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Annette Nellen
Annette Nellen

Can individuals on federal exchanges claim the premium tax credit?

Recent litigation led to conflicting decisions—what this means going forward.

October 16, 2014
by Annette Nellen, Esq., CPA

In 2014, a key element of the Patient Protection and Affordable Care Act (PPACA) (P.L. 111-148, as amended by the Health Care and Education Reconciliation Act of 2010, P.L. 111-152), came into play—the premium tax credit. The credit makes health insurance more affordable for certain individuals. Individuals who obtain insurance through the Health Insurance Marketplace (PPACA, §1311) and have household income between 100% and 400% of the federal poverty level are potentially eligible for the credit. The premium tax credit may be obtained monthly via a reduced health insurance premium or annually as a refundable tax credit or a combination of these approaches. The final premium tax credit is calculated using Form 8962, Premium Tax Credit (PTC), filed with Form 1040, 1040A, or 1040NR.

A significant issue with the availability of the credit, known since at least 2012, could mean that the premium tax credit is not as widely available as President Barack Obama’s administration expected, which would inflict a significant blow to one of the key goals of PPACA—affordability. This article explains the issue, three recent court decisions that came to different conclusions, and what the conflicting decisions mean going forward.

The language at issue

Sec. 36B(c)(2) refers to enrollment “through an Exchange established by the State under section 1311 of the Patient Protection and Affordable Care Act” (emphasis added). Under Section 1321(c) of PPACA, if a state does not establish an exchange, the U.S. Department of Health and Human Services (HHS) will establish and operate an exchange within the state. Only 14 states and the District of Columbia established exchanges (Congressional Research Service (CRS), Federal Funding for Health Insurance Exchanges, page 1).

Regs. Sec. 1.36B-1(k) defines an exchange as having the same meaning as provided at 45 C.F.R. §155.20. Under Section 155.20 an exchange:

includes an Exchange serving the individual market for qualified individuals and a SHOP [Small Business Health Options Program] serving the small group market for qualified employers, regardless of whether the Exchange is established and operated by a State (including a regional Exchange or subsidiary Exchange) or by HHS.

Regs. Sec. 1.36B-2(a) provides that an “applicable taxpayer” is eligible for a premium tax credit for any month in which one or more members of his or her family are enrolled in a plan through an exchange. Thus, under these regulations, enrollment in a federal exchange because the state does not set up its own exchange makes the individual potentially eligible for the premium tax credit. The preamble to the Sec. 36B regulations (T.D. 9590) observes that this interpretation is in line with congressional intent.

Why challenge a refundable credit?

Under the Sec. 36B regulations, if individuals in states without exchanges do not have access to health insurance through other means (such as through their employer or Medicare) and do not acquire insurance on the federal exchange, they are potentially subject to the Sec. 5000A penalty, which is commonly known as the individual mandate.

The Sec. 5000A penalty generally applies to an “applicable individual” if he or she or a dependent does not have minimum essential coverage or qualify for an exemption. If an individual cannot afford coverage for any month, he or she is not subject to the Sec. 5000A penalty. When a credit is available on either a state or federal exchange, it is more likely that individuals can afford coverage. Thus, if the Sec. 36B regulation is valid and individuals who are eligible for the premium tax credit do not obtain coverage, they are at greater risk of owing the Sec. 5000A penalty.

The issue is also relevant for the employer shared-responsibility penalty under Sec. 4980H for “applicable large employers.” If an employee obtains coverage and a credit on an exchange, the employer potentially owes this penalty. Thus, exposure to the penalty and the need for the employer to consider its coverage requirements increase with broader availability of the credit.

As stated by the D.C. Circuit: “By making credits more widely available, the IRS Rule gives the individual and employer mandates—key provisions of the [PPACA]—broader effect than they would have if credits were limited to state-established Exchanges” (Halbig v. Burwell, 758 F.3d 390 (D.C. Cir. 2014)).

Litigation

The three cases addressing the issue of whether an individual who obtains insurance on the federal exchange is eligible for a premium tax credit are summarized in Exhibit 1.

