In a previous post, I explained the safety valves in Marketplace regulations that may help taxpayers facing tax deficiencies. Unfortunately, these safety valves are quite narrow. Many taxpayers face APTC repayment because of unanticipated income, including gambling income, retirement account withdrawals, a new job, or unexpected business profits. There is no exception to reconciliation for unexpected income, even if the taxpayer could not have controlled or anticipated the income. If the taxpayer’s annual income turns out to be over the PTC eligibility limit, all APTC must be repaid.

The problem of lump-sum Social Security payments

One of the most sympathetic examples of unanticipated income is lump-sum Social Security Disability. Some people who apply for disability benefits are approved right away based on their initial application, but many are first denied and only receive benefits after a hearing before an Administrative Law Judge. In 2017, the average processing time for an appeal was 602 days, nearly two years. The wait time between an appeal and a hearing varies, but can easily take over a year. It’s very hard for applicants to predict when they will receive benefits. If benefits are approved after an appeal, the initial award often includes payments for earlier years, depending on the date of onset determined by the ALJ. This can result in an initial lump sum payment in the five figures.

An unexpected five-figure jump in income has drastic effects on a taxpayer’s eligibility for the PTC. National Taxpayer Advocate Nina Olson identified this as a serious problem for affected taxpayers in her 2015 Annual Report to Congress and again in her 2017 Objectives Report to Congress. She explains:

When taxpayers receive lump sum Social Security Disability Insurance (SSDI) payments, the additional income may push their household income above 400 percent of the federal poverty line (FPL) for the applicable family size, which will make them ineligible for the PTC. For those taxpayers who received APTC during the tax year, they will need to repay the entire amount because the repayment limitations do not apply if household income is above the 400 percent FPL threshold. … Individuals have little control over how quickly the Social Security Administration will process their disability applications and may even wait years to receive the determination and benefits. Therefore, it is reasonable that many taxpayers did not project to receive the lump sum when applying for the APTC.

(citations omitted). TAS, VITA sites, and LITCs regularly see cases where lump sum SSDI recipients are required to repay large APTC amounts, resulting in significant financial hardship.

In 2016 the NTA asked the IRS Office of Chief Counsel to provide administrative guidance relief for lump sum SSD payments. Senator Angus S. King (I-Maine) also raised the issue to the Secretary of Treasury and the IRS Commissioner. However, in August of 2016

the Office of Legislative Affairs in the Department of Treasury responded to the aforementioned letter from Senator King and indicated that it cannot identify an administrative basis to exclude retroactive lump sum SSDI payments from the calculation of modified adjusted gross income for purposes of the PTC and APTC.

The taxpayer in Johnson v. Commissioner challenged this position with a statutory interpretation argument that income for PTC purposes should not include lump-sump Social Security payments attributable to earlier calendar years. This idea is intuitively appealing on fairness grounds; one of the most frequent PTC questions I see is whether the lump-sum election under section 86(e) can save a taxpayer’s PTC. Unfortunately for affected taxpayers, the Tax Court has now agreed with the Department of Treasury and the IRS on the question: the lump sum election does not help taxpayers.

Johnson v. Commissioner

Mr. Johnson enrolled in a Marketplace plan with premiums subsidized by APTC. Sometime during 2014, he received a lump-sum Social Security payment which included nearly $12,000 in retroactive benefits for calendar year 2013. The IRS argued that the entire Social Security payment counted as MAGI for Mr. Johnson’s 2014 PTC eligibility, putting Mr. Johnson over the 400% FPL cutoff. Mr. Johnson would have been eligible for some PTC if the 2013 benefits were not counted, and his liability to repay excess APTC would have been limited.

Taxation of Social Security payments is determined under IRC 86. Section 86 sets out a formula to determine how much of a Social Security payment will be included in the taxpayer’s gross income. When a taxpayer receives a lump-sum payment, an election under section 86(e) can reduce the taxable portion of the payment. Under the election, the taxability of the funds attributable to earlier calendar years is calculated based on those years’ income rather than normal method of calculating taxability based on the taxpayer’s income in the year of receipt. This is done via worksheets in Publication 915; the taxpayer does not actually amend the prior year’s tax return.

