IRS Challenge (Exchange Subsidies)

VII. Key Issues: Regulation & Reform >> C. Health Reform >> Affordable Care Act (ACA) >> ACA Repeal >> Pending Legal/Constitutional Challenges >> IRS Challenge (Exchange Subsidies) (last updated July 22, 2014)



The ACA provides tax credits and subsidies for the purchase of qualifying health insurance plans on state-run insurance exchanges. An Internal Revenue Service (IRS) rule finalized on May 23, 2012 purports to extend these tax credits and subsidies to the purchase of health insurance in federal exchanges created in states without exchanges of their own. Critics argue this rule lacks statutory authority. The text, structure, and history of the Act show that tax credits and subsidies are not available in federally run exchanges.  Consequently, the IRS rule is contrary to congressional intent and cannot be justified on other legal grounds.  Senator Orrin G. Hatch of Utah, the senior Republican on the Senate Finance Committee, argues that the Obama administration is usurping the role of Congress and rewriting the law to provide tax credits through federal exchanges.

Congressional Intent

Pro-ACA Argument. ACA supporters such as Washington and Lee University health law professor Timothy Jost concede that the language regarding subsidies on the Exchanges cannot be dismissed as a “scrivener’s error” (since it appear 9 different times),  but argue that congressional intent was clear: subsidies would be available in all exchanges, not just those run by the states. Simon Lazarus, a lawyer for the Constitutional Accountability Center, was quoted by the LA Times: “The lawsuits should be seen as preposterous,” he said, because they ask judges to give the law a “nonsensical” interpretation.

  • CBO Assumed Subsidies Available in All States. In scoring the bill, for example, CBO assumed subsidies would be available in all states and no objections were raised by Republicans that the CBO analysis was flawed.
  • Principals in Congress Claim No One Intended Subsidies to be RestrictedAccording to NPR, two of the Democratic Senators involved in helping to write the law, Tom Harkin (IA), who chairs the Health, Education, Labor and Pensions Committee and Ron Wyden, a senior member of the Finance Committee do not recall that committee members intended for subsidies to be restricted just to state-created exchanges. Similarly, the blog site TPM claims “two staff-level sources directly involved in drafting the law told TPM that no one intended to block subsidies from being administered through the federal website” but does not name either one. “We meant to clean it up in conference, but we never got to conference,” one of the TPM staff sources said. “It’s definitely inartfully drafted.”

Anti-ACA Argument. Critics say congressional intent was not so obvious.

  • Other Bills Conditioned Subsidies on State Actions. Michael Cannon has pointed out that both Republicans and Democrats introduced legislation that would have conditioned health-insurance subsidies on states establishing Exchanges. As well, the other leading bill advanced by Senate Democrats in 2009 also gave states the power to block Exchange subsidies. Cannon further has documented that 24 of the 60 Democrats who voted for ACA had earlier cast votes for bills that conditioned the availability of federal subsidies on states taking some action, i.e., using the subsidies as leverage/ inducement for states to do what Congress intended/hoped.
  • Enhanced Medicaid Funding Conditioned on State Actions. ACA itself included the provision to strip states that failed to expand Medicaid of the entire amount of federal Medicaid matching funds. This financial penalty was later ruled by the Supreme Court as unconstitutionally coercive: nevertheless, congressional intent was clear. The majority that voted for the bill were willing to risk taking away huge amounts of federal funding from states that failed to take the action they desired.

Cannon also has codified a series of instances in which Timothy Jost has been incorrect in his predictions on how judges would interpret/rule on various legal challenges to the ACA, including Halbig v. Burwell.


Plain Meaning of Statute

Michael Cannon has pointed out “Let’s stipulate, for the sake of argument, that every member who voted for the PPACA wanted the bill to say something other than what it clearly says.

President is Bound by Constitution. Even then, the president would not have the authority to issue subsidies through federal Exchanges. He is bound by the Constitution, his oath to it, and judicial precedent to implement the law Congress enacted; all three instruct he has the authority to go as far as Congress allowed him to go, but no farther. If it was Congress’ mistake, Congress must correct it. The president has no authority to “correct” clear statutory language. The very idea is anti-democratic.”

