Candice Horbacz
The United States federal government finds itself on an alarming fiscal trajectory, with its financial health increasingly undermined by a persistent pattern of burgeoning healthcare subsidies and expansive tax preferences. Projections from the Congressional Budget Office (CBO) paint a stark picture: under current law, deficits are set to surge from 5.8 percent of Gross Domestic Product (GDP) in 2026 to 6.7 percent by 2036, culminating in an unprecedented 9.1 percent by 2056. This represents the most prolonged period of elevated deficits in the nation’s history. Concurrently, public debt is expected to breach 100 percent of GDP in 2026, reaching a new high of 106 percent within the next four years, and continuing its ascent to 120 percent by 2036 and a staggering 175 percent by 2056.
This perilous imbalance is fundamentally driven by a rapid escalation in federal spending that consistently outpaces economic growth and tax revenues. The CBO’s latest forecast indicates that overall government spending will rise from 23.3 percent of GDP in 2026 to 24.4 percent in 2036, and further to 27.9 percent by 2056. This stands in stark contrast to the average spending level of 21.1 percent observed over the past five decades. Meanwhile, federal revenues are projected to increase at a much slower pace, from 17.5 percent of GDP in 2026 to 17.8 percent in 2036, and 18.8 percent in 2056. The chasm between these figures underscores the urgency of fiscal reform, with the healthcare sector emerging as the single largest and fastest-growing contributor to this unsustainable trend.
The Dominance of Healthcare in Federal Expenditures
Federal healthcare spending has cemented its position as the largest category of government expenditure, dwarfing allocations for national defense and other critical sectors. Data from the Office of Management and Budget (OMB) reveals that in 2025, the federal government allocated an astounding $2.18 trillion to health care. This figure alone accounted for 31.2 percent of the entire federal budget and 7.2 percent of GDP. When considering non-interest federal spending, healthcare programs, including Medicare and Medicaid, consumed more than one-third (36.2 percent) of the budget, representing over twice the size of the defense budget, which stood at $855 billion in 2025 (excluding the Defense Health Program, or 12.2 percent of the federal budget).
To put this into perspective, healthcare spending far exceeded other sector-specific outlays: agriculture and food assistance received $197 billion (2.8 percent of the budget), transportation $145 billion (2.1 percent), education and training $88 billion (1.3 percent), housing $78 billion (1.1 percent), and energy $21 billion (0.3 percent). This demonstrates a significant reorientation of federal priorities and resources towards the healthcare sector over time.
A Historical Perspective on Soaring Healthcare Costs
The growth of federal healthcare spending over the last several decades has been nothing short of staggering, tracing its roots back to the mid-20th century. Prior to the establishment of Medicare and Medicaid in the 1960s, federal spending on health programs in 1962 amounted to a modest $2.3 billion, representing about 2.1 percent of the budget and a mere 0.4 percent of GDP. At that time, total national healthcare spending from all sources—federal, state, local governments, and private entities—was 5.4 percent of GDP, with the federal government’s share being just 7.2 percent.
The advent of Medicare and Medicaid marked a pivotal shift, dramatically expanding benefits and eligibility for millions of Americans. Since then, overall national healthcare spending has surged to 18.4 percent of GDP as of 2025, and the federal government’s share of that spending has ballooned to 39.3 percent. This exponential growth is attributable not only to program expansions but also to an aging population requiring more medical care, increased income levels enabling greater access to services, and persistent rises in healthcare costs driven by technological advancements, administrative complexities, and a lack of market transparency.
Key Drivers: Medicare, Medicaid, and ACA Subsidies
Within the vast landscape of federal healthcare expenditures, several programs stand out as primary drivers of cost. As of 2025, Medicare, the federal health insurance program for seniors and certain disabled individuals, incurred spending of over $996 billion (net of premiums), equating to nearly 3.3 percent of GDP. Medicaid, the joint federal and state program providing health coverage to low-income individuals, surpassed $668 billion, or 2.2 percent of GDP.
