A taxpayer who fails to carry minimum essential health coverage through 2018 and is not exempt from this requirement owes a shared responsibility payment. It is treated as a tax owed on the person’s tax return. But if the taxpayer files for bankruptcy, what happens to this payment? That was the question before a bankruptcy court, which had to decide whether the payment is an excise tax or a penalty. If it’s an excise tax, then it has priority status for the IRS’s claim to it. If it’s a penalty, it is merely a general unsecured claim.
The case involved a person who owed a $664 individual shared responsibility payment for not having health coverage in 2016. She filed a petition for bankruptcy on May 10, 2017. The bankruptcy court decided that it is a penalty (In Re: Angela Boykin Parrish, No. 17-02341-5, 4/6/18).
In a challenge to the Affordable Care Act, the U.S. Supreme Court had viewed the individual mandate as a tax (National Federation of Independent Business v. Sebelius, 567 U.S. 519 (2012)). While the language of the code section imposing the payment for non-coverage describes it as a penalty, the Supreme Court said it could be reasonably characterized as a tax for constitutional purposes because it is assessed and collected in the same manner as a tax:
- The individual mandate payment is paid into the Treasury when taxpayers file their tax returns;
- It does not apply to individuals who do not pay federal income taxes because their income is below the filing threshold;
- The amount is determined by taxable income, number of dependents, and filing status;
- The requirement to pay is in the Internal Revenue Code, is enforced by the IRS, and collected in the same manner as taxes; and
- It produces some revenue for the government.
Nonetheless, the bankruptcy court said the most natural reading of the law for purposes of the Bankruptcy Code is that the shared responsibility payment is a penalty. This is because the primary purpose of the payment is to discourage Americans from living without health insurance coverage and not to support the government fiscally. The shared responsibility payment is due when an income tax return is filed, but the typical consequences that result for non-payment of taxes, such as wage garnishments or tax liens, do not apply. Further, the fact that the amount of the shared responsibility payment depends on income does not make it an income tax, since its assessment is not dependent on income but rather on the failure to purchase health insurance.
For an individual filing a Chapter 13 bankruptcy, which is a payment plan to handle debts over three to five years, a priority debt remains payable even after the period of the payment plan. In contrast, an unsecured debt, as in this case, is only paid to the extent the debtor can do so during the payment period. In general, outstanding tax bills for income taxes that are unpaid when filing for this bankruptcy are treated as priority debts.