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Methods of organising and funding health services and their relative merits, focusing particularly on international comparisons and their history

Key points:

  • Financial balance is essential for all health organisations

Funding Health Services

There are five main ways to fund health services, each of which have advantages and disadvantages:

  1. General Tax
  2. Hypothecated Tax
  3. User pays out-of-pocket
  4. Private Medical Insurance
  5. Social Insurance, sometimes, compulsory in law

Note that in most countries all five systems are used - the difference is which ones are dominant.


1.    General Taxation

Definition:  general taxation refers to both direct and indirect tax receipts collected by government to fund among other things healthcare.


  • General taxation is regarded as being highly efficient, delivering strong cost containment
  • It forces prioritisation through what are typically overall cash-limited health care budgets set by the government and allows trade off of spend on health care with other public health priorities such as education or reducing poverty
  • Ensures universal access to services irrespective of ability to pay
  • Low administrative costs
  • Tax financing can help individuals in difficult times when they are less able to afford out-of-pocket payments or private insurance
  • Because it draws revenue from a wide base, it helps to minimize distortions in particular sectors of the economy.


  • The government has both a strong incentive and the capacity to control costs which could result in poor services
  • Because the service is free at the point of use it can encourage overuse and high expectations
  • Reliance on general tax financing can leave a health system vulnerable in times of economic and fiscal difficulties.

        The degree of individual choice tends to be relatively limited.


2.     Hypothecated Tax

Definition: hypothecated tax is a component of general taxation, usually based on income; it is normally levied to be used for a particular purpose. The current National Insurance scheme was started by Lloyd George in 1911 as a form of hypothecated taxation. The best example of a hypothecated tax is the use of tobacco tax for anti-tobacco work in California.


  • The electorate are generally willing to pay if they can see what they are getting for their money
  • There is an identifiable link between the money paid and the service received
  • The scheme is progressive so that those who earn more pay more
  • Nobody is excluded from the service because they cannot pay - service is still free at the point of delivery
  • Allows preventive services to be funded.


  • Because the service is free it can encourage over-use. Over-use may be exacerbated if people want to get back what they have paid in
  • In time it may not increase funding if contribution from general taxation is withdrawn as hypothecated tax increases
  • May require a separate and complicated and costly administration
  • Difficult to resist demands for further fragmentation of general taxation (e.g. for education, social security)

3.     User 'pays out-of pocket

Definition: there are two forms of user charges:

       a)   those that top up funding from other sources (general taxation or various insurance schemes) e.g. charges for dental
       b)   those that cover the entire cost of treatment.


  • Can help to encourage a more responsible use of resources by limiting wasteful and unnecessary activity because people think before spending their own money on health care
  • People do not spend money on food or heating while in hospital, so charges do not penalise people if they are used as top-up.


  • People who most need service cannot afford to pay (inverse care law)
  • Many people will cover themselves with private insurance leaving those who cannot afford charges doubly disadvantaged
  • Where full user charges exist the proportion of GDP spent on health is high.
  • There tend to be a large number of exemptions requiring funding from general taxation (e.g. children, elderly, chronic sick, certain conditions).
  • People with stigmatising conditions, or those who lack insight into their health problems (psychotic mental illness) may be deterred from seeking help.
  • Preventive services may lose out in funding terms to curative services.

4.      Private Medical Insurance

Definition: private insurance is run by companies, usually for profit, and contributions are paid by individuals.


  • Weighting of premiums according to use means that there is a deterrent effect on demand
  • The costs of every aspect of care are made more explicit
  • Insurance companies may manage care to ensure only effective forms of treatment are used.


  • Those who need insurance most often cannot afford it, e.g. poor, chronic sick
  • Employers often offer this as a benefit, leading to double disadvantage for unemployed
  • May increase demand as people seek to get what they pay for
  • Preventive services may lose out in funding terms to acute/curative services
  • There still needs to be a system to cover those who cannot afford insurance
  • There still needs to be a system to cover public health and preventive programmes
  • Not all the money that is paid in goes on health care - profit motive
  • People have to seek prior approval for spending, even in emergency situations
  • People will shop around until they get what they want - demand may increase among some sectors.

5.     Social Insurance

Definition: social insurance is a system where employers and employees make contributions which are compulsory, and premiums are underwritten by the state for high risk and non-employed groups.

People generally have to pay for services then make a claim afterwards, and re-imbursement may not be complete.


  • Funding of health services tends to be removed from the political arena
  • A system of payment and retrospective claim may limit demand
  • Payment by employers may act as incentive to health and safety if they are penalised for ill health
  • Non-profit making so all money paid in goes on either administration or health care.
  • As with tax-financed systems, access to health services is typically universal or near universal and not based on ability to pay.


  • May not limit demand as there is an element of getting value for the contribution paid
  • May deter employers from taking on sick or disabled employees
  • A high proportion of demand is not covered (elderly, unemployed, chronically sick, children) and therefore substantial amount of state underwriting remains
  • Claims scheme may be complicated and deter genuinely sick from seeking help, particularly in conditions such as psychotic mental illness
  • Social insurance contributions are raised from a narrower base than general taxation, with the costs falling mainly on employers and employees rather than the wider group of taxpayers. This may lead to economic distortions and disincentives as the revenue base is more concentrated on employment.
  • Social insurance systems can also be vulnerable to periods of economic downturn which can result in reduced revenues into the sickness funds
  • Social insurance is not as progressive as general taxation and may be regressive if the sickest groups have to pay highest premiums
  • Responsibility for funding preventive and public health services is unclear
  • High earners may be allowed to opt out in favour of private schemes which depletes the social insurance scheme of funds
  • Patients may shop around and see several doctors until they get what they want, increasing demand without increasing benefit.

Budget Statements

  • NHS budget statements usually have three sections:

    -   Pay (includes salaries + on costs of National Insurance at 11%, Superannuation at 14%)
    -   Non-Pay (includes rent, rates, stationery, photocopying, telephone, refreshments etc)
    -   Income (includes project money etc)

All health systems need to consider:

           -   the consumers right to choose on the one hand, versus evidence where it is available on the other

           -   lack of evidence does not necessarily mean lack of effectiveness

'Not everything of value can be measured and not everything that is measured is of value'

Payment by Results

The aim of the financial system 'Payment by Results' is to provide a transparent, rules based system for paying trusts. The system pays for activity not results e.g. for number of operations done not lives saved. The aim is to reward efficiency, support patient choice and diversity and encourage activity for sustainable waiting time reductions. Payment will be linked to activity and adjusted for casemix. The central idea is that the NHS will be a fixed price for a particular operation of treatment wherever the care is provided (i.e same price for all hospitals) This system aims to ensure a fair and consistent basis for hospital funding rather than being reliant principally on historic budgets and the negotiating skills of individual managers.



© K Enock 2006, C Beynon 2017