The Affordable Care Act (ACA) has spawned major litigation since enactment. Part of its placement in the tax code has swept some fairly mundane aspects of tax procedure along for the ride. The National Federation of Independent Business 2012 Supreme Court case upholding the main parts of Obamacare highlighted the Anti-Injunction Act (AIA). In National Federation, the Supreme Court held that penalty under Section 5000A for individuals who failed to maintain minimum coverage was not a tax for AIA purposes. The consequence of the holding on the tax procedural issues was that the Supreme Court was able to consider and uphold the constitutionality of the ACA on the merits prior to any IRS enforcement or individual payment for failure to comply with the mandate.
Following National Federation, opponents of ACA have not stopped litigating to attempt to derail Obamacare’s implementation. The latest round of lawsuits also highlights an interesting intersection of tax procedure and general administrative law concepts. Last week in King v Sebelius the district court from the Eastern District of Virginia ruled on the legality of parts of Obamacare, and its decision has important tax procedure implications. Like National Federation, the current procedural dispute requires courts to consider whether they can decide the merits of the challenge now or whether the courts will have to put off the merits until after the IRS imposes a penalty on individuals who fail to have adequate insurance coverage.
Context and analysis follows.read more...
The Broader Obamacare Issue in the King Case
The dispute in King v Sebelius essentially turns on whether the IRS in regulations improperly defined exchanges to include not only health insurance exchanges that states set up but also the federally facilitated exchanges in the majority of states that declined to set up their own exchanges.
Earlier this month, the Washington Post in If the Latest Obamacare Lawsuit Succeeds Obamacare is in Big Trouble summarized the position of those challenging Obamacare in King, albeit with a definitive slant that characterized the lawsuits as mostly nuisance suits:
To be a bit more precise, one section of the Affordable Care Act authorizes federal subsidies for health coverage obtained on an “Exchange established by the State under section 1311. ” This key passage should have been written to include all of the exchanges, including the exchanges established by the federal government in 34 states across the country.
Under the plaintiff’s interpretation, Obamacare would only authorize exchange subsidies to help people purchase insurance within the minority of states that agreed to establish their own state exchanges. Millions of consumers in 34 states that have implemented a federal exchange would therefore be excluded from affordability credits so central to health reform.
In Halbig v Sebelius, a case from earlier this year involving this precise issue, the DC district court held on the merits for the government, finding that the ACA allowed for the issuance of credits for insurance purchased through both federal and state exchanges. Halbig essentially deferred to the IRS interpretation of exchange, finding under Chevron principles that the unambiguously expressed intent of Congress authorized “the provision of tax credits to individuals who purchase health insurance on federally-facilitated Exchanges as well as to those who purchase insurance on state-run Exchanges.” That case is now on appeal to the DC Circuit Court of Appeals, with oral argument set for March 25.
What Does the APA Have to Do With This?
As most readers probably know, the consequence for nonexempt persons failing to have health insurance coverage is a penalty that is found in the internal revenue code (section 5000A). For those who are not exempt, this penalty in 2014 is one percent of an individual’s yearly income or $95 for the year, whichever is higher. The IRC 5000A penalty provision is not subject to deficiency procedures; if a party is subject to the penalty, and she believes she should not be, she could pay and file a refund claim and eventually a suit if the IRS denied the claim.
As a general rule courts have required those who wish to challenge IRS guidance within the context of deficiency or refund procedures, that is, in the context of post-enforcement action. This general rule subjects IRS to a very different reality than most other federal agencies. Other agencies face legal challenges to guidance before enforcement, with court jurisdiction to hear those disputes either in organic agency statutes or through the Administrative Procedure Act. Unlike most other agencies, IRS generally can put off challenges to its regulations until such time as there is a deficiency case or a refund suit.
The door is opening up ever so slightly to parties who wish to circumvent normal tax procedural avenues and challenge the adequacy of IRS guidance as soon as IRS issues it. The plaintiffs in King brought their challenge to the IRS’s interpretation under the APA and not through normal tax refund procedures. Last month I wrote about how in Halbig the district court had allowed challenges to the adequacy of the IRS’s ACA regulations in DC Court Upholds Validity of ACA Regs: Initial Thoughts on the APA. I followed that post up with a related post on how another district court allowed a preenforcement challenge that the Florida Bankers Association had made relating to IRS regulations requiring US banks to report interest paid to nonresident aliens in APA and Challenges to Agency Guidance.
Last week in King v Sebelius another district court also allowed an APA challenge to go forward with respect to the IRS’s ACA guidance. King is out of the federal district court in the Eastern District of Virginia. King involves individual plaintiffs who, like the plaintiffs in Halbig, essentially alleged that IRS regulations which extended eligibility for credits to individuals who purchase health coverage through federally-facilitated exchanges was arbitrary and capricious, in violation of the APA, 5 U.S.C. § 706. On the merits, like Halbig, King upheld the IRS’s regulations, subjecting the regulations to Chevron deference and finding that the statute was not ambiguous under step one, and that even if it were the IRS’s interpretation was reasonable under Chevron step two.
