In the summer of 1997, Congress created the Roth IRA under legislation that became effective January 1, 1998 (the Taxpayer Relief Act of 1997 or TRA ‘97). TRA ‘97 provided that owners of traditional IRAs could roll-over those accounts into Roth IRAs. However, as constructed, the law allowed taxpayers who rolled over their traditional IRA to a Roth IRA to immediately withdraw those funds without paying the 10% tax on early withdrawals or withdrawals for non-retirement purposes. In July 1998, Congress corrected this problem and applied the 10% tax to such withdrawals effective as of January 1, 1998.

But by July 1998, when the law was reworked, Douglas Kitt already had rolled over his $69,000 IRA to a Roth IRA and then had withdrawn the bulk of it to pay off his mortgage. On his 1998 income tax return, Kitt included the $69,000 in his gross income and paid the resulting income tax, and he also paid the 10% additional tax on the withdrawal. He sought a refund of the 10% tax, which the IRS denied.

Kitt filed suit in the Court of Federal Claims, alleging the imposition of the 10% tax was unconstitutional because it was:

A retroactive imposition of a penalty that denied him due process in violation of the Fifth Amendment;

A taking of his property, for which he was entitled to just compensation under that amendment; and

The imposition of an excessive fine, in violation of the Eighth Amendment.

The Court of Federal Claims rejected Kitt’s contentions, and the Federal Circuit Court of Appeals recently affirmed.

Both courts rejected the characterization of the 10% tax as a penalty and determined that its retroactive application served a rational legislative purpose and was therefore consistent with Due Process. The courts also rejected Kitt’s takings claim, explaining that the government merely imposed a liability and did not seize or take any of Kitt’s property. Also, since the imposition of the tax was not “punishment,” it was not an excessive fine under the Excessive Fines Clause.

Kitt v. U.S., Fed. Cir. No.01-5002

Nursing home operators can breathe a little more easily now after the Mississippi Supreme Court ordered the state’s Division of Medicaid to reimburse a nursing home chain for nursing home services that were undervalued due to a computer programming glitch.

Beverly Enterprises, which operates more than 500 nursing homes nationwide, accidentally under-billed Medicaid by about $735,000 due to a computer error affecting the records of approximately 700 patients. After the error was corrected, Medicaid adjusted the pay rates prospectively from that date. Beverly requested reimbursement from the state for the amount lost, but the state, without disputing that Beverly was under paid, refused.

The Court found that the state’s failure to reimburse the nursing home operator was a violation of due process following a decision that was arbitrary and capricious. The Court reversed a chancery court’s judgment and the Medicaid orders that the corrections should not be applied retroactively. Beverly may recover the loss from the Mississippi Division of Medicaid.

And in other news:

Retroactive 10 Percent Tax Not Unconstitutional

Nursing Home Operator to Be Reimbursed for Medicaid Underpayment