The question in Johnson was whether the definition of Modified Adjusted Gross Income (MAGI) for PTC eligibility includes prior-year SSD payments when the taxpayer makes an election under section 86(e). The Court had to interpret Section 36B:

The term “modified adjusted gross income” means adjusted gross income increased by– … (iii) an amount equal to the portion of the taxpayer’s social security benefits (as defined in section 86(d)) which is not included in gross income under section 86 for the taxable year.

Mr. Johnson argued that section 36B was sufficiently ambiguous to permit the Court to consider the purpose of the Affordable Care Act as expressed by Congress, other legislative history, and public policy consequences of the IRS position. Despite a valiant effort by PT guest blogger Ted Afield who represented Mr. Johnson, the Court finds that the statute unambiguously includes the entire SSD payment received by petitioner.

The textual fight is about the phrase “under section 86 for the taxable year.” Petitioner argues that his taxable year = the calendar year (see section 441), and therefore the payments for the 2013 calendar year are not payments “for the [2014] taxable year.” The Court rejects this argument as contrary to the “established legal principle that a cash method individual generally reports income in the year it is received, even if the benefits are attributable to a prior year,” citing section 451(a) and sec. 1.451-1(a), Income Tax Regs. The Court goes on:

Petitioner’s section 86(e) election simply determined which amount of the lump-sum payment attributable to 2013 should be included in his gross income for 2014. We find that the phrase “under section 86” is not ambiguous and the cross-reference requires the consideration of section 86 in its entirety, including section 86(e).

Mr. Johnson also argued that the legislative history and purpose of the ACA supported his position, and that the IRS’s interpretation leads to an absurd and unintended result, denying an important benefit to someone who was eligible when he applied for APTC and who could not have foreseen the lump sum income. In response, the Court notes that section 36B’s definition of MAGI did not originally include nontaxable Social Security benefits. In 2011 the statute was amended to specifically include nontaxable Social Security. This is undeniable; unfortunately Congress did not address lump-sum payments or the 86(e) election specifically. Certainly the legislative history shows Congress’s intent to include nontaxable SSD that was paid for the tax year, but it is not clear that Congress considered the lump-sum election. Regardless of what Congress considered or didn’t consider, the Court finds the statute clear and thus finds it cannot consider the taxpayer’s equitable and policy arguments, citing Commissioner v. McCoy, 484 U.S. 3 (1987) and McGuire v. Commissioner, 149 T.C. 254.

Taxpayers in Mr. Johnson’s situation are left to hope that Congress will amend the definition of MAGI. Senator King proposed legislation to do this in August of 2018 (S. 3326), but unfortunately his bill died in committee. It will need to be reintroduced to move forward.

MAGI hacks

For taxpayers with unexpected gross income, not all is lost. Some taxpayers can adjust their MAGI to avoid the PTC eligibility cliff, or simply to increase their PTC.

One strategy is to look for adjustments that will lower AGI. Up to April 15, 2019, qualifying taxpayers can make IRA and HSA contributions for 2018, which will lower 2018 MAGI if deductible. With a lower MAGI, taxpayers will be eligible for higher PTC. The IRS issued a Tax Time Guide on IRAs which may be helpful. Taxpayers who established HSAs and who had qualifying high deductible health insurance in 2018 (which can include Marketplace plans) may want to maximize their contributions now. Earlier this week I received a helpful reminder email from my HSA company, letting me know that their deadline for 2018 contributions is 1pm on April 15^th.

The financial savings can be very much worth the hassle of a last-minute contribution. The exact calculations will vary depending on the taxpayer’s available Marketplace plans. The following examples use Vermont, since its statewide community rating makes the calculations easy.

Example: Melanie is single with no dependents. Her 2018 MAGI was $48,300. That’s $60 over the income limit for a premium tax credit. Melanie will have to pay back any advance premium tax credits she got from the Marketplace.

Solution: If Melanie contributes $60 for 2018 to a traditional IRA, her MAGI is now $48,240, the maximum to receive a PTC. She now qualifies for a maximum PTC of $1,454, a net gain of nearly $1,400. In addition, she has increased her retirement savings by $60.

