As the country awaited the impending debt ceiling deadline of August 2, the Senate passed and the President signed into law S. 365, known as the Budget Control Act of 2011 (Budget Control Act) in just the nick of time. Baker Hostetler closely followed the debt ceiling/deficit reduction discussions for clients and is actively evaluating its anticipated impact. While a multitude of programs and issues will be considered in future fiscal discussions, spending reductions and further reforms of Medicare, Medicaid and other government healthcare programs are squarely on the table as a result of the Budget Control Act. Thus, the process put in place by the Act merits closer inspection, and developments in the coming weeks should be closely monitored.

In summary, the law allows for staggered, conditional increases in the debt limit of up to $2.1 - $2.4 trillion through a series of actions to be taken by the end of this year to reduce projected budget deficits by an even greater amount. Specifically, the law allowed the President to increase the debt ceiling limit immediately by $400 billion and subsequently by another $500 billion, subject to largely symbolic votes on resolutions of disapproval in both houses of Congress -- symbolic because the resolution is subject to presidential veto. The law then provides authority to raise the debt ceiling by another $1.2 - $1.5 trillion pending enactment of deficit reduction legislation and additional disapproval resolution votes. The increases in the debt ceiling are estimated to be sufficient into 2013.

The Budget Control Act implements close to $1 trillion in deficit reduction through caps on discretionary spending over the next decade and certain "program integrity initiatives," (i.e., measures to clamp down on fraud, waste, etc.) and calls for Congress to enact an additional $1.2 - $1.5 trillion in deficit reduction by year-end in order to avoid automatic broad-based spending cuts of up to $1.2 trillion starting in 2013 via a fail-safe trigger known as "sequestration."

Sequestration

Sequestration originally was used in the Balanced Budget and Emergency Deficit Control Act of 1985 (Title II of P.L. 99-177) and has been enacted subsequently in the various pay-as-you-go (PAYGO) laws adopted by both the House and the Senate in recent years. The Budget Control Act references and invokes the PAYGO Act of 2010 (PAYGO 2010) and ties sequestration to specific sections within PAYGO 2010. Sequestration would require that 50 percent of the automatic spending cuts come from defense spending and 50 percent of the remaining spending cuts come from nondefense function spending, both as defined in PAYGO 2010.

Based on the PAYGO rules, nondefense cuts would come from both discretionary and mandatory (entitlement) programs. These would include cuts to Medicare providers (limited to two percent, down from the four percent required in the PAYGO sequestration provisions) and Medicare managed care plans. Other mandatory programs slated for cuts include farm price supports. Excluded from sequestration are, among others, Social Security, Medicaid, CHIP, child nutrition, Supplemental Security Income (SSI), refundable tax credits such as the Earned Income Tax Credit, veterans benefits and federal retirement. The listed exceptions are found in Sections 255 and 256 of the Balanced Budget and Emergency Control Act of 1985, as amended by PAYGO 2010. These are referenced in the Budget Control Act, with limited amendments relating to the two percent cap on Medicare provider rate cuts. Thus, the threatened automatic cuts are not quite "across-the-board."

Joint Committee

The Budget Control Act delegates the required deficit reduction obligation to a joint committee of Congress -- dubbed a super committee. This Joint Committee on Deficit Reduction (Joint Committee) shall consist of 12 members -- three from each party in each house of Congress, appointed by leadership -- and must hold its first meeting by September 16.

Leader Reid, Speaker Boehner, House Minority Leader Pelosi and Senate Minority Leader McConnell all have named the selected legislators for the Joint Committee: Senators John Kerry (D-Mass.), Patty Murray (D-Wash.), Max Baucus (D-Mont.), Rob Portman (R-Ohio), Pat Toomey (R-Pa.) and Jon Kyl (R-Ariz.), and Representatives James Clyburn (D-S.C.), Xavier Becerra (D-Calif.), Chris Van Hollen (D-Md.), Fred Upton (R-Mich.), Jeb Hensarling (R-Tex.) and Dave Camp (R-Mich.). Congressman Hensarling and Senator Murray will co-chair the super committee.

This committee has significant authority under the Budget Control Act, with no jurisdictional limits on programs it can cut or sources of revenues it can raise. Further, the legislation developed will have expedited status, cannot be amended and cannot be filibustered. The Joint Committee must develop, draft and vote on proposed legislation that achieves at least $1.2 trillion in deficit reduction by November 23 so that the legislation may be fully considered and passed by December 23. The Joint Committee passes its recommendation on to Congress by a simple majority vote of the committee members.