Beyond these two giants, veterans’ medical care represents another significant federal outlay, costing over $148 billion (approximately 0.5 percent of GDP). Health insurance assistance, predominantly in the form of Affordable Care Act (ACA) premium tax credits (PTCs), added another $129 billion to the fiscal burden in 2025, representing about 0.4 percent of GDP. A notable development in recent years has been the doubling of federal health insurance assistance costs since the pandemic, rising from $52 billion in 2020 to $129 billion in 2025. This surge followed enhancements to PTCs enacted under the American Rescue Plan Act of 2021, which were subsequently extended through the end of 2025 by the Inflation Reduction Act of 2022. These enhancements lowered the maximum premium contributions for eligible enrollees and broadened eligibility to individuals earning more than 400 percent of the poverty level, significantly increasing federal outlays.
Other health programs, encompassing the Defense Health Program and various smaller initiatives, accounted for $242 billion (0.8 percent of GDP) in 2025. The Defense Health Program itself has seen steady growth, from $53 billion in 2020 to $61 billion in 2025, while other miscellaneous programs experienced a temporary surge during the pandemic, reaching $238 billion in 2020 before receding to $181 billion in 2025.
The Compounding Effect of Healthcare Tax Preferences
The fiscal burden of federal healthcare involvement extends beyond direct spending, significantly compounded by a complex web of tax preferences embedded within the federal tax code. These "tax expenditures" represent a substantial reduction in federal income and payroll tax revenues due to specific credits, deductions, exclusions, and other special carveouts designed to encourage certain behaviors or provide relief. According to the US Treasury Department and the Joint Committee on Taxation, the health sector benefits disproportionately from these preferences, making it the most heavily tax-favored sector in the economy.
The largest healthcare tax preference by far is the exclusion for employer-sponsored health insurance (ESI) premiums. In 2025, this exclusion alone reduced federal income tax revenue by an estimated $279 billion and federal payroll tax revenue by $171 billion. This provision effectively exempts from taxation both the employer’s contribution to health insurance premiums and the employee’s portion if paid through a pre-tax arrangement. While intended to promote health coverage, the ESI exclusion has significant economic consequences, distorting both the labor market and the healthcare market. It incentivizes employers to divert compensation towards tax-free ESI benefits rather than taxable cash wages, and it favors costly, employment-tied insurance coverage over more portable options or direct payments to healthcare providers.
Beyond ESI, other major health tax preferences include health savings accounts (HSAs), the deductibility of medical expenses, the deductibility of charitable contributions to health institutions, and the deductibility of self-employed medical insurance premiums. Together, these accounted for approximately $50 billion in tax revenue loss in 2025. Furthermore, the tax exemption granted to hospitals, which is not fully captured in standard Treasury estimates, added an estimated $12 billion in fiscal cost in 2021. In total, the Treasury’s estimate for all health sector tax expenditures reached $512 billion in 2025, roughly 9 percent of all US healthcare spending from all sources.
Healthcare’s Disproportionate Share of Tax Expenditures
The sheer scale of healthcare tax preferences is striking when compared to other sectors. The $512 billion allocated to the health sector in 2025 represented about 26 percent of all tax expenditures, which totaled approximately $2 trillion. For comparison, tax expenditures for housing amounted to $309 billion (16 percent), education and training $111 billion (6 percent), and energy $64 billion (3 percent).
However, it’s crucial to differentiate between tax expenditures that function as subsidies and those that move the tax code towards greater neutrality. A significant portion (about 40 percent by dollar amount) of the Treasury’s total tax expenditures comprises provisions that aim for neutrality regarding saving and consumption decisions, such as individual retirement accounts and expensing for capital investment. These provisions reduce the "double taxation" inherent in an income tax system. When these neutral provisions are removed, the remaining "non-neutral" tax expenditures totaled $1.2 trillion in 2025. Of this non-neutral amount, the health sector commanded an astonishing $512 billion, or 43 percent, indicating its highly favored status. In contrast, non-neutral tax expenditures for housing totaled $154 billion (13 percent), education and training $111 billion (9 percent), and energy $63 billion (5 percent).
Historically, while the fiscal cost of federal healthcare tax preferences has grown, its rate has been slower than direct federal healthcare spending. As a share of GDP, these preferences increased from 1.4 percent in 1994 (the earliest available data) to 1.7 percent in 2025, with ESI accounting for approximately 90 percent of this cost. In the same period, other non-neutral tax expenditures collectively shrank from about 3.3 percent of GDP to 2.3 percent, partly due to reforms like the 2017 Tax Cuts and Jobs Act. Consequently, healthcare’s share of all non-neutral tax expenditures has expanded from 29 percent in 1994 to 43 percent in 2025, underscoring its growing fiscal footprint.
