Supreme Court Agrees to Hear Challenge to USF's Unconstitutionality

On November 22, the Supreme Court granted a writ of certiorari in Consumers' Research v. FCC. The case involves a constitutional challenge to the Universal Service Fund's (USF) contribution mechanism – or "USF Tax." The grant of certiorari is welcome news because it means that the court will resolve a circuit split between the Fifth Circuit. It also provides occasions for the court to clarify the doctrinal status and contours of the non-delegation doctrine. 

The roughly $8 billion annual USF subsidy program is funded by USF surcharges included as line items on the long-distance portion of voice consumers' monthly bills. Due to the increasing size of subsidy distributions and the shrinking size of the contributor base, the quarterly-adjusted surcharge rate has risen to 35.8% -- a much, much higher rate than just a few years ago. 

 

The Supreme Court will be reviewing the July 24 en banc decision by the U.S. Court of Appeals for the Fifth Circuit that determined the universal service contribution mechanism violates the Legislative Vesting Clause of Article I of the U.S. Constitution. The Fifth Circuit held that Congress's broad delegation of tax authority to the FCC under Section 254 of the Communications Act, combined with the agency's delegation of tax authority to a private entity to collect surcharges from voice carriers and administer the USF, constituted a constitutional violation. Fifth Circuit's en banc decision in Consumers' Research v. FCC, as well as the concurring and dissenting opinions, are summarized in my August 5, 2024 Perspectives from FSF Scholars, "Fifth Circuit Rules USF Contribution Scheme Violates Legislative Vesting Clause." 

 

The Sixth and Eleventh Circuits previously upheld the USF's contribution mechanism from identical challenges. The Supreme Court will resolve the split between the lower courts. And the court will have occasion to revisit the non-delegation doctrine, which is implicated by the case.  

 

In 2025, expect Free State Foundations scholars to have more to say about a future Supreme Court decision in Consumers' Research v. FCC and the need for Congress to modernize the USF for the broadband era. 

USF Surcharge Rate Hike – Now Up to 35.8%

On September 11, the FCC's Office of Managing Director announced that the Universal Service Fund (USF) contribution factor for the fourth quarter of 2024 will be 35.8% This appears to be an all-time high and serious concern for voice consumers who bear the burden of paying for USF surcharges. Absent any unlikely intervention by the FCC's Commissioners, the proposed rate will soon go into effect.

Functionally, USF surcharges are taxes paid by voice consumers on the long-distance portion of their monthly voice service bills. The USF tax money collected by the voice carriers goes to the Universal Service Administrative Company (USAC), a corporation established by the FCC, which is the administrator of the USF program and distributes the money to program recipients. For additional background on the recent history of persistent and worrisome increases in the USF surcharge rate, see Free State Foundation President Randolph May's June 14, 2024 blog post, "The Telephone Tax Rises Again – Now 34%." 

 

My August 9 Perspectives from FSF Scholars, "Court Ruling on USF's Unconstitutionality Should Spur Reform in Congress" explained that the Fifth Circuit’s decision holding the USF contribution scheme unconstitutional in Consumers' Research v. FCC should serve as a catalyst for Congress to promptly undertake fiscal reforms of the USF program and put it on stronger constitutional footing.  

State Court Rules that USAC is Tax-Immune in Lifeline Case

On March 7, the Washington State Supreme Court issued its decision in Assurance Wireless USA, LP v. State of Washington Department of Revenue (2024). At issue in the case is whether funds received by telecommunications carriers participating in the federal Lifeline program are subject to Washington's retail sales tax. In a unanimous 9-0 decision, the Washington Supreme Court concluded that because the Universal Service Administrative Company (USAC) operates as an instrumentality of the federal government, imposition of the retail sales tax violates the intergovernmental tax immunity doctrine. The effect of the court's decision is that it ensures that tax burdens are not saddled on Lifeline program providers and low-income beneficiaries.

The USAC is the FCC's appointed non-profit entity for administering the Universal Service Fund and the Lifeline program. The Washington Supreme Court determined that the USAC is the "buyer" from whom telecommunications carrier and Lifeline program participating provider Assurance Wireless should have been collecting the tax. That is to say, the court determined that the incidence of the state retail sales tax falls on the USAC.

