Executive Summary: On July 22, 2014, two different federal appeals courts issued conflicting decisions on the availability of subsidies for health insurance purchased by individuals on Exchanges established by the federal government under the Affordable Care Act (ACA). A three-member panel of the D.C. Circuit Court of Appeals held that the subsidy is only available for insurance purchased on an Exchange established by one of the 50 states. Accordingly, that court invalidated an IRS regulation that authorizes the subsidy also for insurance purchased on a federal Exchange. Halbig v. Burwell, (D.C. Cir. July 22, 2014). However, Fourth Circuit Court of Appeals reached the opposite conclusion, finding the language of the ACA ambiguous and deferring to the IRS interpretation. Thus the Fourth Circuit upheld the IRS regulation. King v. Burwell (4th Cir. July 22, 2014).
Conflicting Interpretations
The ACA requires states to set up Exchanges, which, among other things, determine which health plans satisfy the requirements of state and federal standards. The Exchanges also operate websites to allow individuals and employers to purchase insurance from plans that meet these standards. Because Congress cannot require states to implement federal laws, if a state refuses or is unable to set up an Exchange, the ACA permits the Secretary of Health and Human Services to establish and operate an Exchange within the state. Currently, only 16 states and the District of Columbia have established fully state-based Exchanges, with the remaining 34 states relying on federally facilitated Exchanges or state-federal partnership Exchanges.
Section 36B of the Internal Revenue Code authorizes refundable tax credits to low- and middle-income individuals to offset the cost of insurance policies purchased on the Exchanges. The individual's tax credit is advanced directly to the health insurance providers, thus subsidizing the up-front cost of the plan. In calculating the amount of the subsidy, Section 36B refers to qualified health plans enrolled in through an "Exchange established by the State under section 1311" of the ACA.
The IRS has issued a regulation interpreting Section 36B to allow credits for insurance purchased either on a state or federal Exchange. In rejecting this regulation, the D.C. Circuit held that the language of Section 36B means an Exchange established by a state and that "a federal Exchange is not an ‘Exchange established by the State'."
The Fourth Circuit, however, held that the language of Section 36B, when read in conjunction with other provisions of the ACA, is ambiguous and subject to at least two different interpretations. The Fourth Circuit found it "clear that widely available tax credits are essential to fulfilling the Act's primary goals and that Congress was aware of their importance when drafting the bill." Confronted with ambiguity in the language of the ACA, the IRS crafted a regulation ensuring the broad availability of the credits and furthering the goals of the Act. The court found the IRS's construction of the ACA reasonable and deferred to that construction, upholding the regulation.
Potential Impact of the D.C. Circuit Court's Ruling
The D.C. Circuit's ruling could make subsidies unavailable in over 30 states that have Exchanges run by the federal government. This is a significant setback for the Obama administration, which has indicated it will seek review of the decision by the full 11-member D.C. Circuit Court of Appeals. The administration has stated that individuals will continue to receive subsidies during the appeal.
The D.C. Circuit's ruling could also impact the ACA's requirement that large employers offer affordable health care as defined by the Act or pay a penalty. The penalty is triggered when an employee receives a subsidy for purchasing insurance on an Exchange. Reducing the number of individuals who receive subsidies will decrease the number of employers subject to the penalty.
Additionally, this ruling could impact the individual mandate, which requires most Americans to obtain health insurance that meets the requirements of the Act or face a penalty. Low-income individuals are exempt from this requirement. The Act defines low-income individuals as those for whom the annual cost of health coverage exceeds eight percent of their projected household income. In calculating this percentage, the premium tax credit is deducted from the cost of the health insurance. Thus, if the tax credit is not available for insurance purchased on federal Exchanges, the number of people exempt from the individual mandate will increase exponentially.
The Bottom Line:
The D.C. Circuit Court of Appeals' decision clearly could have a significant impact on the operation of the ACA. We will continue to keep you informed on developments in this case.