Supreme Court Cannot Disregard Clear Language. The same restriction applies to the Supreme Court:

Implications for ACA

Crippled Federal Exchanges. Under the employer mandate, employers are penalized for not offering coverage only if one or more workers obtain subsidized coverage on the exchange. Likewise, people can obtain an exemption from the individual mandate if the least expensive plan in their area exceeds 8% of income, a situation that will affect many more people if there are no subsidies available through the exchange. Thus, if the court upholds Oklahoma’s position, for example, the immediate effect would be to “cripple the federal exchange operations in Oklahoma, and encourage dozens of other states to mount similar challenges and continue to refuse to authorize their own state-administered exchanges.”  If these challenges are successful (or resolved by the Supreme Court), then in states that do not set up their own exchange, the entire employer mandate will be unenforceable, along with the individual mandate for many people. Effectively, the law might well completely collapse in the 28 states planning to rely on a federal exchange (and likely the 7 states in partnership exchanges as well). The bottom line according to one of the proponents of these challenges, CATO Institute’s Michael Cannon: ”This has the potential to sink Obamacare.”

Case May to Go to Supreme Court. As summarized by the LA Times (referring to all 4 cases that have been filed on the exchange subsidies issue): “If any of the four judges agree with the challengers, they are likely to be asked to put the law on hold until the legal dispute is resolved. And that in turn could quickly send the issue to a U.S. appeals court and then to the Supreme Court.”  FreedomWorks has created an informational video about these 4 cases.

Two lawyers at McDermott, Will and Emery likewise have observed (3.1.14): “The plaintiffs now have appeals pending in two federal circuits, and similar challenges remain pending in two other federal trial courts…..If the federal circuit courts rule differently on these cases, this may propel the final decision on the matter to the Supreme Court of the United States. It would not be unsurprising if the federal courts continue to accept the government’s argument to permit premium tax credits to be available nationwide to avoid undermining the ACA.” (Note that McDermott is counsel of record for a group of 34 Deans, Chairs and faculty members from Schools of Public Health around the country who have filed an amici curiae brief in support of Defendants-Appellees in Halbig in the D.C. Circuit, and who will be filing one in King in the Fourth Circuit.)


Pruitt v. Burwell (U.S. District Court for the Eastern District of Oklahoma)

Overview. In an amended lawsuit originally filed in January 2011, the attorney general for the state of Oklahoma has challenged this rule in court. Two lawyers at McDermott, Will and Emery report:“Oklahoma complains that the availability of the premium tax credit in FFE states triggers the application of the employer mandate (codified at 26 U.S.C. § 4980H) against the state. If so, the state would be forced to provide health coverage to its employees or face a $72,000 penalty each year. Additionally, the state would face penalties under the reporting requirement, section 1514(c) of the ACA (codified at 26 U.S.C. § 6056(c)), of $100 per return, capped at $1.5 million per year. The state further estimates that compliance with the ACA reporting requirements will cost at least $115,000 each year.”

Status. On August 12, 2013, the district court rejected a motion to dismiss the Oklahoma case and ruled that the case could move forward.  Specifically the court “dismissed two counts in the amended complaint but upheld three other ones that now will move ahead for consideration under upcoming motions for summary judgment later this year.” Two lawyers at McDermott, Will and Emery reported (3.1.14): “The case Pruitt v. Sebelius, pending in federal court in Muskogee, Oklahoma, is now awaiting the government’s response to the plaintiffs’ summary judgment motion.”


