Background. Internal Revenue Code Sec. 36B, enacted as part of the Patient Protection and Affordable Care Act (ACA), makes tax credits available as a subsidy to individuals who purchase health insurance through the Exchanges. However, the IRS broadly interpreted Internal Revenue Code Sec. 36B to authorize the subsidy to include insurance coverage purchased on an Exchange established by the federal government under ACA Sec. 1321, as well as to coverage purchased via a state-operated Exchange under ACA Sec. 1311.
The parties challenging the IRS’s interpretation of Internal Revenue Code Sec. 36B are a group of individuals and employers residing in states that did not establish Exchanges. The IRS’s broad interpretation of the subsidies, they claimed, made these individuals subject to penalties under the ACA’s individual and employer mandates.
The district court rejected the challenge to the IRS’s interpretation of the Exchange subsidies, ruling that the ACA’s text, structure, purpose, and legislative history made it clear that Congress intended to make the premium tax credits available on both state-run and federally-facilitated Exchanges. The appellants appealed the district court’s ruling.
State vs. federally-established Exchanges. ACA Sec. 1311 delegates primary responsibility for establishing Exchanges to the states. However, where a state refuses, or is otherwise unable to establish an Exchange, ACA Sec. 1321 provides that the federal government, through the Secretary of Health and Human Services (HHS) may establish and operate such Exchanges within the state. Currently, only 14 states and the District of Columbia have established Exchanges and the federal government has established Exchanges in the remaining 36 states, in most cases without state assistance.
Under Internal Revenue Code Sec. 36B, tax credit subsidies are available to insurance purchased on an Exchange established by the state under ACA Sec. 1311. However, in May of 2012, the IRS issued a rule broadly interpreting Internal Revenue Code Sec. 36B to allow tax credit subsidies for insurance purchased on either a state or federally-established Exchange.
Impact on individual and employer mandates. According to the appellate court, by making credits more widely available, the IRS rule gives the individual and employer mandates broader effect than they would have if the credits were limited to state-established Exchanges. Under the individual mandate, for example, individuals must maintain minimum essential coverage or face a penalty, but this penalty does not apply to individuals for whom the annual cost of the cheapest available coverage, less any tax credits, would exceed 8 percent of their projected household income. By making tax credits available in the 36 states with federal Exchanges, the court stressed, the IRS rule significantly increases the number of individuals who must purchase health insurance or face a penalty.
A similar result applies as to the employer mandate, said the court, where large employers are induced to purchase health insurance for their full-time employees through the threat of penalties. Specifically, the ACA penalizes any large employer who fails to offer its full-time employees suitable coverage if one or more of those employees enroll in a qualified health plan for which an applicable tax credit is allowed or paid with regard to the employee. Thus, even more than with the individual mandate, said the court, the employer mandate’s penalties “hinge on the availability of credits.” If credits were unavailable in states with federal Exchanges, employers in those states would not face penalties for failing to offer coverage. According to the court, by allowing credits in such states, employers in those states are exposed to penalties, thereby giving the employer mandate broader reach.
Plain language of Internal Revenue Code Sec. 36B. The appellate court concluded that a federal Exchange is not an Exchange established by the state and Internal Revenue Code Sec. 36B does not authorize the IRS to provide tax credit subsidies for insurance purchased on federally-established Exchanges. The court reached this conclusion by examining Internal Revenue Code Sec. 36B, in light of ACA sections 1311 and 1321, which authorizes the state and federal Exchanges. Internal Revenue Code Sec. 36B plainly distinguishes Exchanges operated by states from those established by the federal government.
Nothing in ACA sec. 1321 deems federally-established Exchanges to be Exchanges established by the state, said the court, which stressed that this omission is particularly significant since Congress knew how to provide that a non-state entity should be treated as if it were a state when it sets up an Exchange. In fact, Congress did so in “nearby sections” of the ACA. The absence of such language in ACA sec. 1321 suggests that, even though the federal government may establish an Exchange within the state, it does not stand in the state’s shoes when doing so. The court also rejected the dissent’s argument that, because federal Exchanges are established under ACA sec. 1311, they are by definition established by a state.
Dissent. In a lengthy dissent, Judge Harry T. Edwards strongly suggested that this case is about a “not-so-veiled attempt to gut” the ACA, calling the appellants’ claims that Congress intended to condition subsidies on whether a state, as opposed to the federal government, established the Exchange, “nonsense” and “made up out of whole cloth.” Judge Edwards further indicated that there is no credible evidence that any state even considered the possibility that its taxpayers would be denied subsidies if the state opted to allow the HHS to establish an Exchange on its behalf. The majority opinion, he says, “ignores the obvious ambiguity in the statute and claims to rest on plain meaning where there is none to be found.” In doing so, he emphasizes, the court issues a judgment that “portends disastrous consequences.” The court’s decision, he concludes, “defies the will of Congress.”
Expert insight. In response to the appellate court's decision in Halbig v. Burwell, Thomas M. Christina, Shareholder, Ogletree Deakins, stressed that nothing is final and might not be final until after January 1, 2015. As a result, he suggested that he “would expect that prudent employers in states that have not established an Exchange will continue following their compliance strategies until the ruling in Halbig is final.” He noted, too, that there are three other cases in different federal courts raising the same issue.