Not to slight the importance of the substantive dispute or the manner in which the court applies Chevron, but I find more interesting and potentially more significant from a tax procedure standpoint the court’s decision to allow the APA challenge to continue. As I described in my post on Halbig last month, the issue turns on APA § 704, which permits judicial review of any “[a]gency action made reviewable by statute,” as well as any “final agency action for which there is no other adequate remedy in a court.”
While not breaking new ground, King takes on the issue as to whether the refund procedures would provide an adequate remedy.
The IRS argued in the case that the individuals who disagreed with the IRS view in the regulations could object in the context of a claim made on a tax return and let the normal tax procedure play out:
[IRS characterizes] Plaintiffs’ claim as seeking relief that would declare that they have no potential tax liability for 2014 under the Minimum Coverage Provision. They argue that this matter is effectively a tax liability suit and that Plaintiffs must comply with the tax refund scheme under 26 U.S.C. § 7422 and challenge the tax under the Tucker Act, 28 U.S.C. § 1346(a).
The individuals challenging the scheme naturally took a different view:
Plaintiffs argue that they should be able to bring suit under the APA and that a post-enforcement tax liability suit is an after-the-fact remedy that is not an “adequate” alternative to a pre-enforcement injunctive suit under the APA.
The court in a rather cursory way found the individual plaintiffs had the better argument. Citing Halbig it (like Halbig) relied on two main grounds for its decision: 1) how in the context of the ACA the refund scheme is inferior to an APA suit and 2) the likely futility of an administrative challenge given that the IRS would likely deny a refund claim:
“[T]he tax refund mechanism is inferior to an APA suit and fails to provide complete relief to these plaintiffs.” [quoted text direct quotes from Halbig w citations omitted] While a tax refund suit would provide an adequate judicial remedy in some ways, it is inferior to an APA suit because it fails to provide complete relief to these plaintiffs. “Relegating plaintiffs’ claims to a tax refund action would force plaintiffs to make a choice between purchasing insurance, thereby waiving their claims, or foregoing insurance and incurring the tax penalty, which they will recover much later, and only if they prevail. They also will be deprived of the opportunity to obtain prospective certificates of exemption.” Further, an “administrative challenge would be futile, as the Secretary of the Treasury can be expected to deny plaintiffs’ complaint as contrary to the issued IRS regulations.”
As to the first rationale (inferiority of refund procedures), that is somewhat unique to the ACA issues, though the Florida Bankers case indirectly addressed the shortfall of refund procedures in the context of determining whether the AIA prevented a consideration of the legality of the information reporting regulations.
While I find persuasive that the refund procedures are inferior, I would have liked the court to tackle this issue more forcefully. Inferior does not necessarily mean inadequate. I can understand how the government would take a different view when it comes to the first rationale. In finding the refund mechanism inadequate, King and Halbig seem to be taking umbrage with the ACA statutory scheme itself as opposed to the premium tax credit regulations. The statute is clear: either you buy insurance or have to pay a penalty (and then try to get it back if you disagree). If Congress wanted prepayment challenges it would have allowed for deficiency procedures when it comes to the 5000A penalty. Query whether had deficiency procedures been available the court have found those inadequate as well.
I do not really understand the second rationale that King offers, that the challenge would be futile as an administrative matter. It seems to prove too much. It strikes me that any administrative challenge to agency guidance will be futile. I cannot easily envision a case where a single litigant’s challenge to IRS regulations would in the context of a refund claim or pre-assessment administrative dispute generate an IRS decision invalidating all or part of a regulation project. While Appeals is supposed to be independent and take a fresh view of a dispute in the context of a pre-assessment or post refund claim administrative matter, it would never overturn a regulation as a whole or in part. As an independent ground for allowing a pre-enforcement APA dispute to regulations, the futility aspect of King and Halbig has the potential to be a game changer in a way that other courts may have to address when parties will seek to challenge IRS guidance prior to a deficiency or refund case.
This dispute to me raises other issues about the policy of the general rule exempting IRS guidance from early challenge which I have explored tangentially in other contexts (see my article in the 2012 Florida Tax Review on steps the IRS should take to improve participation in rulemaking), and wish to return to in this blog or in a broader article. It raises questions beyond the scope of this post, including the following: What is special about tax guidance that allows for the general rule that regulations and other guidance is immune to court review until an enforcement action? Is perhaps the exception in Halbig, King and Florida Bankers the better approach as a policy matter? Would it be better (whatever that means) for the IRS to have to defend itself in court challenges earlier in the process?
Naturally, more opportunity for earlier challenge ratchets up agency up-front costs, but it also potentially increases the likelihood of more carefully constructed and explained rules, and may open up the agency guidance process to more meaningful participation from taxpayers and other stakeholders.
Keith points out to me that these questions are similar to those raised by some of the participants in the Duke symposium on tax law and administrative law last week. In particular, the papers by Professors Bryan Camp on Reimagining Regulations and Kristin Hickman on Administering the Tax System We Have seems most directly connected to this post (A summary of all the papers from that symposium is found here).
We are likely to see more early challenges to IRS guidance, and courts will be forced to determine whether parties can challenge the guidance before IRS enforcement. I hope to return to these questions in later posts as we hear from other courts and as I incorporate the thoughts of other academics who are spending considerable time thinking about these issues.