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From Health Law Daily, July 22, 2014

Federal appeals court axes subsidies for federally-run Health Insurance Exchanges

By Linda Panszczyk, JD

Internal Revenue Code Sec. 36B limits the availability of premium tax credit subsidies only to insurance purchased under state-established Exchanges and not to insurance purchased under Exchanges established by the federal government on behalf of the states, according to a three judge panel of the federal appeals court for the District of Columbia circuit. Thus, the appeals court, in a 2 to 1 decision, reversed the district court’s ruling that the subsidies apply to both state-operated and federally-established Exchanges and remanded the case with instructions to vacate the IRS regulation that allows for the subsidies to apply to individuals purchasing coverage under both state-established Exchanges and federally-run Exchanges (Halbig v. Burwell, July 22, 2014, Griffith, T).

Background. Internal Revenue Code Sec. 36B, enacted as part of the Patient Protection and Affordable Care Act (P.L. 111-148) (ACA), makes tax credits available as a subsidy to eligible 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.

Government’s “absurdity arguments” rejected. The court considered, but rejected, the government’s arguments that its interpretation distinguishing between state and federal Exchanges generates absurd results. According to the court, its interpretation does not render other provisions of the ACA unworkable, let alone so unreasonable as to justify it from disregarding the plain meaning of Internal Revenue Code Sec. 36B.

ACA’s legislative history. The court further rejected the government’s contentions relating to the ACA’s purpose and legislative history. According to the court, the government’s appeals to the ACA’s broad aims do not demonstrate that Congress meant other than what Internal Revenue Code Sec. 36B says. Further, the scant legislation history on whether a federal Exchange is the equivalent of a state Exchange sheds little on the precise question of the availability of subsidies on federal Exchanges.

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 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 insights. In response to Halbig v. Burwell, Thomas M. Christina, Shareholder, Ogletree Deakins, stressed to Wolters Kluwer that nothing is final. “The Court of Appeals reversed the district court's grant of summary judgment and remanded the case to the district court with instructions to enter summary judgment for the plaintiffs and to vacate the regulation at issue in the case. Thus, as of today, there is no judgment invalidating the regulation,” he says. “Moreover, the panel's judgment in Halbig is not final yet. It could be reversed by the D.C. Circuit sitting en banc., if the Defendants successfully move for a rehearing or a rehearing en banc. Also, whether or not Halbig is reheard by the full D.C. Circuit, the losing party is likely to petition for cert, so the judgment might not be final until well after January 1, 2015. Given those factors, I 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.”

Commenting on the short-term and long-term impact of the decision on people who already received subsidized coverage from a federal Exchange, Christina observed that the Halbig decision “very well may not have an immediate impact on anyone who has already received subsidized coverage” from an Exchange that was not established state-established under ACA sec. 1311. However, he added, “the long term impact is difficult to predict. There is an argument to be made for recovering the payments if today's decision is ultimately upheld. However, Congress might adopt legislation to provide relief to individual taxpayers for premium tax credits that were paid before the challenged regulations were vacated.”

As for what is ahead, Christina observed that until the appellate court’s mandate is issued to the district court, “the challenged regulation has not yet been vacated. This may account for statements from the Administration to the effect that nothing has changed. Looking ahead, moving for a rehearing/rehearing en banc might be a good tactical move for the defendants, partly because that would slow down the Halbig case's progress in reaching the Supreme Court. There are three other cases in different federal courts raising the same issue,” he said.

Fourth Circuit reaches opposite conclusion. In a separate case issued shortly after Halbig, a different appellate court, the Fourth Circuit, reached the opposite conclusion on the same issue. In a unanimous opinion, the Fourth Circuit upheld the validity of the tax credit subsidies for insurance purchased via federally-established Exchanges. Acknowledging that the applicable statutory language is ambiguous and subject to multiple interpretations, the Fourth Circuit would apply deference to the IRS’s broad interpretation of the subsidies and would uphold the IRS rule as a permissible exercise of the agency’s discretion (King v. Burwell, July 22, 2014, Gregory, R).

The case number is 14-5018.

Attorneys: Michael Anthony Carvin (Jones Day) for Jacqueline Halbig. Alisa B. Klein, U.S. Department of Justice, for Sylvia Mathews Burwell, Secretary, U.S. Department of Health and Human Services, U.S. Department of the Treasury, Internal Revenue Service. Thomas M. Christina (Ogletree Deakins).

Companies: U.S. Department of Health and Human Services; U.S. Department of the Treasury; Internal Revenue Service; Innovare Health Advocates; GC Restaurants SA, LLC; Olde England's Lion & Rose, Ltd.; Olde England's Lion & Rose at Castle Hills, Ltd.; Olde England's Lion & Rose Forum, LLC

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