Failure to attain the required $1.2 trillion minimum in deficit reduction (as scored by the Congressional Budget Office (CBO)) by the deadline will trigger "sequestration" or broad-based spending cuts, spread out evenly over 2013 - 2021. If the Joint Committee's recommendations achieve at least $1.2 trillion and are enacted by Congress by the deadline, the debt ceiling will be raised in kind by $1.2 trillion. However, if the Joint Committee fails to produce a bill, the bill is not enacted or it produces less than a scorable $1.2 trillion in deficit reduction, the debt limit increase will only be $1.2 trillion, again subject to a resolution of disapproval vote.

The compromise in the Act also included agreement that a vote will occur in both houses of Congress on a balanced budget amendment by December 31.

Implications for Healthcare Providers

Prior to enactment of the Budget Control Act, significant cuts and reforms impacting the healthcare industry were considered and drew many to Washington to lobby their cause. With an aging population accessing Medicare benefits, increases in low-income individuals accessing Medicaid and unemployment and poor economic performance, our governmental healthcare programs are more financially stressed than at any time in our history. It is a widely held belief among policy analysts and legislators that sincere reform must occur in both the Medicare and Medicaid programs as a serious aspect of any deficit reduction legislation. All of this also must occur in light of the implementation of the Affordable Care Act and the anticipated influx of additional Medicaid beneficiaries in 2014.

It is against this backdrop that the Joint Committee will be considering multiple changes to our federal expenditures and, in contrast to some reporting, the Joint Committee has no limits on what it can consider with regard to deficit reduction. In fact, it is likely that with the short time frame allotted to the Joint Committee, any and all prior deficit reduction options will be on the table. This will include important health policy options, including revisions to the provider tax/upper payment limit provisions in Medicaid or the use of a blended federal medical assistance percentage as a means to reduce the federal dollars flowing to states to help administer its Medicaid programs. Additionally, changes to graduate medical education formulas or the elimination altogether of such supplemental payments to providers may be seriously considered.

If former proposals were scored by CBO for savings, we should consider them "on the table" for purposes of achieving the requisite and timely deficit reduction. Additionally, important programs in the Affordable Care Act that were under attack also will be vulnerable, such as the maintenance of effort requirements or important demonstration pilots and projects that might achieve the delivery system reform and transformation so central to healthcare reform.

Additionally, we anticipate that the Joint Committee will be considering changes to the sustainable growth rate (SGR) formula. The scheduled 29.5 percent cut to Medicare physician payments will need to be considered as the deadline of January 1, 2012, looms near. In many of the proposals that already have been considered there is a desire to permanently fix the ever-present physician fee schedule headache and obtain a permanent end to the vexing SGR formula requiring automatic provider rate cuts, but the cost of doing so (approximately $300 billion) will require cuts elsewhere.

Consequently, while the healthcare industry dodged a fast-moving bullet, significant changes most assuredly lie ahead as the country and the Joint Committee come to terms with some extremely difficult decisions that will impact our country.

Impact on Tax Policy

While the Joint Committee may technically identify revenue-raising measures, many Republicans, including some on the Joint Committee, have indicated they will resist any revenue raisers. Some Republicans on the Joint Committee have indicated they might be open to limited revenue raisers such as elimination of certain tax preferences or increases in user fees. While Democrats have indicated support for a wide variety of revenue raisers, it is necessary for those revenue raisers to gain some Republican support to be included in the Joint Committee proposal. To the extent that revenue raisers are included, that might be done in a revenue neutral manner (i.e., to offset other revenue reductions). Revenue raisers more likely to be included would be those that have enjoyed some bipartisan support or political popularity. Some such recent proposals supported by the Administration and many members of Congress include:

  • Eliminating oil and gas preferences (e.g., domestic manufacturing deduction, percentage depletion and expensing of intangible drilling costs);
  • Taxing carried interest as ordinary income;
  • Eliminating ethanol subsidies; and
  • Increasing user fees for certain government services (e.g., airline ticket taxes, food and drug inspection fees or certain banking industry fees).

In the past few years, significant attention has been paid to the possibility of fundamental tax reform. Given the short time frame in which the Joint Committee is operating, it is much less likely that more fundamental tax reform is possible. Recent attempts at more comprehensive tax reform include the Simpson-Bowles Commission proposal and the proposals put forward by a small group of bipartisan Senators (the so-called "Gang of Six"). Some of the more significant reform ideas to come out of these plans include migrating toward a territorial system of taxation, implementing some type of value-added tax, reducing the statutory corporate tax rate and eliminating tax preferences (such as narrowly targeted deductions and credits). In addition, some members of Congress and the Administration have indicated support for reducing or eliminating deferral of taxes on income earned abroad (which would be the opposite of moving toward a territorial system). It is unclear which of these ideas would be included in fundamental tax reform, but all are likely to be debated in the coming months even if unlikely to be included in any Joint Committee proposal.