lived as a result, though it’s still a situation nobody wants to see.
Medicare has crept close to the brink before. The last time the trust fund was predicted to be insolvent within six years was during the mid-1990s, according to the Kaiser Family Foundation. Congress passed a number of budget bills, most notably the Balanced Budget Act of 1997, which made changes to hospital payments to alleviate the issue. The improving economy likely helped as well, because more people with jobs and growing wages meant more payroll tax revenue. By 2000, the insolvency cliff had been pushed off to 2025. (Then, throughout the 2000s, the date began to slip closer again; the Affordable Care Act extended the life of the trust fund with tax increases, which Biden now wants to add to, and spending cuts.)
If the trust fund for Part A ran out of money, it would be unprecedented. “We’ve never been there. In each instance, Congress has stepped up to ensure the trust fund would not be insolvent,” said Tricia Neuman, executive director of the Kaiser Family Foundation’s program on Medicare policy. “We actually don’t know what decisions would be made.”
Part B and Part D, however, are not facing the same financial crunch. They are funded primarily by general tax revenue, instead of an earmarked payroll tax, and premiums paid by beneficiaries. Their trust funds are projected to be sufficient for the foreseeable future.
These projections are unpredictable. In 2021, the trustees projected insolvency would be reached in 2026; the next year, they added two years to get the current date of 2028 (and a new report and updated projection is coming in the next month or so). The strong economy and lower overall health care use during the pandemic have provided a slight reprieve.
But the structural challenges to Medicare Part A’s solvency remain — and that is why, sooner or later, Congress will need to act. That means either more revenue, as Biden wants, or less spending, either through across-the-board cuts or payment reforms meant to deliver care at a lower cost.
Why Medicare’s finances need help
When Medicare payroll taxes are taken out of your paycheck, that money goes to cover the cost of health care for people enrolled in Medicare right now. (If you’re not of Medicare age yet, future workers will fund your health care.) The health of Medicare Part A’s finances is dictated chiefly by three variables: the economy (which affects how much tax revenue is flowing in), the number of people enrolled in the program and their medical needs, and the ever-changing cost of health care services.
At least two of those trends are pointing in the wrong direction, according to the most recent projections from the Medicare trustees.
The baby boomer generation is getting older and that means more people are becoming eligible for Medicare. Currently, about 64 million people are enrolled in the program, and that number is expected to exceed 80 million by the end of the decade.
Accordingly, Medicare spending is expected to increase from $931 billion in 2022 to $1.7 trillion in the year 2030. The growth is driven both by an increase in enrollees and expected growth in the price of health care services.
Any unforeseen acceleration of the cost of health care, driven by expensive new treatments or congressional actions to increase payments to hospitals, could bring Medicare Part A’s insolvency cliff even closer. A strong economy, on the other hand, would help to bring in more revenue and offset some of the pressure from the trends increasing spending. But it may not be enough, based on the trustees’ projections, to overcome the factors driving spending up.
Another important trend in Medicare is adding to the financial crunch: the growth of Medicare Advantage. Those plans are more expensive to the federal government than traditional Medicare and enrollment has almost doubled over the last decade, from about 25 percent to nearly 50 percent. Medicare Advantage plans receive funding based on the type of service provided to their customer, which means money for hospital care comes from Part A. Annual Part A payments to Medicare Advantage plans is expected to increase from about $176 billion in 2022 to $336 billion by 2030.
Separate from the new budget proposal, the White House is attempting to rein in the payments to Medicare Advantage plans (from an 8 percent increase last year to a proposed 1 percent increase in the coming year). Republicans and the health insurance industry have slammed that proposal as a cut to Medicare, an example of how it can be politically difficult to get Medicare spending under control.
Biden’s budget will likely jumpstart a new debate about Medicare solvency. But it’s only a beginning.
Congress has passed provisions to reduce Medicare spending in recent years, such as the Inflation Reduction Act’s plan for the program to negotiate some prescription drug prices. But lawmakers have also acted to avert any cuts to how much the program pays doctors, hospitals, and other medical providers.
Both tax increases and any spending reductions can be a tough sell in Congress. So can increasing the eligibility age, an oft-floated idea that still amounts to cutting benefits for seniors.
Biden is going with tax hikes in his budget plan. But it’s not yet clear if lawmakers are really willing to act on his or any proposal to improve Medicare’s finances.
They still have five years before the Part A trust fund will run out, according to the latest available projections. The Medicare trustees urged Congress to act soon to avert the crisis, in order to minimize the risks for patients and providers. But unfortunately, lawmakers have a habit of waiting until the last minute to act.