The Big Tax News while I was on vacation was the Halbig decision by the U.S. Court of Appeals for the D.C. Circuit. The decision holds invalid the IRS decision allowing tax credit subsidies for policies purchased on federal insurance exchanges. The impact of the decision was offset by a Fourth Circuit decision the same day coming to the opposite conclusion, but it is still a big deal, especially in light of some subsequent events.
The D.C. circuit has national implications because
every taxpayer can come under its jurisdiction by litigating through the Court of Federal Claims. An alert reader corrects me:
Your post today contains an error. The D.C. circuit is not the same as the federal circuit. The court of federal claims is appealable to the federal circuit. The district court for the D.C. circuit is appealable to the D.C. circuit. Halbig is a big deal in any event because the dc circuit instructed the district court to vacate the rule. Vacated means that there is no rule anywhere. In any event, SCOTUS will make the final call here.
As long as that decision stands — and the IRS will certainly ask the 15-member court to reconsider Halbig, decided by a three-member panel — it threatens not only the tax credits for the 37 states without their own exchanges, but it also invalidates the employer mandate tax in those states and takes much of the bite out of the individual mandate. The South Carolina Policy Council explains why (my emphasis):
The subsidies are also important for their function as triggers of both the individual and employer mandate portions of the ACA. The ACA imposes a $2,000 per employee penalty for companies with more than 50 employees who do not offer “adequate health insurance” to their workers. This penalty is triggered when an employee accepts an IRS subsidy on a plan purchased through an exchange. If individuals in the 36 states without a state-run exchange are ineligible for subsidies, there will be no trigger to set off the employer mandate.
An absence of subsidies would also allow many people to avoid the ACA’s individual mandate, which requires citizens to maintain health insurance covering certain minimum benefits or pay a fine. This is because the ACA exempts citizens from the individual mandate whose out-of-pocket costs for health insurance exceed 8 percent of their household income. If IRS subsidies are removed, insurance plans offered on exchanges would exceed this cost threshold for many people – thereby providing them an exemption from the mandate.
This would devastate the already shaky economics of Obamacare.
The key ruling in Halbig is its finding that statutory language allowing tax credits through exchanges “established by a State” doesn’t cover the federal exchanges that are used in the 36 states without exchanges. Critics of Halbig say that Congress couldn’t have been that stupid. For example, Jonathan Gruber, an architect of the ACA, says ““Literally every single person involved in the crafting of this law has said that it`s a typo, that they had no intention of excluding the federal states.”
That assertion has been challenged by a number of observers, notes Megan McArdle. She cites a January 2012 speech by one Jonathan Gruber, an architect of the ACA:
Only about 10 states have really moved forward aggressively on setting up their exchanges. A number of states have even turned down millions of dollars in federal government grants as a statement of some sort — they don’t support health care reform.
Now, I guess I’m enough of a believer in democracy to think that when the voters in states see that by not setting up an exchange the politicians of a state are costing state residents hundreds and millions and billions of dollars, that they’ll eventually throw the guys out. But I don’t know that for sure. And that is really the ultimate threat, is, will people understand that, gee, if your governor doesn’t set up an exchange, you’re losing hundreds of millions of dollars of tax credits to be delivered to your citizens. [emphasis added]
The 2012 Jonathan Gruber repeated the story that only state-established exchanges qualify for credits in other forums. It’s remarkable that two ACA architects named Jonathan Gruber have such divergent views of what the bill does. It’s even more remarkable that they are the same guy. This seems like strong support for the D.C. Circuit’s approach.
If the ACA were just another tax bill, it would be pretty easy to predict that the Supreme Court would go with the D.C. Circuit’s approach, based on prior rulings involving statutes that reached results the IRS didn’t care for. In the Gitlitz case, which arguably provided an unintended windfall for S corporation shareholders when the S corporation incurred non-taxable debt forgiveness income, the Supreme Court said in an 8-1 decision (footnotes and citations omitted, emphasis added):
Second, courts have discussed the policy concern that, if shareholders were permitted to pass through the discharge of indebtedness before reducing any tax attributes, the shareholders would wrongly experience a “double windfall”: They would be exempted from paying taxes on the full amount of the discharge of indebtedness, and they would be able to increase basis and deduct their previously suspended losses. Because the Code’s plain text permits the taxpayers here to receive these benefits, we need not address this policy concern.
In other words, if Congress doesn’t like what it has done, it’s up to Congress to fix it, not the IRS. Congress did just that with the Gitlitz result within a year of the decision.
