August 27, 2013 – The IRS released the final rules on August 27, 2013 for the individual mandate and associated “shared responsibility payment” authorized by § 5000A of the Internal Revenue Code (as added by § 1501(a) of the Affordable Care Act). These rules largely finalize the proposed version of the rules issued earlier this year with a few modifications. This preliminary analysis summarizes the final rules.Background: The statutory provision at § 5000A was the focus of substantial litigation, culminating in the Supreme Court’s decision in NFIB v. Sebelius announced on June 28, 2012. While the Court upheld the individual mandate and this related enforcement provision, it struck down a separate provision in the Affordable Care Act requiring states to expand Medicaid to adults under 138% of the federal poverty level. Following the Court’s decision, the IRS issued proposed rules about § 5000A, which appeared at 78 Fed. Reg. 7314 (Feb. 1, 2013).
Complementary Role of HHS: The Department of Health and Human Services (HHS) has related authority to determine “hardship exemptions” to the individual mandate. Additionally, individuals seeking exemptions from the § 5000A penalties must generally apply for these through the new exchange marketplaces. The Department issued final rules on these topics at 78 Fed. Reg. 7348 (Feb. 1, 2013), available at http://www.gpo.gov/fdsys/pkg/FR-2013-02-01/pdf/2013-02139.pdf, and posted special guidance on this topic on June 26, 2013, which is available at http://www.cms.gov/CCIIO/Resources/Regulations-and-Guidance/Downloads/exemptions-guidance-6-26-2013.pdf.
Overview of Final Rules: Section 5000A generally requires individuals to pay a “shared responsibility payment” for each month that they (or their dependents) do not have minimum essential coverage (MEC). The final rules address the applicability of the provision, definition of MEC and other terms, certain exemptions from the mandate, the calculation of penalties, and general administrative issues.
Here is a summary of some of the key issues that the final rules address:
Minimum Essential Coverage
- Certain types of Medicaid do not count as MEC: These include limited-scope coverage under Medicaid for pregnancy, tuberculosis, family planning services, and emergency services. However, the preamble to the rules notes the IRS plans to issue future guidance explaining that individuals with these types of limited Medicaid coverage will not face a penalty in 2014, the initial year of implementation. Further, the rules note that many of these individuals may be eligible for a hardship or other exemption from the penalty during and after 2014.
- Pending Medicaid/CHIP does not count as MEC: The rule also states that individuals with Medicaid/CHIP applications pending review at the state or local human services office may still face penalties for the period during which they await an eligibility determination. The rule notes that most states offer “retroactive eligibility” to the date of application (or the 90 days preceding that date in certain instances); the drafters conclude that this should be sufficient to address the issue. However, this is still likely to be a concern for residents of Tennessee and other states that do not award retroactive eligibility in Medicaid/CHIP – and for residents of any states that apply for Medicaid and are denied eligibility but do not secure coverage while their application is pending. The latter concern may largely involve those applying for non-MAGI categories and who apply directly to the State and not via an exchange marketplace.
- Medicaid demonstrations may not count as MEC: The rule generally notes that the IRS does not consider Medicaid demonstrations (“1115 waivers”) to constitute MEC – but it will defer to HHS on making a determination in this regard under special statutory authority given to the HHS Secretary at § 5000A(f)(1)(E). As in the case of certain other types of Medicaid coverage, the preamble to the rules notes the IRS plans to issue future guidance explaining that individuals with Medicaid demonstration coverage will not face a penalty in 2014, the initial year of implementation. Further, the rules note that many of these individuals may be eligible for a hardship or other exemption from the penalty during and after 2014.
- Certain types of Medicaid do count as MEC: As a technical matter, the final rules clarify that Medicaid coverage under the TEFRA, certain disabled children, premium assistance, home- and community-based (HCBS) waiver, and other eligibility categories do constitute MEC.
- No decision on Medically Needy/Spenddown: The final rules “reserve on whether Medicaid coverage provided to a medically needy individual” constitutes MEC. The preamble notes that future guidance will likely determine that it is not MEC, but the IRS notes that HHS could exercise its authority § 5000A(f)(1)(E) to treat Medically Needy coverage as MEC. Thus, it is unclear whether individuals in Medicaid Spenddown (those whose are otherwise eligible for Medicaid except but for income and have substantial medical bills for some income in excess of the eligibility threshold – and who have medical bills greater than that excess income for a particular month) will satisfy the mandate requirements. As in the case of certain other types of Medicaid coverage, the preamble to the rules notes the IRS plans to issue future guidance explaining that individuals with Medicaid demonstration coverage will not face a penalty in 2014, the initial year of implementation. Further, the rules note that many of these individuals may be eligible for a hardship or other exemption from the penalty during and after 2014.
- Other types of coverage discovered: The preamble to the final rules noted that Treasury recently became aware of certain types of limited-availability TRICARE, and the IRS has not yet determined whether these will satisfy the MEC requirements. The preamble suggests that such coverage may not constitute MEC but that enrollees in such coverage would not face a penalty in 2014, the initial year of implementation. In contrast, the rule did clarify that the Nonappropropriated Fund Health Benefits Program of Department of Defense likely meets the key components of the MEC standard.
