Australia's Hidden Tax Increase - The Rebate Adjustment Factor

Each year Private Health Insurers apply to the Minister for Health to have premiums increased from 1 April. While these increases have been approved for many Health Insurers, several have been asked to re-submit their increase requests by the Minister this year, hopefully reducing the increases to many consumers.

The unfortunate consequence of this delay however is that all Health Insurers, even those who have an approved increase, are unable to notify their members of the price changes until this is resolved. Why? This is due to a little known mechanic in the legislation, the Rebate Adjustment Factor (RAF).

What is the Private Health Insurance Rebate?

The Private Health Insurance Rebate is a Federal Rebate designed to support and encourage the uptake of health insurance. Fundamentally a person would receive a % of their premium as a rebate, either through a reduced premium or as part of their annual tax return.

Prior to 2013, Private Health Insurance had a fixed 30% rebate for all Australians holding a policy. Fundamentally the Federal Government paid 30% of all Private Health Insurance premiums.

In 2012 the Gillard Government introduced changes to the Private Health Insurance Rebate. Whilst the government continued to provide rebates to support affordability of Private Health Insurance, the rebates became proportionate (means tested) to household income (individuals or family) and age. As a result those with a higher earning capacity and disposable income, as determined by means testing, received lower rebates to offset the cost of their health insurance.     

Under these changes the rebate was adjusted based on income (either individuals or family) and the age of the member.

To make it simple to understand, using an example, Samatha (Sam) is a single 30 year old person on an annual income of less than $88,000. Sam would still receive a 30% rebate on her Private Health Insurance from the Federal Government. As Sam's annual income increases, her rebate reduces with the following tiers:

• Base Tier - 30% rebate when Sam earns less than $88,000

• Tier 1 - 20% rebate for $88,0001 to $102,000

• Tier 2- 10% rebate for $102,001 to $136,000

• Tier 3 - 0% rebate when Sam earns over $136,001.

Combined Family earnings had higher annual income brackets and, over 65's are entitled to higher rebates at each tier. Full details can be found in the Private Health Insurance Ombudsman Insider issue for 2013.

While these changes relieved some pressure on the Federal Budget the obvious issue remained. As health care inflation outpaced the rest of the economy, the rebate would continue to consume more Federal spending each year. With a Federal Government under economic and political pressure, trying desperately to get back to a budget surplus, how do you solve for this? Introduce the Private Health Insurance Rebate Adjustment Factor of course.

What is the Private Health Insurance Rebate Adjustment Factor?

With a fixed rebate percentage for each income tier, the Federal Government rebate cost is tied to premium increases. As premiums increase so to does the government spend.  If the average premium round increase was 6% in a year, then the government would contribute 6% more in rebate costs than the  previous year as the 30% rebate is now being calculated on policies which are 6% more expensive.

To stop this, the Federal Government introduced the Rebate Adjustment Factor. In essence what the Rebate Adjustment Factor does is limits the amount the Rebate will increase by through linking it to the average change in CPI, not premium increases. This effectively caps how much the Federal Government spends on rebates, irrespective of how much it approves Private Health Insurers to increase premiums each April.

To make this easy to explain, if premiums were to be approved to go up by 6%, then under the old system the Federal costs for the rebates would increase by 6% as the 30% rebate is being applied to a policy which now costs 6% more.

With the RAF in place, if CPI was only increasing by 2%, then the RAF would "adjust" the rebate percentage down to not allow the increase in rebate spending for the Government to be more than 2%.

In essence, before the RAF Sam, from our previous example, would have gotten a 30% rebate. The next year, thanks to the RAF, Sam's rebate is no longer 30% but now 29.45% (not the actual number but shows how this works). Unfortunately this doesn't work the other way and, when CPI has exceeded the premium round increases over recent years, the Government has held the RAF at 1, effectively freezing the rebate percentages rather than adjusting them up.

The Hidden Tax

The recent change to the Stage 3 tax cuts in Australia have once again placed a spotlight on the distribution of wealth and created a discussion on how to protect middle and low income earners from increased cost of living.

Since the introduction of the Rebate Adjustment Factor in 2014, the amount contributed by the Federal Government has reduced from 30% in the Base Tier, to be 24.06% in July 2023. With the average cost per month for a Silver Hospital product around $182.15 that would mean that Sam would now be paying an extra $10.81 a month (or $129.84 per year) for health insurance solely due to the rebate being reduced through the use of the RAF. This is on top of the actual increase from the premium change that would have been approved by the Government during this time, further adding to the costs of Sam to take out or maintain Private Health Insurance.

In effect, each year the RAF is passing on more of the cost of Private Health Insurers to the consumer or, at best remains unchanged. This reduction in the rebate hits middle income earners the most. As means testing of the Rebate targets a larger rebate to the Base Tier, for individuals earning below $93,000 (or $186,000 combined as a family) and Tier 1, for individuals earning between $93,001 and $108,000, the decreased rebate from the Government hurts more Australians in the middle income bracket.

Added to this, more Australians now find themselves in these categories. Back in 2014 the average salary in Australia was around $78,000 with the Medicare Surcharge Levy (MSL) starting at $88,000. Fast forward to 2024 and we now have the average Australian salary set to be above $100,000 a year, well above the MSL of $93,000 currently set by the Government in 2023.

All this combined means more Australians than ever need to hold Private Health Insurance, or face paying the MSL, all while the Federal Government continues to reduce how much it contributes towards the Private Health Insurance Rebate.

With policies like this in place, consumers could be forgiven for losing faith in both sides of politics. The Australian Government has effectively created a silent mechanism to continue to reduce how much it funds Australians with Private Health Insurance, while at the same time forcing more middle income Australians to participate in the system, or face paying the Medicare Surcharge Levy.