Under the intergovernmental immunity doctrine, the federal government and instrumentalities closely connected to it are immune from all forms of taxation absent express Congressional waiver of immunity. The Washington Supreme Court determined that provisions contained in Section 254(e) and 254(f) of the Communications Act do not constitute Congressional waivers. Looking to factors identified in U.S. Supreme Court jurisprudence for determining whether an instrumentality is closely related to governmental activity and therefore tax-immune, the Washington Supreme Court wrote: 

Weighing all the factors, we conclude that USAC is an instrumentality of the federal government. It exists solely to carry out the FCC's mission of advancing universal service, which includes the Lifeline program, and USAC pursues no independent business objectives. Congress has acknowledged the FCC's reliance on USAC and approved of their relationship as the means of implementing universal service programs. Further, although USAC is nominally an independent nonprofit, the FCC's regulatory control over USAC's operations, leadership composition, and finances have produced an entity so closely related to the FCC that we conclude it operates as an instrumentality of the federal government for purposes of the intergovernmental tax immunity doctrine. 

In a November 9, 2024 FSF Blog post, "State Court Weighing USAC on Tax Immunity for Lifeline," I previewed this case. I suggested that Assurance Wireless USA had a stronger position on the tax immunity of the USAC. Former FCC Commissioners Robert McDowell and Mignon Clyburn were among those who filed amicus curiae briefs favoring tax immunity for the USAC. The effect of such immunity is that it better enables Lifeline to serve its programmatic purpose of providing telecommunications services to qualifying low-income individuals. 

 

Universal service reform and the Lifeline program were topics for discussion during the hot topics in communications law and policy panel at the Free State Foundation's 16th Annual Policy Conference held on March 12.

 

 

Video of that panel and former FCC Commissioner Mignon Clyburn in discussion with former Commissioner Mike O’Rielly and two current Commission members can be found on FSF's video web page. 

State Court Weighing USAC on Tax Immunity for Lifeline

On October 26, the Washington Supreme Court heard oral arguments in Assurance Wireless USA v. State of Washington Department of Revenue. At issue in the case is Washington State's attempt to impose retail sales tax obligations on Assurance for providing wireless services to individual participants in the Lifeline program. The parties disagree over the Assurance's provision of wireless services to individuals is a taxable sale. The Lifeline subscribers do not pay Assurance for the service, and Assurance claims that the FCC is the buyer of Lifeline services because payment to Assurance comes from the FCC via the U.S. Treasury and that the transaction is therefore immune from state taxation. But the State argues that the Universal Service Administrative Company (USAC) is the buyer of the wireless services for Lifeline users, and thus as a private corporation – and not, it is argued, a federal instrumentality – the transactions are not immune from taxation.

Indeed, the central question to be addressed by the Washington Supreme Court in Assurance Wireless USA is whether the USAC is a federal instrumentality that is exempt from state taxation. Owing to the peculiar composition and function of the USAC in administering the Lifeline program on sub-delegated authority from the FCC, the parties' briefings offer sharply contrasting views on the matter.

According to Assurance's supplemental brief: 

Unlike a federal contractor, USAC is so interconnected with the FCC's function of universal service that the two cannot realistically be viewed as separate. USAC was created at the FCC's direction. Pet. 22. USAC has no funding apart from the USF, and the FCC approves its quarterly administrative budget. 47 C.F.R. § 54.423. The FCC prescribes each of USAC's functions and the rules under which it carries out these functions. USAC must report the amounts of money disbursed for Lifeline to the FCC on a quarterly basis. 47 C.F.R. § 54.702(h). Such reporting must comply with federal financial management statutes. 47 C.F.R. § 54.702(n). The FCC appoints and/or approves all USAC’s board members. 47 C.F.R. § 703(c)… For purposes of federal laws, courts have noted the FCC's control over USAC is so integrated that USAC should be treated as the government… If USAC does not "stand in the shoes" of the FCC when it performs mere ministerial tasks at the FCC’s behest, no private entity would ever be treated as an instrumentality. Pet. 26. No court has overruled the longstanding precedent which extends tax immunity to federal instrumentalities. See Rev. Rul. 57-128, 1957-1 C.B. 311 (listing factors that the I.R.S. uses to determine if entities are instrumentalities of states for purposes of the federal taxation).

But the Washington Department of Revenue views the USAC differently: 

[T]he U.S. Supreme Court has narrowed the concept of an "instrumentality" of the federal government. In order for the courts to confer tax immunity on a private entity, that entity must be "incorporated into the government structure." New Mexico, 455 U.S. at 737 (internal quotation marks omitted). Or, stated slightly differently, the private entity must be "'so assimilated by the Government as to become one of its constituent parts.'"… Congress has not conferred tax immunity on the USAC, and Assurance does not argue otherwise. Moreover, imposing a state retail sales tax on goods or services purchased by the USAC in no way interferes "with the functions of [the federal] government itself." New Mexico, 455 U.S. at 736… Instead, the USAC is a wholly-owned subsidiary of a trade association that has been given the responsibility to "collect, pool, and disburse the universal service support funds contributed by carriers." Incomnet, 463 F.3d at 1067. Moreover, the USAC has expressed publicly that it is not "a federal government agency or department or a government controlled corporation." CP 299. Likewise, the FCC has publicly acknowledged that the USAC "is a private corporation, not a public entity." Report on the Future of the Universal Service Fund, FCC 22-67 at *41 ¶ 117, 2022 WL 3500217 (F.C.C. 2022) (citations omitted). Because the USAC is a private corporation and not a federal entity, members of its board of directors are not required to be nominated and appointed by the President of the United States under the Appointments Clause of the federal constitution. Id.