For couples and families, the numbers are even more drastic, because of how the credit is calculated. (A family’s expected contribution is smaller relative to the cost of insurance, than is the case for a single person.)

Example: A married couple with MAGI exactly at the 2018 limit of $64,960 (for a household of 2) has a maximum PTC of $5,922. If the couple’s MAGI were even one dollar over the limit, their PTC is zero and they must repay all APTC received.

Even if the couple is income-eligible, it may be advantageous to minimize their MAGI to the extent possible because the PTC is income-sensitive, even at higher levels.

Example: If one spouse in the last example makes an IRA contribution of $5,000, the couple’s maximum PTC becomes $6,400. That’s $478 in “free money” for making an IRA contribution.

Of course, not all taxpayers will be eligible to make a deductible IRA contribution and not all taxpayers will qualify to make an HSA contribution. Also, this strategy is only possible if the taxpayer is below or within spitting distance of the 400% FPL cutoff. The maximum IRA or HSA contribution is not always high enough to bring MAGI under the cutoff. However, these options are worth fully exploring when your client is facing the prospect of repaying APTC.

Reconciliation of Advance Premium Tax Credits in the U.S. Tax Court 

The Premium Tax Credit is payable in advance through an ACA exchange, subject to reconciliation on each year’s tax return. See 42 U.S.C. § 18082; section 36B(f). (“Marketplace” is the federal government’s preferred term in public communications; however, this blog will follow the statute and regulations in referring to exchanges.) Under section 36B(f), excess APTC awarded by an exchange is considered an income tax liability, subject to certain caps. If a household’s modified adjusted gross income reported on the tax return is above 400% of the federal poverty guideline, the taxpayers must repay all APTC received by themselves or their tax dependents. This eligibility cliff leads to harsh results as many including the National Taxpayer Advocate and the Tax Court have recognized.  

As an income tax liability, a taxpayer’s excess APTC may be redetermined by the Tax Court if the IRS issues a Statutory Notice of Deficiency and the taxpayer timely appeals. See sections 6211 through 6216. However, Tax Court review may not get the taxpayer the result they desire. Some of the most frustrating APTC cases for taxpayers involve government or third-party culpability. For example, in McGuire v. Comm’r, 149 T.C. 9 (2017), the exchange failed to process an income change that the taxpayers duly reported. It erroneously continued APTC payments even though the taxpayers’ income was too high. The Tax Court expressed sympathy but found there was nothing it could do to help the taxpayers avoid repayment, because they had received APTC to which they were not entitled. Likewise, in Gibson v. Comm’r, T.C. Memo. 2017-187, the taxpayers’ young adult dependent had signed up for APTC without the taxpayers’ knowledge. Since they did not disclaim their son as a dependent, the taxpayers were stuck with the repayment obligation.  

The problem for taxpayers hoping to avoid strict reconciliation is that section 36B simply does not have a mechanism to consider equity in the reconciliation of APTC. The U.S. Tax Court was created by Congress, not the U.S. Constitution, and as an “Article I” court its powers are limited to those granted by Congress. See Rawls Trading, L.P. et al. v. Comm’r, 138 T.C. 271, 292; section 7442. In a nonprecedential case involving tax treatment of a retirement annuity, Judge Armen provided this explanation with helpful citations: 

Petitioners should understand that the Tax Court is a court of limited jurisdiction and that we are not at liberty to make decisions based solely in equity. See Commissioner v. McCoy, 484 U.S. 3, 7 (1987); Woods v. Commissioner, 92 T.C. 776, 784-787 (1989); Estate of Rosenberg v. Commissioner, 73 T.C. 1014, 1017-1018 (1980); Hays Corp. v. Commissioner, 40 T.C. 436, 442-443 (1963), affd. 331 F.2d 422 (7th Cir. 1964) In other words, absent some constitutional defect, we are constrained to apply the law as written, see Estate of Cowser v. Commissioner, 736 F.2d 1168, 1171-1174 (7th Cir. 1984), affg. 80 T.C. 783 (1983), and we may not rewrite the law because we may deem its “‘effects susceptible of improvement'”, see Commissioner v. Lundy, 516 U.S. 235, 252 (1996) (quoting Badaracco v. Commissioner, 464 U.S. 386, 398 (1984)). Accordingly, petitioners’ appeal must, in this instance, be addressed to their elected representatives. “The proper place for a consideration of petitioner’s complaint is in the halls of Congress, not here.” Hays Corp. v. Commissioner, supra at 443. 