Halbig v. Burwell (U.S. Court of Appeals for D.C. Circuit)

Overview. This suit filed by the Competitive Enterprise Institute on behalf of a group of employers and individuals is a parallel challenge to the legality of exchange subsidies that was filed in May 2013. As in the Oklahoma case, the Department of Justice has also moved to dismiss the case for lack of standing, and this issue is currently being argued. In the Oklahoma case, the court ruled that the state had standing as an employer since even though the employer mandate has been delayed for a year, Oklahoma would need to begin to take steps now to comply with it. As well, in keeping with other circuit court decisions, the Oklahoma court “held that the tax Anti-Injunction Act does not bar the state as an employer from proceeding to challenge the employer mandate.” If the D.C. district court follows these precedents, the case should move forward.

The Congressional Research Service writes that Halbig “could be a major obstacle to the implementation of the Act.” Law professor Michael Greve writes, “all of ObamaCare hangs on the outcome.” A CATO event on June 17, 2013 addressed the issues and potential impact of this case. Law professor Jonathan Adler and Cato Institute health policy expert Michael Cannon have written the most definitive explanation of the argument in favor of the plaintiffs. This Cato Institute study offers a layman’s version of the arguments.

Michael Cannon has written a very detailed account of the hearing and documented extensively how claims of legal experts who are convinced this case has no merit have been upended by actual rulings against the ACA. He quoted from Judge Friedman’s conclusion: “So, all I’m saying is that if, on preliminary injunction, in a case where I find no irreparable harm, the plaintiffs have the burden of showing a particularly strong likelihood of success on the merits, I don’t think they’ve done that. They have made an argument that may ultimately be successful. The defendants have made an argument that may ultimately be successful. And as I delve further into the statute, with the assistance of additional briefing by the parties, the strength of each party’s position will become clearer” (emphasis added).

One of these experts, Timothy Jost, a law professor at Washington and Lee University, has now conceded: “This is a problem….This case could have legs,” although “it was never the intent of Congress to establish federal exchanges that can’t do anything. They were supposed to have exactly the same powers.”

Status:  On January 15, U.S. District Judge Friedman dismissed the case, writing: ”The plain text of the statute, the statutory structure, and the statutory purpose make clear that Congress intended to make premium tax credits available on both state-run and federally-facilitated Exchanges.” He added that there is “no evidence in the legislative record” that lawmakers intended to limit tax credits to people enrolled in state-based marketplaces.

Plaintiffs appealed Friedman’s decision to the U.S. Court of Appeals for the D.C. Circuit which granted an expedited appeal of Judge Friedman’s ruling. A podcast of the March 25 oral arguments is here.  Michael Cannon has done a series of blog posts that examines the various arguments offered in amicus briefs and rebuts them:

On July 22, in a 2-1 decision (Justice Edwards–a Democratic appointment–dissenting from the opinion of the two Republican-appointed justices), the D.C. Circuit Court of Appeals sided with plaintiffs by ruling that the language of the law barred the government from giving subsidies to people in states that chose not to set up their own insurance marketplaces.

Implications for ACAAccording to LA Times reporter David Savage: “the administration could ask the full 11-member appeals court to weigh the issue. In the past year, Obama has added four new judges to the D.C. circuit court, giving Democratic appointees a majority for the first time since the mid-1980s.”  The federal government has announced its intention to request an en banc hearing has until September 5 to file its petition.  Lawyer Nicholas Bagley at The Incidental Economist argues “The court is very likely to review the case en banc: it’s undeniably of “exceptional importance” and the decision is, in my view, quite wrong. It also won’t hurt that, after filibuster reform, the court’s seven Democratic appointees outnumber its four Republican appointees.” However, AEI’s Tom Miller notes that en banc hearings are extremely rare and offers some alternative scenarios for what would happen if the court ruled for the plaintiffs.

Because the district court in King v. Burwell reached the opposite decision on the same day, there are split views on how this affects the odds of an en banc hearing. Due to concerrns over how the Supreme Court might rule, the D.C. Circuit Court might have an incentive to quickly accept and rule on an en banc petition since that would eliminate the split between the two circuit courts and lessen odds of SCOTUS review. Conversely, knowing that SCOTUS would be forced to adjudicate such a split, the Circuit Court might prefer to let them handle such a contentious and momentous issue. SCOTUS is unlikely to hear an appeal until or unless there is a split in circuits.