There is no timeline on when Washington Supreme Court will make its decision. However, I favor the view that the USAC is a federal instrumentality and thus immune from taxation.

 

Free State Foundation President Randolph May and I address a broader set of structural issues regarding universal service – including programs such as Lifeline – in our April 2021 Perspectives from FSF Scholars, "Congress Should Put Universal Service on a Firmer Constitutional Foundation." And in August of this year, FSF President May and I submitted public comments with Universal Service Fund Working Group led by Senators Ben Ray Lujan and John Thune. 

USF Surcharge Rate Spikes to 34.5%

On September 13, the FCC's Office of Managing Director announced that the Universal Service Fund (USF) contribution factor for the fourth quarter of 2023 will be 34.5%. This appears to be a record high and a matter of concern for voice consumer welfare and for the future financial integrity of the USF. Absent any unlikely intervention by the FCC's Commissioners, the proposed rate will soon kick in.

The 34.5% figure may not be as high as the prediction of a 36.2% rate for the quarter that was recently was made by an analyst – and discussed in Free State Foundation President Randolph May's September 6 blog post, "How Do You Spell 'Unsustainable'? U-S-F!" But 34.5% is unreasonably high and burdensome on voice consumers. The recent rate increase provides another reminder that a future financial derailment of USF remains an alarming realistic concern that Congress should address. 

 

As briefly noted in my blog post from March 15 of this year, "Consumers Still Burdened as FCC Sets USF Surcharge Rate at 29%" – the USF contribution factor is used to determine the line-item surcharge on voice consumers' monthly bills. The surcharges effectively are taxes on voice consumers to pay for USF programs. 

 

On August 25, the Free State Foundation submitted comments to the Universal Service Working Group lead by Senators Luján and Thune. In those comments, we recommended that Congress replace the current USF system with a broadband-oriented regime that is more focused on supporting low-income Americans and more politically accountable. 

Sixth Circuit Denies Nondelegation Challenges to USF Regime

On May 4, the U.S. Court of Appeals for the Sixth Circuit rejected nondelegation and private nondelegation challenges to Section 254 of the Communications Act. In Consumers' Research v. FCC, a three-judge panel for the Sixth Circuit held unanimously that the statutory framework regarding universal service that Congress provided the FCC in Section 254 "contains an intelligible principle because it offers nuanced guidance and delimited discretion to the FCC." Additionally, the court held that "[b]ecause of the [Universal Service Administrative Company's] subordination to the FCC and its assistance with fact gathering and ministerial support, there is no private non-delegation doctrine violation."

A similar legal defeat regarding nondelegation challenges to the administrative mechanism for funding universal service took place in the Fifth Circuit on March 24 of this year. Apparently, the decision in the Fifth Circuit is the subject of a pending petition for en banc review by the entire Fifth Circuit. Another case raising nondelegation challenges to Section 254 is still pending in the Eleventh Circuit. 

Fifth Circuit Denies Nondelegation Challenges to USF Regime

Today, March 24, a three-judge panel of the U.S. Court of Appeals for the Fifth Circuit denied constitutional challenges to the administrative regime for the Universal Service Fund. In Consumers' Research v. FCC, the Fifth Circuit rejected the claim that Congress improperly delegated authority to the Commission to administer the USF under Section 254 of the Communications Act. According to the court, Section 254 supplied the Commission with intelligible principles when it tasked the agency with overseeing the USF, and that the statute sufficiently limited the agency's power to raise revenues. Additionally, the Fifth Circuit ruled that the FCC's redelegation of authority to the USAC to administer the USF does not run afoul of the private nondelegation doctrine. According to the court, the USAC is subordinate to the Commission and the agency is not bound by USAC decisions. Instead, the Commission but can review the USAC's decisions and grant relief from them as well as determine how USF contributions are calculated and review the calculations made by the USAC.

As noted in an April 2022 blog post, President Randolph May and the Free State Foundation joined an amicus brief that was filed with the Fifth Circuit in this case. 

 

Although in Fifth Circuit appears to have made short work of nondelegation challenges to the USF in Consumers' Research v. FCC, there are nondelegation-related challenges to the scheme for administering the USF still pending in the Sixth and Eleventh Circuit Courts of Appeal.