A pair of cases over the past few weeks teach a lesson about the Affordable Care Act (ACA) premium assistance tax credit calculations. The cases are Terry Jay Grant and Twila Rose Grant v. Commissioner, T.C. Memo. 2018-119 (Aug.1, 2018) and Luis Palafox and Hilda Arellano v. Commissioner, T.C. Memo. 2018-124 (Aug. 7, 2018).
Readers are no doubt aware that the ACA (a/k/a Obamacare) requires all individuals to purchase health insurance, requires all health insurance plans to contain certain provisions, and subsidizes the purchase of health insurance via a tax credit mechanism. At the federal government level, the ACA splits up regulatory duties between HHS and the IRS. HHS regulates stuff like the content of health plans, the establishment of the health exchanges and eligibility requirements, reimbursement policies, and procedures. The IRS regulates the collection of taxes Congress enacted to fund the law, including the “shared responsibility payment” owed by taxpayers who fail to purchase health insurance (which, as Justice Roberts explained to a surprised readership, is a “tax” for constitutional purposes but not a “tax” for statutory purposes). But there are several provisions that require significant coordination between the two agencies.
The health care premium subsidies Congress put in the Tax Code are one such provision. To help certain individuals afford the mandatory health insurance coverage, Congress chose to subsidize the cost of insurance with federal funds. Congress chose a tax credit as the mechanism to implement the subsidy. Located in §36B it is there called the Premium Assistance Credit, but is commonly called the Premium Tax Credit (abbreviated PTC). Certain taxpayers can choose to take the credit as an advance, commonly called the Advance Premium Tax Credit (APTC). The APTC is paid directly to the insurance provider and not to the individual taxpayers.
This subsidy structure creates two problems. First is an awkward timing problem because taxpayers must guesstimate their eligibility for the subsidy and then true-up over a year later when they file their tax returns. Second is a communication problem because the federal monies are paid directly to the insurance provider who must then properly communicate the amounts to the taxpayers so the taxpayers can do the true-up.
The two cases teach a lesson about the timing problem and the harsh consequences for messing up the guesstimate.
Section 36B provides that eligible taxpayers can receive a tax credit to help them afford health care coverage. Sometimes, however, the very taxpayers who need the subsidy most need it during the year because of cash flow problems. If they cannot get the subsidy until the following year when they file their tax returns, it will do them little good.
To deal with the problem, §1412 of the ACA permits the Advance Premium Tax Credit (APTC). While not codified in the U.S. Code, that statute is referenced in §36B because part of the ultimate determination of how much PTC a taxpayer may claim requires accounting for any APTC already paid. That true-up process occurs on the return, specifically on the Form 8962. This is one of those areas where HHS and IRS must coordinate because HHS regulations determine whether a taxpayer is eligible for the advance payments and IRS regulations govern the true-up process. The Tax Court gives a very nice detailed explanation in McGuire v. Commissioner, 149 T.C. No. 9.
Basically, if a taxpayer’s household income (as calculated per Treas. Reg. 1.36B-1) turns out to be more than 400% of the federal poverty rate for the taxpayer’s household, then the taxpayer will not be eligible for any premium. That means any and all APTC payments made on the taxpayer's behalf to the insurance provider transmogrify into taxes owed. Notice they do not just become income to the taxpayer, increasing the taxpayer’s tax liability by the taxpayer’s marginal rate. Oh no, they were advance payments of tax credits and so much be recaptured dollar for dollar. Harsh. Even worse, taxpayers depend on the insurance provider to tell them how much the government actually paid the insurance provider on their behalf. Error by the insurance provider can thus lead to harsh results for taxpayers. The McGuire case is an example of that. There the insurance provider did not tell the taxpayers the information they needed to do an accurate true-up. The taxpayers paid the price. In contrast, the two cases from last week result from taxpayer error. But the results are still pretty harsh.
Both cases involve taxpayers who turned out to have household incomes greater than 400% and so were on the hook to repay all of the APTC payments.
In Palafox, the taxpayers lived in California with their daughter. In 2014 they were feeling pretty poor, having been through bankruptcy proceedings and having to make monthly payments under a Chapter 13 plan. Based on the information they provided, they were eligible to have APTCs of $609 per month sent to their insurance provider, which lowered their own out of pocket obligations to $107 per month for the 10 months they were on the plan. The problem for them was that they ended up making too much money that year to be eligible for any PTC. Their household income was $86,312. 400% of the poverty line for a family of three in California in 2014 was $79,120. So they were not eligible for any PTC. Their error was that they did not even attempt to true-up their eligibility for the PTC with the total APTC of $6,090. They filed no Form 8962. Maybe they thought no one would notice.
The IRS noticed and proposed a deficiency of $6,090. The taxpayers tried to argue that their household income should be reduced by the amount of the Chapter 13 payments they had to make. Judge Thornton pointed out that §36B has no provision allowing decreases in determining household income. He also pointed out that subtracting their bankruptcy payments would not lower their household income to below the 400% mark anyway.
While the taxpayers in Palofox were thus now on the hook for an additional $6,090 in taxes, it could have been much worse for them. First, while the IRS asserted a $1,218 §6662 penalty in the NOD, it backed off from that at trial, so they escaped the penalty. That seems especially lucky since they did not even attempt to true-up their PTC and APTC on Form 8962. But to their credit they did provide an accurate Form 8962 at trial. In fact, it was so accurate that it self-reported even more than the $6,090 of APTC payments. The IRS had overlooked that the taxpayers' daughter had received the benefit of $990 in APTC payments. The NOD thus proposed a deficiency of just the $6,090. The second piece of luck was that Judge Thornton did not see fit to include that additional $990 in his redetermination of their deficiency.
In Grant, the taxpayers misunderestimated (a W Texas term made famous by another W) their household income for 2014. The Grants lived in Montana. Mr. Grant had Medicare coverage. Ms. Grant had similar coverage through the Indian Health Service because of her tribal membership. But based on the advice of an insurance agent, the couple elected for Ms. Grant to also enroll in a Blue Cross Blue Shield health plan costing $390 per month. They then elected to take APTC and that benefit was $359 per month, leaving them to pay out of pocket only $31 each month.
However, 400% of the poverty line for a household of two in Montana in 2014 was $62,040. The Grants’ household income for 2014 turned out to be $81,855. In Tax Court they argued that the insurance agent misled them into enrolling Ms. Grant in the BCBS plan because of the PTC they would get. They had just made a mistake. Judge Kerrigan expressed sympathy for the mistake but explained “section 36B provides no relief based on taxpayer error.” So true. So harsh.
I personally think the benefits of the ACA outweigh the costs, especially if the Executive branch actually took proper care to administer the law, but you don't have to be a critic of the ACA to recognize its downsides, pitfalls, traps, and awkwardness. These two cases teach us that lesson.
Bryan Camp is the George H. Mahon Professor of Law at Texas Tech University School of Law.