Cases Over Using Covid Aid for Tax Cuts Fizzle as Deadline Nears

Republican-led states challenging restrictions on using federal pandemic relief for tax cuts may be reveling in the progress they made in six federal lawsuits, but the litigation has others wondering whether it was all a waste of time.

Federal appeals courts have split on whether states have standing to challenge the American Rescue Plan Act’s “offset provision,” which says states can’t use the federal money to either directly or indirectly offset a reduction in net tax revenue. Courts that have reached the merits agreed with the states that the provision isn’t clear. The US Supreme Court declined to grant two petitions brought by states on the standing issue, and the federal government decided recently not to seek the court’s review on the second of two losses on the merits.

Solicitor General Elizabeth Prelogar said she based her decision not to appeal the rulings on the approaching deadline to spend the funds, noting that no states appear to have used the money inappropriately. Any tax cuts the states have implemented can be attributed to the better-than-expected economic situation, she said.

West Virginia, which led the states in the US Court of Appeals for the Eleventh Circuit challenge, heralded the solicitor general’s move as a victory that allowed the state to pass major tax cuts. The state’s Republican Attorney General Patrick Morrisey said the case was about state sovereignty and protecting the state from federal overreach.

“We have fought back against that overreach with the November 2021 win in district court, but the Biden administration kept on insisting their interpretation of the law is correct,” Morrisey said. “It was not, and the court agreed.”

But Nikki Dobay of Greenberg Traurig LLP, who represents multistate taxpayers, questioned whether the litigation got the states anywhere. At the end of the day, the states got the money, the federal government doesn’t seem interested in clawing any of it back, and “there was a lot of time and money put into this litigation,” she said. “So I don’t know who won.”

Status of Cases

ARPA allocated nearly $2 billion to all 50 states and Washington, D.C., for various specified purposes, but prohibited using the funds to directly or indirectly offset a revenue reduction resulting from a tax cut.

The states challenging the law argued the restriction on the funds is ambiguous and coercive.

The Ninth Circuit held Arizona had standing because the danger that the federal government would enforce the provision is real. The Eighth Circuit created a circuit split two months later when it ruled that Missouri’s alleged injury—"threatened unconstitutional application” of the provision—isn’t actual or imminent. The Sixth Circuit held that a suit led by Ohio was moot. The US Supreme Court declined to hear the Missouri and Ohio cases in 2023.

The states seemed do to better on the merits. The Sixth Circuit held that the provision is too vague to be enforced in another challenge led by Kentucky and Tennessee. The Eleventh Circuit held that the offset provision violated the US Constitution’s spending clause, because the states couldn’t ascertain the condition imposed on the funds. These are the cases the Treasury Department decided not to appeal.

As Prelogar explained in her letter advising the House of Representatives that the Justice Department wouldn’t appeal the Eleventh Circuit ruling, the deadline for states to use the recovery funds—Dec. 31, 2024—is looming. The majority of the states challenging the offset provision are likely to satisfy the conditions in Treasury’s rule implementing the provision, and many states are seeing revenue surpluses, she said.

UC Davis School of Law Professor Darien Shanske agrees with the Justice Department’s decision, noting that he found the decisions striking down the offset provision unconvincing: “Given that the stakes are low and that low stakes often make for bad law, it is wise not to appeal even the silly decisions further.”

Another challenge by Texas was argued at the Fifth Circuit in April 2023, but the court hasn’t ruled. Arizona dropped its challenge after a Democrat was elected attorney general.

Low Stakes

Joe Bishop-Henchman was pleased to see the federal government concede that it isn’t planning to go after any states for misusing the funds, saying that the litigation stopped the threat. He is executive vice president of the National Taxpayers Union Foundation, an organization that advocates for fiscally conservative tax policy.

“If they think they’re right, I don’t know why they’re not appealing other than to save face on an issue they have lost with every court that reached the merits,” Bishop-Henchman said. “Over half the states have cut taxes in the last few years and there was real danger that the federal government would intrude in those decisions by using this provision.”

Dobay asked whether these cases—brought by states “bristle and push back” whenever the federal government tries to exert any control—have moved the needle on federal legislation that impacts states.

“I don’t anticipate that the federal government’s going to give the states that much money again for quite a while,” she said. “So, you know, probably by the time they do, we’ll have all forgotten about this and we’ll have another brouhaha.”

Dobay also takes a small amount of pleasure in hearing the states complain about getting audited just like her clients.

“You’re complaining about the thing that we have to do as a matter of course for the federal government and the states,” she said. “You’re up in arms because you’re going to have to do some reporting about a bunch of money you got.”