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Is it a Tax? Is it Constitutional?

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By far the most controversial provision of the health care reform legislation pending in Congress from a constitutional perspective has been the individual mandate. The primary controversy has concerned the issue, which we addressed two weeks ago, of whether the commerce clause authorizes Congress to impose an individual mandate. A different constitutional issue, however, was raised by Senator Hatch in the Finance Committee hearings and also on his Facebook page. That is whether or not the penalty that is imposed for failure to purchase health insurance is a tax, and if so whether it is constitutional.

Whether or not the individual mandate imposes a tax is of vital importance politically. In our time when everyone expects government to be a free lunch, raising taxes is more dangerous for a politician than having a love child in an adulterous relationship with a prostitute. Moreover, the particular question of whether or not the health reform legislation raises taxes is, if anything, more important because of President Obama’s specific campaign promise not to raise taxes on the middle class. The grilling that President Obama got from George Stephanopoulos on this issue during Obama’s Sunday talk show marathon in late September demonstrates how hot the issue is.

But beyond the political problem is the constitutional issue raised by Senator Hatch. For those readers who are nonlawyers, or for those lawyers who slept through the section of their constitutional law class dealing with taxation (what?), the Constitution recognizes four types of taxes: 1) “Duties, Imposts and Excises,” generally called indirect taxes, which must be uniform throughout the United States (Art. I, sec. 8, cl. 1); 2) capitation, or other direct taxes, which may only be imposed “in Proportion to the Census” among the states (Art 1, sec. 2, cl. 3; Art. 1, sec. 9, cl. 4); export taxes, which are prohibited (Art. 1, sec. 9, cl. 4); and the income tax, permitted by the 16th Amendment, which can be imposed without apportionment among the states.

All of the health reform bills currently pending in Congress require individuals to be insured, subject to exceptions (such as aliens or individuals not residing in the United States, who have a religious objection to being insured, or who cannot find affordable insurance.) Each of the bills enforces this mandate by imposing an exaction on those who do not comply. HR 3200, the House bill, imposes a tax of 2.5% of the excess of an individual’s modified adjusted gross income over the exemption amount, up to the national average premium for nongroup coverage. The Senate Health, Education, Labor and Pension Committee bill requires the uninsured who do not fit within its exceptions to pay an “amount” to be determined by the Secretary of HHS equal to at least half of the cost of the average insurance policy. The Senate Finance Committee bill imposes an “excise tax” on individuals who are not insured.

As far as I know, the term “tax” is nowhere defined in the Constitution or in the Internal Revenue Code. The issue of whether an exaction imposed by the government is a tax or not, however, arises frequently in litigation under the bankruptcy code, which accords a higher priority to “taxes” than to “penalties.” In that context, the Supreme Court has held a number of times that “a tax is a pecuniary burden laid upon individuals or property for the purpose of supporting the government” while a penalty is “punishment for an unlawful act or omission.” United States v. Reorganized CF & I Fabricators (1996). Whether or not the exaction is called a “tax” is irrelevant to this determination. By this test, the “amount” imposed by the health reform legislation could be considered a penalty, not a tax (score Obama 1, Stephanopoulos 0).

Whether or not this is a desirable result, however, for advocates of health care reform is not immediately clear. If the exaction is a penalty the provisions of the Constitution that apply to penal sanctions, such as the excessive fines, double jeopardy, and possibly self-incrimination protections might apply. The latter provision is particularly problematic as the legislation depends on self-reporting for enforcement. The extent to which the self-incrimination protection is applicable to regulatory requirements is a complicated issue, and will not be addressed here.

There are also Supreme Court cases, however, that have upheld the constitutionality of taxes as taxes, even though their primary purpose was to regulate, discourage, or deter behavior, and even though they raised minimal revenue for the government. United States v. Sanchez (1950); Sonzinsky v. United States (1937). The exaction may, therefore, in fact be tax.