Zedaker v. Comm’r, T.C. Summary Opinion 2011-64. Given the statutory language and the Tax Court’s limited jurisdiction, taxpayers must generally seek remedies elsewhere for inequitable APTC debts.  

Addressing erroneous APTC: the exchange regulations 

A taxpayer who disputes the enrollment or APTC information provided to the IRS by the exchange should try to resolve the dispute with the exchange. It is always a good idea to try to address disputes through the exchange, even if you have a plausible argument in Tax Court. (There have been instances in which the exchange’s Form 1095-A did not match the insurance company records; it might be possible to prevail in Tax Court in such a case.) Exchanges do not like to make retroactive changes, however. After all, the federal government is relying on private insurance companies to offer insurance on the exchanges, and those companies can lose money from retroactive enrollment changes. The exchanges have tried to balance the financial needs of insurance companies with the reality that Form 1095-A can bring genuine errors and other compelling situations to light.  

In narrow circumstances, therefore, third-party misdeeds and exchange errors can entitle a taxpayer to nullify their exchange enrollment and avoid any APTC repayment obligation. Generally, the taxpayer must pursue this through the exchange or through their purported insurance company. Two recent practitioner inquiries reminded me that this is very much a live issue that needs to be identified as soon as possible when a taxpayer seeks assistance. Time is of the essence; the exchange regulations guarantee taxpayers only a short window to request retroactive changes.  

The CMS and Health and Human Services (HHS) exchange regulations at 45 C.F.R. § 155.430(b)(1)(iv) allow enrollees to retroactively cancel coverage when  

(A) The enrollee demonstrates to the Exchange that he or she attempted to terminate his or her coverage or enrollment in a QHP and experienced a technical error that did not allow the enrollee to terminate his or her coverage or enrollment through the Exchange, and requests retroactive termination within 60 days after he or she discovered the technical error. 

(B) The enrollee demonstrates to the Exchange that his or her enrollment in a QHP through the Exchange was unintentional, inadvertent, or erroneous and was the result of the error or misconduct of an officer, employee, or agent of the Exchange or HHS, its instrumentalities, or a non-Exchange entity providing enrollment assistance or conducting enrollment activities. Such enrollee must request cancellation within 60 days of discovering the unintentional, inadvertent, or erroneous enrollment. For purposes of this paragraph (b)(1)(iv)(B), misconduct includes the failure to comply with applicable standards under this part, part 156 of this subchapter, or other applicable Federal or State requirements as determined by the Exchange. 

(C) The enrollee demonstrates to the Exchange that he or she was enrolled in a QHP without his or her knowledge or consent by any third party, including third parties who have no connection with the Exchange, and requests cancellation within 60 days of discovering of the enrollment. 

This right to retroactive cancelation was added to the regulations in the Notice of Benefit and Payment Parameters for 2017, effective May 9, 2016. Note that there is no provision for erroneous APTC: if a taxpayer knowingly enrolled in coverage but received too much APTC, the exchange regulations do not offer a remedy.  

Insurance broker fraud is of particular concern and is a major reason that exchanges grant retroactive cancellations. One of the earliest reported examples came out of North Carolina in 2015. An insurance broker collected names and SSNs at homeless shelters, and ultimately enrolled 600 people. This earned him $9,000 per month in commissions, until the insurance company terminated the relationship. Some of the people enrolled were told they were getting “free insurance”, but others said they did not know they were signing up for insurance at all. The applications conveniently inflated the taxpayers’ income to exactly 100% of the federal poverty level, where they would not owe a monthly premium. While the broker collected his commissions, the enrollees were stuck with insurance that they could not use (for lack of funds to meet the deductible or cost-sharing) or did not know about.  Just having “free” insurance caused hardships for those who relied on programs for the uninsured to receive prescriptions and medical care.  