Of course, the ACA isn’t typical tax legislation. Chief Justice Roberts tied himself in knots to find a way to uphold Obamacare in 2012. Politics makes it unlikely that the Gitlitz approach will be followed by the left side of the Supreme Court, and who knows how Justice Roberts will rule. But it does appear at least possible that Halbig will be upheld.
What should taxpayers do? My thought is to assume the mandates remain in effect and pay tax (or reduce your withholding) accordingly. Then be prepared to file a refund claim if Halbig is upheld by the Supreme Court. Plan for the worst and hope for the best.
At least one thoughtful commentator says that ultimately if Halbig is upheld, holdout states will fall into line and establish exchanges. For the reasons laid out here, I don’t think that will happen, and Congress will be forced to clean up its mess.
Paul Neiffer, ACA Subsidies: One Court Strikes Down, Another Upholds
Kristy Maitre, IRS Releases Additional ACA Revenue Procedures and Draft Forms (ISU-CALT)
Jason Dinesen, Don’t Be “That” Business Owner. “I see too many with preconceived notions of what they can “get by with.” I’ve seen and read about too many people whose life got turned upside-down when they ended up NOT “getting by with it” after all.”
Russ Fox, 2:42. “That’s how long I spent on hold on the IRS Practitioner Priority Service (PPS) yesterday–two hours, forty-two minutes.” It’s a good thing Practitioners are a “Priority,” or who knows how long he’d have been on hold.
Phil Hodgen, Green card holders, treaty elections, and exit tax
Stephen Olsen, Ct. of Fed. Claims Holds Merger Results in “Same Taxpayer” for Net Zero Interest Rate (Procedurally Taxing)
Peter Reilly wonders if it is Time To Let Kent Hovind Go Home? Peter thinks the former owner of a theme park based on the idea that hominids and dinosaurs co-existed may have suffered enough for his tax misdeeds.
Robert D. Flach brings the fresh Tuesday Buzz!
Well, these things are never tidi. Spanish Court Moving Forward With Messi Tax Evasion Case (TaxGrrrl)
David Brunori, Who Wants to Tax a Millionaire? Lots of People (Tax Analysts Blog). This is full fo good observations about the unwisdom of states soaking the “rich.” Highlights include:
States do not (and should not) do a lot of redistributing to the very poor.
When states jack up taxes on the “rich,” the money doesn’t exactly go to people sleeping under bridges, as David explains (my emphasis):
I have written about this before. I noted that “the real beneficiaries of most government spending, certainly at the state level, never come up. No one ever says that we need higher taxes because my friends in the construction business want new contracts. No one ever says that they want new taxes to expand bloated public employee union bureaucracies. Yes, crony capitalism and union bosses drive most calls for higher taxes.” My right-wing friends often criticize liberals calling for higher marginal taxes as delusional. But they know exactly what they’re doing. Often they want higher taxes just so they can give money to their friends.
The money taken from “the rich” goes to the well-connected. Iowa’s highest-in-the-nation system fleeces those without pull to pay rich subsidies to well-connected politicians and corporations. Better to throw out the crony subsidies and lower rates for the rest of us — like The Tax Update’s Quick and Dirty Tax Reform Plan would do.
Elaine Maag, The “Helping Working Families Afford Child Care Act” Would Help, but Doesn’t Solve the Timing Mismatch (TaxVox). “Making the CDCTC refundable and increasing allowable expenses is a huge step in improving child care assistance for low-income families.”
Joseph Thorndike, The Corporate Income Tax Will Never Be ‘Fixed.’ And That’s OK. (Tax Analysts Blog):
Again, I think the corporate income tax is on the way out. But that’s a long-term problem. It doesn’t mean we should throw in the towel right away. The corporate tax may, as McArdle suggests, be an “insane, unwinnable chess game” pitting lawyers against tax collectors. But for the time being, the game is still worth the candle.
I think Megan McArdle has the better case, that the corporation income tax needs to go away, one way or the other. I like the idea of doing so via a corporation dividends-paid deduction, combined with an excise tax on dividends for otherwise-exempt stockholders, as a way to get there.
Scott Hodge, More on Inversions and the Effective Tax Rates of Foreign-Owned Firms. “The administration may want to think twice about taking unilateral action without considering the consequences.”
Clint Stretch, Dreams of Tax Reform (Tax Analysts Blog). Patsy Cline is invoked.
TaxProf, The IRS Scandal, Day 446
Greg Kyte, Clarifying Sex and Auditor Independence After the EY and Ventas Affair (Going Concern). Can an auditor be “independent” while sleeping with a CFO? Well, auditors are supposed to have hearts of stone…