The question then becomes whether it is a direct tax, an indirect “duty, tax, or impost,” or an income tax? HR 3200 imposes a tax on income, an approach presumably permitted by the 16th Amendment. The Senate bills impose, however, a flat amount unrelated to income. If this tax is indirect, it is permissible as long as it is uniform throughout the country. Because the cost of insurance varies dramatically from state to state, Congress could be tempted to make the penalty for being uninsured vary as well, but this would not be permitted if the exaction is an indirect tax. If the exaction is a direct tax, however, it is essentially unworkable because it would have to be apportioned among the states based on the census.

Is the exaction in the Senate Finance bill direct or indirect? The Constitution does not define either, but only capitated taxes (identified in the Constitution to be direct), and property taxes, and, prior to the 16th Amendment, the income tax, have been identified by the Supreme Court as direct taxes. All other taxes that the Supreme Court has considered have been held to be indirect. The Court has stated that the terms “duties, imposts, and excises . . . were used comprehensively to cover customs and excise duties imposed on importation, consumption, manufacture, and sale of certain commodities, privileges, particular business transactions, vocations, occupations, and the like.” (Charles C. Steward Mach. Co. v. Davis (1937), Thomas v. U.S. (1904)). It is nearly comprehensive. Indeed, the Supreme Court has not in over a century held a tax to be a direct tax.

Taxes on consumption are invariably held to be indirect, and the individual mandate tax is essentially a tax on consumption of insurance. Instead of taxing the purchase of insurance, however, it taxes the refusal to purchase insurance, recognizing that individuals who go without insurance impose a burden on society when the uninsured individual ends up receiving “uncompensated care” or being cared for at public expense. The exaction is not imposed on all individuals, like a capitation tax, but only on those who are not insured. The exaction is not a property tax. It is almost inconceivable that the Supreme Court would consider it to be a direct tax.

There is news today that Senator Schumer has proposed a different form of exaction on the uninsured–one that would be placed in a trust fund and could be used by the individual subject to the exaction at a later date to purchase insurance. This solution may be more politically acceptable, it may even make sense as a matter of policy (although it might reduce the amount of revenue attributable to the legislation), but it seems to me that it would still be likely to be considered an indirect tax.

I thank Professor Erik Jensen for helping me understand this difficult area of the law, but in no way hold him responsible for the conclusions I have reached.

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  • An Income Tax that Doesn’t Tax Income? « Legal Issues in Health Reform says:

    […] Legal Issues in Health Reform « Is it a tax? Is it constitutional? […]

  • Mark Hall says:

    Regarding the “proportionality” provision in Art. 1 Sec. 8 of the Constitution, Madison’s Notes of the Debates in the Federal Convention of 1787 contain the following notation:
    “Mr. King asked what was the precise meaning of direct taxation? No one answered.”

    That pretty much sums up the original intent on this question.

    Mark Hall

    • Todd Cultra says:

      I think the issue is a bit more nuanced. They are imposing a tax/penalty on wage earners who do not buy a product – health insurance.

      Every other tax is based on what you choose to buy except income tax, which is based on what you earn. There is no tax on anything you choose not to buy. Even car insurance is only mandatory if you buy a car.

      We should either make it mandatory like social security or not violate the constitution with an impermissible tax.

      Rather, we should just raise the income tax

  • Heir of Publius » Join, or Die Pay says:

    […] Jost sums up the relevant constitutional tax issues for the Georgetown O’Neill Institute blog. [T]he Constitution recognizes four types of […]

  • Health Affairs Blog says:

    […] The fact that the failure to purchase insurance results in an income tax rather than a fine strengthens the argument for its constitutionality because of the arcane constitutional provisions dealing with […]

  • What is an Excise Tax? : Organon says:

    […] Art. I, § 9, cl. 4, must be laid “in proportion to the census.” See this very helpful overview of constitutional tax issues in health reform from Tim Jost. […]

  • Suzzy Nail Technician says:

    I think they are killing us with all these taxes and stuff… Why must all be related to politics?

  • Tidsregistrering says:

    Do we realy need all these taxes? We pay tax on tax… Soon we will be paying taxes for breathing aire. I personaly dont need any health reform if this means that i will have to pay more.

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