- Affordability: The final rule notes that individuals who lack access to “affordable” coverage are exempt from the individual mandate. The rule states that individuals lack access to affordable coverage if they are unable to purchase coverage costing less than 8% of the household’s income.
- Bronze Baseline: When determining the affordability of coverage for individuals who only have access to coverage via the individual insurance, the lowest cost bronze plan available in that market (net of any premium assistance tax credits under IRC § 36B) would serve as the premium by which affordability is measured.
- Dependents: Unlike the definition of “affordability” of employer sponsored insurance for dependents for purposes of the tax credits under IRC § 36B, affordability for dependents is based on the costs of coverage for them- not the employee-only cost of coverage. Thus, families whose employers offer but do not subsidize family coverage may fall in paradoxical position: their dependents may have access to “affordable” coverage as defined under the implementing rules for IRC § 36B (and the dependents would be consequently ineligible for the tax credits), but the same coverage for the same dependents may not be “affordable” for purposes of § 5000A (and the dependents would consequently be exempt from the individual mandate and associated penalties).
- Uncertainty in Income: The preamble acknowledges that an individual may believe that he or she is exempt from the mandate on the basis of their estimated income and applicable premiums for coverage. However, unexpected windfalls or end-of-the-year payments may increase their actual income, making them subject to the penalty. The preamble only suggests that individuals apply for an exemption early in the year (which is based on projected income) so as to mitigate this risk.
- Tobacco gets counted: While the value of the tax credits under IRC § 36B does not increase to reflect the larger premium for persons who self-report using tobacco, the determination of “affordability” for purposes of § 5000A does use the tobacco-adjusted premium. This could be characterized as a partial “win” for tobacco users.
- MAGI Definitions: Unlike the rules for calculating modified adjusted gross income (MAGI) for the tax credits under IRC § 36B, the definition for MAGI for purposes of § 5000A does not appear to include Social Security income.
- Medicaid/CHIP and § 5000A: Based on the text of Example 3 in the final rule, it appears that individuals who are eligible for Medicaid and CHIP but do not enroll must go through the same exemption testing process as all other taxpayers. This is consistent with what we expected, but it contrasts with the approach that HHS has adopted in which is provided a blanket “hardship” exemption to any adult under the Medicaid income threshold but who resides in a state that has not expanded the program to adults under 138% FPL.
- Retirees and COBRA-eligibles: Persons eligible for post-employment benefits are considered eligible for affordable employer-sponsored insurance only if they actually enroll in such coverage.
- Short coverage gaps: Individuals who have a break of coverage (no more than once per year) of less than three full months are not subject to any § 5000A penalties. Jackson Hewitt urged the IRS to clarify that gaps of coverage prior to January 1, 2014 would not be taken into account. The IRS adopted this recommendation.
- Hardship exemptions: While HHS has authority to determine hardship exemptions, it has delegated this function to the IRS in instances in which the hardship relates specifically to the tax return (e.g., whether an individuals is below the filing threshold) or tax information (e.g., the calculation of affordability, based on an individual’s annual income).
- Other exemptions: Exemptions under the statute are also available to individuals below the filing threshold and to members of American Indian tribes and those eligible to use Indian provider health services. Additionally, the preamble addresses exemption issues relating to members of religious sects, health care sharing ministries, exempt noncitizens, incarcerated individuals, and expatriates with foreign coverage.
Penalty Calculations, etc
- Penalty Amounts: Subject to the short coverage gap and other exemptions, the IRS will assess penalties for each month that an individual does not comply with the individual mandate. As a general matter, the penalties are the greater of:
(a) 1% of household income in excess of the applicable filing threshold, increasing to 2.5% in 2016; and
(b) $95 per uninsured adult in 2014, increasing to $695 in 2016.>br />
With respect to (a), the potential penalty liability under this subsection could not exceed the national average premium for bronze coverage. With respect to (b) the penalty liability for uninsured minor dependents is one-half that for adults, though total potential penalties for families under this subsection would not exceed 300% of the penalty for a single adult.
- Taxpayers cannot escape liability for dependents: The rules clarify that a taxpayer is liable for a shared responsibility payment for an uninsured dependent. This remains true even if the taxpayer does not decide to claim the dependent; or (b) the other parent has the legal obligation to provide health coverage. The IRS notes that the HHS rules on “undue hardship” may partially address these issues.
- No § 6662 penalties: The preamble to the final rule clarifies that underpayments of § 5000A penalties are not underpayments of taxes; thus, any liability for § 5000A penalties are not taken into account when determining accuracy-related penalties under IRC § 6662.
- Future guidance: In the final rules, the IRS reserves judgment on a number of technical issues, noting that it will issue future rulemaking and guidance to address such topics. These include issues related to employer-subsidized pre-tax arrangements, health reimbursement arrangements, and employer-sponsored wellness programs.
While the Federal Register’s publication date of the final rules is unknown at this time, the IRS has published a version at http://www.ofr.gov/OFRUpload/OFRData/2013-21157_PI.pdf.
This is a preliminary analysis for discussion purposes. This document does not constitute legal or tax advice and should not be relied upon as such.