Combined Fiscal Impact and Future Projections
When combining federal healthcare spending with tax preferences, the total fiscal cost of federal healthcare subsidies and carveouts reached nearly $2.7 trillion in 2025, representing 8.9 percent of GDP. This substantial sum accounted for 48.5 percent of all US healthcare spending from all sources, indicating the federal government’s increasingly dominant role in financing the nation’s health system.
Looking ahead, this trend of rising federal involvement in healthcare is projected to continue under current law. While recent hypothetical legislative adjustments, such as the "One Big Beautiful Bill Act" (OBBBA) which aimed to tighten Medicaid and PTC eligibility, and the expiration of more generous ACA subsidies in 2025, are projected to temper growth, the overall trajectory remains upward. The CBO’s projections, assuming the non-extension of PTC enhancements, anticipate that these reforms will reduce federal healthcare spending by approximately $1 trillion over the next decade. This would slow growth to about half the historical rate, leading federal healthcare spending to rise from 7.2 percent of GDP in 2025 to about 7.8 percent in 2035.
Similarly, healthcare tax expenditures are projected to increase from 1.7 percent of GDP in 2025 to about 1.9 percent in 2035, with healthcare’s share of non-neutral tax expenditures climbing from 43 percent to over 49 percent in the same period. Cumulatively, the total fiscal cost of federal healthcare subsidies and carveouts is set to rise from 8.9 percent of GDP in 2025 to approximately 9.7 percent of GDP by 2035.
The Imperative for Reform and Sustainability
The nation’s unsustainable fiscal course, heavily influenced by escalating healthcare costs, presents a critical challenge that lawmakers must address with urgency. Beyond the immediate budgetary implications, rising federal debt carries profound long-term consequences, including potentially crowding out private investment, exerting upward pressure on interest rates, and reducing the government’s flexibility to respond to future economic crises or invest in other priorities. Interest costs on the federal debt alone are projected to reach an all-time high of more than $1 trillion (3.3 percent of GDP) this fiscal year, further escalating to over 4.5 percent of GDP within the next decade. The primary deficit, excluding interest costs, is forecast to average more than 2 percent over the next decade, pushing total deficits to levels never sustained during peacetime.
While policy discussions surrounding healthcare often focus on improving affordability, access, and quality, the fundamental issue of fiscal sustainability cannot be overlooked. Reforms must be comprehensive, addressing both the spending and revenue sides of the equation.
On the revenue side, capping or eliminating the exclusion for employer-sponsored health insurance (ESI) presents a significant opportunity. Analysis by the Tax Foundation estimates that eliminating the income tax exclusion alone could generate approximately $2.4 trillion over the next decade (on a dynamic basis, accounting for macroeconomic effects), while eliminating the payroll tax exclusion could raise an additional $1.6 trillion. Such reforms would not only bolster federal revenues but also mitigate the economic distortions created by the current ESI preference, fostering a more neutral tax environment and potentially encouraging more efficient healthcare consumption.
However, the spending side offers even greater scope for savings. The CBO has identified numerous options to reduce spending in major healthcare programs like Medicare, Medicaid, and the ACA exchanges, potentially saving trillions of dollars over the coming decade. These include measures that would build upon hypothetical reforms like the OBBBA, such as capping federal spending on Medicaid, limiting state taxes on healthcare providers, reducing federal Medicaid matching rates, increasing premiums paid for Medicare, and requiring site-neutral payments for healthcare services.
Ultimately, reform efforts should aim to reduce waste and inefficiency within the healthcare system, easing the persistent cost pressures that drive federal outlays. Instead of continuing to expand subsidies that may inadvertently fuel inflation in healthcare prices, policymakers should pivot towards market-oriented reforms. Encouraging greater competition among providers, fostering innovation in service delivery, and empowering consumers with more choice and transparency are crucial steps to finally "bend the cost curve" downward and steer the nation away from its unsustainable fiscal path. The complex interplay of federal spending and tax preferences in healthcare demands a multifaceted and politically courageous approach to ensure the long-term financial health of the United States.