Exhibit 1: Cases interpreting availability of premium tax credits on federal exchanges

Case

Halbig v. Burwell,
758 F.3d 390 (D.C. Cir. 2014)

King v. Burwell, 759 F.3d 358 (4th Cir. 2014)

State of Oklahoma v. Burwell, No. CIV-11-30-RAW (E.D. Okla. 9/30/14)

Plaintiff

Individuals and employers in states without exchanges

Four individuals

Oklahoma government

Standing

Penalty exposure. Permissible to seek redress in advance rather than pursue refund suit later (when it would also be too late to obtain an exemption certificate).

State is applicable large employer potentially subject to Sec. 4980H penalty. Some part-time employees would be treated as full-time employees under Sec. 4980H, and the state does not offer them coverage.

Trial court winner

HHS (No. 13-0623 (D.D.C. 1/15/14))

HHS (No. 3:13-CV-630 (E.D. Va. 2/18/14))

Plaintiff

Appeals court winner

Plaintiff
(divided opinion)

HHS
(unanimous opinion)

Court held statute is …

Not ambiguous. Statute, legislative history, and purpose support plaintiffs’ position.

Ambiguous. IRS regulation entitled to deference as reasonable interpretation of PPACA’s purpose. Rule of construing credits narrowly does not displace Chevron deference (slip. op. at 36–37).

Not ambiguous. The regulation is “arbitrary, capricious, an abuse of discretion or otherwise not in accordance with law … and is hereby vacated.”

Post-trial action

9/4/14—Court granted HHS request to have case decided en banc, vacating 7/22/14 decision
12/17/14—Oral argument scheduled

7/31/14—King petitioned U.S. Supreme Court to hear case
9/2/14—Additional time granted to file response

As of 10/7/14, waiting to see if HHS appeals.

The three cases interpret the statute at issue, along with various doctrines of “plain meaning,” consideration of the “statute as a whole,” and even the “absurdity doctrine” (Oklahoma, slip op. at 15). Each case highlights the conflict between PPACA’s goals to broadly provide health insurance premium subsidies and states taking a significant role in administering PPACA.

Significance of the credit

According to HHS, during the first enrollment period, over 5.4 million individuals obtained insurance through the “federally-facilitated Marketplace (FFM).” About 87% of these individuals opted for a plan with a premium tax credit, which lowered health insurance premium costs, on average, by about 76% (HHS, “Premium Affordability, Competition, and Choice in the Health Insurance Marketplace, 2014,” pp. 3, 5 (June 18, 2014)).

Individuals purchasing insurance on an exchange have been receiving advance premium tax credits throughout 2014, if they are eligible. These individuals will receive Form 1095-A, Health Insurance Marketplace Statement, by Jan. 31, 2015, and likely be eager to file and finalize their returns. It would be virtually impossible for the IRS to obtain refunds of the payments if it is determined that individuals who did not obtain coverage on a state exchange are ineligible. And many of the individuals will not have the funds to repay the credits. Many likely would not have obtained coverage if they had known they would not obtain an advance premium tax credit.

The Obama administration’s response

When the two conflicting decisions were issued on the same day in July, the White House stated that individuals can continue to receive the premium tax credit (Daily Briefing by Press Secretary Josh Earnest (7/22/14)).

Path to resolution

Generally, the U.S. Supreme Court takes a case only if there is a conflict among the circuit courts of appeal. With the D.C. Circuit agreeing to rehear the case, it seems likely the Supreme Court will wait to see if there is a conflict before responding to the King petition. If the full D.C. Circuit upholds the July decision, a conflict will exist among the circuits. With the Halbig rehearing in the D.C. Circuit scheduled for December 2014, the issue won’t be resolved until sometime in 2015.

While Congress could provide a resolution by making a technical correction to PPACA, that is unlikely given the many attempts in the House to repeal the law (for example, H.R. 45, passed in the House on 5/16/13).

Additional considerations include the Obama administration’s plans should HHS ultimately lose the cases and whether the employer mandate should be further delayed. Time will tell.

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Annette Nellen, Esq., CPA, CGMA, is a tax professor and director of the MST Program at San José State University. She is an active member of the tax sections of the AICPA, ABA, and California State Bar. She is a member of the AICPA Tax Executive Committee and Tax Reform Task Force. She has several reports on tax policy and reform and a blog.