A Primer on ACA Protective Refund Claims

What is the ACA Protective Refund Claim initiative?

Sometime this year or next, the U.S. Supreme Court (“the Court”) may once again decide on the constitutionality of the Affordable Care Act (“ACA”). A ruling by the Court against the ACA may give rise to refunds of certain taxes, principally the Net Investment Income Tax (and Additional Medicare Tax (collectively, the NIIT)), paid by individuals and certain trusts (as incepted by the ACA).    

The deadline to request a Protective Refund Claim (PRC) for ACA-related taxes paid with the 2016 federal Forms 1040 or 1041 (for certain trusts) was July 15, 2020, where the 2016 filings were filed on or prior to this date. In the case of an extended 2016 tax return (Form 1040 or Form 1041 for certain trusts) filed after July 15, 2017, and through October 16, 2017, the extended filing date is generally three years from the 2017 filing date; there are additional extended filing opportunities where 2016 tax filings were filed after October 16, 2017. By filing a PRC, the statute of limitation generally remains open until the constitutional issues are resolved.

For additional information related to the ACA and legislative and court history, please see the section below titled “What is the NIIT paid by individuals and certain trusts as incepted by the ACA.”

Please note: EisnerAmper is not providing legal advice or interpretation pertaining to any element of the ACA, NII, 2020 protective refund filing dates, or any related matter. This entire summary and our observations herein are general in nature, and all readers should consult their tax advisors for specific advice as applicable to all readers’ specific facts and circumstances. 

We have created an ACA Protective Refund Claim resource process to facilitate the preparation of the ACA Protective Refund Claim. As a component of our process, we assist our clients in assessing the benefit of filing a PRC, considering the NIIT paid and the likelihood of the Court overturning the ACA legislation. The process includes:

• Fillable Forms 1040X and 1041 (Amended) Protective Claim Templates
• Attachments to Forms 1040X/1041
• IRS Mailing Addresses

What is the NIIT paid by individuals and certain trusts as incepted by the ACA?

The ACA was enacted on March 23, 2010. As part of the ACA, IRC Code Secs. 1401(b)(2)(A) and 3101(b)(2) were effective starting on January 1, 2013. Under these sections, taxpayers pay an additional Medicare tax of 0.9% of Medicare wages and self-employment income over a threshold based on filing status. These taxes are computed on IRS Form 8959.

Under companion legislation, the Health Care and Education Reconciliation Act of 2010 (“HCERA”), IRC Code Sec. 1411 was also effective starting on January 1, 2013. Under this section, taxpayers pay a 3.8% tax on net investment income over the same thresholds as the additional Medicare tax. This tax is computed on IRS Form 8960.

A. The Court decision on ACA constitutionality

On June 28, 2012, the Court upheld Congress’ power to enact most provisions of the ACA and the HCERA. The Court held, in part, that the individual mandate functions constitutionally as a tax and, therefore, is a valid exercise of Congress’ taxing powers. The tax associated with the mandate is called the individual shared responsibility payment.

Texas and 19 other states filed a civil suit in the U.S. District Court for the Northern District of Texas in February 2018, arguing that with the passage of the Tax Cuts and Jobs Act of 2017, which eliminated the individual shared responsibility payment for not having health insurance, the individual mandate no longer had a constitutional basis and, thus, the entire ACA was no longer constitutional. The U.S. Department of Justice said it would no longer defend ACA in court, but 17 states, led by California, stepped in to do so.

District Judge Reed O'Connor of Texas ruled for the plaintiffs on December 14, 2018, stating that the "Individual mandate can no longer be fairly read as an exercise of Congress's tax power and is still impermissible under the Interstate Commerce Clause—meaning the individual mandate is unconstitutional." He then further reasoned that the individual mandate is an essential part of the entire law and, thus, was not severable, making the entire law unconstitutional. Judge O'Connor's decision regarding severability turned on several passages from the Congressional debate that focused on the importance of the mandate. While he ruled the law unconstitutional, he did not overturn the law.

The intervening states appealed the decision to the Fifth Circuit. These states argued that Congress's change in the tax was only reducing the amount of the tax, and that Congress had the power to write a stronger law. O'Connor stayed his decision pending the appeal. The Fifth Circuit heard the appeal on July 9, 2019; in the interim, the U.S. Department of Justice joined with republican states to argue that the ACA was unconstitutional, while the democrat-controlled U.S. House of Representatives joined the democratic states. In addition to the questions on ACA, an additional question on standing was addressed, as the republican plaintiffs challenged whether the democratic states had standing to defend ACA.

In December 2019, the Fifth Circuit agreed the individual mandate was unconstitutional. It did not, however, agree that the entire law should be voided. Instead, it remanded the case to the District Court for reconsideration of that question. The Court accepted the case in March 2020, but to be heard in the 2020/21 term, with the ruling likely falling after the 2020 elections.

B. The U.S. Department of Justice legal brief filed with the Court requesting the ACA be declared unconstitutional

On June 25, 2020, the Department of Justice filed a legal brief with the Court requesting that the ACA be declared unconstitutional. ACA-related taxes paid with Forms 8959 and 8960 are not specifically discussed in the legal brief, but could become null and void if the entire ACA is declared unconstitutional.

Consistent with applicable IRS procedures, this Protective Claim for Refund (1) contains a written component; (2) identifies and describes the contingencies affecting the claim; (3) alerts the IRS in sufficiently clear and definite language to the essential nature of the claim; and (4) identifies a specific year for which a refund is sought.

C. The essential nature of and grounds for the Protective Claim for Refund

Taxpayers rely on the following legal grounds and factual basis for filing their Protective Claim for Refund. In 2018, the U.S. District Court for the Northern District of Texas declared the ACA was no longer constitutional.  In December 2019, the Fifth Circuit agreed the individual mandate was unconstitutional. However, it did not agree that the entire law should be voided. In March 2020, the U.S. Supreme Court agreed to hear the case. In June 2020, the Department of Justice filed a legal brief with the Court requesting that the ACA be declared unconstitutional.

If the ACA is ultimately declared unconstitutional, then taxes assessed under the ACA and/or its companion legislation, HCERA, may become null and void and, thus, refundable for taxpayers who previously paid such taxes.

The essential nature of the Protective Claim for Refund is if the ACA is declared unconstitutional. And if all taxes paid under the ACA or the HCERA are null and void, then taxpayers would be due a refund on their 2016 (and subsequent years) Form 1040 for taxes paid on Forms 8959 and 8960. Therefore, with a timely ACA Protective Refund Claim filing, taxpayers would apprise the IRS that a refund may be sought (through the perfection of this timely filed Protective Refund Claim, by filing an amended Form  1040 after filing the ACA Protective Claim) upon the final resolution of the issues by the U.S. courts. Until resolution of the constitutionality of the ACA, and the associated taxes paid with respect to the ACA, it is currently not possible to determine the exact amount of any refund that would be due to the taxpayers for 2016 or any later tax year in which the ACA is in force.