Question

All employees of United Company are covered by a group hospitalization insurance plan, but the employees must pay the premiums ($8,000 for each employee). None of the employees has sufficient medical expenses to deduct the premiums. Instead of giving raises next year, United is considering paying the employee's hospitalization insurance premiums. If the change is made, the employee's after-tax and insurance pay will:

A. Decrease by the same amount for all employees.
B. Increase more for the lower-paid employees (10% and 12% marginal tax bracket).
C. Increase more for the higher income (35% marginal tax bracket) employees.
D. Increase by the same amount for all employees.
E. None of these.

Answer 1

If United Company pays the hospitalization insurance premiums, lower-paid employees' after-tax and insurance pay will increase more than that of higher-income employees due to their lower marginal tax rates.

Step-by-step explanation:

If United Company decides to pay the employee's hospitalization insurance premiums, the impact on the employee's after-tax and insurance pay will differ based on their marginal tax bracket. For lower-paid employees who are in the 10% and 12% marginal tax brackets, their after-tax income would increase more compared to the higher-income employees in the 35% marginal tax bracket. This is because the premiums paid by the employer would not be taxable income for the employee, effectively becoming a tax-free benefit. For higher-income employees, the benefit would still be tax-free, but because their marginal tax rates are higher, each dollar of premium paid by the employer saves them more in taxes compared to lower-paid employees.

Therefore, the correct answer is: B. Increase more for the lower-paid employees (10% and 12% marginal tax bracket).