Margot Sanger-Katz at New York Times asserts: “This case is likely to be hung up in litigation for a year or more, even if it is appealed immediately.”


King v. Burwell (U.S. District Court, Eastern District of Virginia, Richmond Division)

Overview. In King v. Burwellfour individual taxpayers are challenging the IRS rule and have requested a preliminary injunction on September 10, 2013 on grounds that chaos would ensue were the court to deny the validity of billions of dollars in taxpayer subsidies after they already had been distributed. On October 31, 2013, the court will hear arguments on that motion. If granted, an injunction could stop the IRS from issuing subsidies in the 34 states with federal Exchanges. A complete set of  court documents filed to date by plaintiffs is maintained by the Competitive Enterprise Institute (CEI).

Status. Two lawyers at McDermott, Will and Emery report: “On February 18, 2014, Judge Spencer, following the decision of Judge Paul L. Friedman a month earlier in the sister case, Halbig v. Sebelius, granted summary judgment to the government….Like Judge Friedman in Halbig v. Sebelius, Judge Spencer found that the plaintiffs had standing to sue and reached the merits of the arguments. Tackling the plaintiffs’ arguments head on, Judge Spencer admitted that, in a vacuum, the plaintiffs’ interpretation of section 1401(a) of the ACA (which enacted Internal Revenue Code section 36B(b)) would be reasonable. When taken in context of the entire statute, however, Judge Spencer deemed the plaintiffs’ position to be implausible….He found that even if Congress intended to impose such a condition on subsidies, Congress must provide clear notice to the states— and it failed to do so.”

“Immediately after, the plaintiffs appealed to the U.S. Court of Appeals for the Fourth Circuit. Oral arguments were held May 14.  On July 22, 2014, court panel (consisting of two Democratic appointees and one Republicanruled  3-0 that ACA subsidies could be offered through federally-run insurance marketplaces: “It is…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.”  According to Nicholas Bagley at The Incidental Economist, “The Fourth Circuit’s decision in King v. Burwell basically adopts the theory laid out in Judge Edwards’s dissent in Halbig.”

Implications for ACAAccording to Nicholas Bagley at The Incidental Economist, “Odds are the Fourth Circuit case won’t be taken en banc. Not only did the panel get it right (at least as I see it), but the five Republican appointees are outnumbered by the ten Democratic appointees (including Gregory, who was originally appointed by Clinton and wrote today’s Fourth Circuit opinion). If the D.C. Circuit does vote to rehear Halbig en banc, the likely result would be an opinion upholding the tax credits on a theory that looks like the one the Fourth Circuit adopted.”




State of Indiana et al v. Internal Revenue Service et al, (U.S. District Court for the Southern District of Indiana, Docket No. 13-1612)

Overview. The latest lawsuit to challenge the exchange subsidies was filed by Indiana Atty. Gen. Greg Zoeller along with 15 public school districts on October 8, 2013.  The suit also includes a Tenth Amendment challenge to two aspects of the ACA: (1) the Federal Government’s attempt to apply to the States and their political subdivisions the ACA’s “Employer Mandate,”and (2) a separate ACA provision seeking to tax or regulate States in the same manner as private employers.  As summarized by two lawyers at McDermott, Will and Emery: “Indiana and 39 of its public school districts argue that the IRS rule directly injures the state and school districts in their capacities as employers by subjecting them to increased compliance costs and administrative burdens.” Hadley Heath at Health Care Lawsuits observes this case is unique because public school districts are among the plaintiffs. 

Status. Plaintiffs have asked for a declaratory judgment that the IRS Rule violates the Administrative Procedures Act; and enter a permanent injunction prohibiting the application or enforcement of the IRS Rule.  Two lawyers at McDermott, Will and Emery report (3.1.14):  “Indiana v. IRS, pending in federal court in Indianapolis, is still awaiting an initial conference and a ruling on the government’s motion to dismiss.”