Reports of broker fraud continued in 2016 and 2017, leading CMS to hold a webinar and issue specific instructions to issuers on July 31, 2017, allowing enrollees meeting certain criteria to fast-track their cancellations. In the webinar slide deck, CMS notes: 

Many of the complainants only learned that they had been enrolled in QHPs when notified by the IRS that their tax refunds would not be processed until they submitted Form 8962 to reconcile their Premium Tax Credit. …Because contact information for consumers may not be correct, the 1095-As did not reach many of the enrollees. 

Also, many of the complaining consumers had other health insurance coverage.  

CMS also issued Examples for Issuers of QHPs in the Exchanges of Elements Demonstrating an Appropriate Rescission, which allows insurance companies to rescind coverage if they suspect fraud and the enrollee either confirms it or cannot be contacted. Finally, CMS’s instructions for broker fraud cases were reiterated on November 20, 2017. Fast-track cancelation is authorized for cases meeting five criteria: 

1. The consumer stated directly to CMS through the FFE Call Center that he/she did not enroll in the Exchange, did not give authorization or consent to an enrollment, and did not want the coverage;

2. The enrollment was completed by an agent or broker or an individual acting under the agent or broker’s direction or control;

3. The consumer is receiving 100% APTC or, if not 100%, the portion of the premium that is the responsibility of the enrollee was not made in whole or in part resulting in the termination of the policy;

4. The issuer has had no contact from the enrollees such as calls to customer service, emails, letters or any other direct contact, with the exception of communications from the enrollee stating that they did not know about or consent to the enrollment; 

5. No claims have been filed for any of the enrollees on each policy.

The regulation permitting cancelation can encompass a broader range of circumstances, but taxpayer representatives should check to see if their client meets the criteria for faster resolution of their dispute.  

One note on timing. While the regulation grants a 60-day dispute window, I would encourage advocates to try for cancelation in compelling situations even if the taxpayer discovered the fraudulent enrollment over 60 days ago. The regulation sets minimum requirements for exchanges to allow cancelations; it does not prevent an exchange from allowing a longer window or from making exceptions to the time limit under a reasoned, consistently applied policy. An exchange’s approach to cases beyond the 60-day window may vary also depending on whether the insurance company consents to the cancelation.  

Final thoughts 

If a taxpayer misses the 60-day dispute window, and the exchange refuses to cancel the coverage, is there any remedy in the Tax Court? As set out above, the taxpayer will likely not prevail by relying on equitable claims or principles. However, a legal argument based on analysis of the Code may have a chance of success. The case of Roberts v. Commissioner, 141 T.C. 569 (2013) (blogged by Scott Schumacher here) may provide some small hope by analogy. In his blog post, Scott explains the legal issue in Roberts: 

Roberts owned several IRA accounts, and during the year at issue, someone withdrew substantial amounts from those accounts.  Roberts said his now ex-wife forged his signature and took the money, while the ex-wife said that she had nothing to do with it.  The IRS took the position that even if she took the money, Roberts as the owner of the retirement accounts, was still taxable on the withdrawals.  

Thanks to the efforts of the University of Washington LITC, the taxpayer prevailed. Scott writes: 

Judge Marvel found that Roberts’ wife had in fact withdrawn the funds from his IRA accounts.  The Court went on to hold that because Roberts did not request, receive, or benefit from the IRA distributions, he was not a payee or distributee within the meaning of section 408(d)(1). 

Could a similar legal argument be made in the case of fraudulent exchange enrollment? If a taxpayer had no idea they were signed up for insurance and they meet all five criteria set out by CMS for expedited cancelation, were there actually “advance payments to [the] taxpayer” made within the meaning of section 36B(f)(2)? This may be ultimately a losing argument, but it could be one worth trying. It seems wisest to continue advocacy with the exchange, issuer and CMS, even if the taxpayer is pursuing an administrative or Tax Court appeal.