A federal judge in Washington has denied the U.S. government’s motion to dismiss a lawsuit filed by Tri-State Memorial Hospital, which seeks to recover $11.5 million in tax refunds under the federal Employee Retention Credit (ERC) program. The ruling, handed down on Thursday, establishes a significant procedural victory for the healthcare provider, as the court found that the hospital had sufficiently alleged that its operations were partially suspended due to government-mandated COVID-19 restrictions.
The dispute centers on the interpretation of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, specifically the provisions intended to incentivize businesses to keep employees on their payrolls during the height of the global pandemic. Tri-State Memorial Hospital, a non-profit community hospital based in Clarkston, Washington, argues that it is entitled to the multi-million dollar credit because state-level emergency orders significantly curtailed its ability to perform elective procedures and provide routine care, thereby qualifying as a "partial suspension" of business operations.
The Legal Threshold: Plausibility Over Proof
In his decision, the presiding judge noted that at the motion-to-dismiss stage, the plaintiff is not required to provide absolute proof of its claims but must instead present a "plausible" case that a legal violation occurred or a right was denied. The government had moved to throw out the case, arguing that Tri-State failed to demonstrate that the government orders in question had more than a "nominal" impact on its business operations—a standard often cited by the Internal Revenue Service (IRS) in its internal guidance but one that is currently being tested in federal courts across the country.
Tri-State’s complaint detailed several specific mandates issued by Washington Governor Jay Inslee, including Proclamation 20-24, which restricted non-urgent medical and dental procedures to preserve personal protective equipment (PPE) and hospital capacity. The hospital alleged that these orders forced the closure of several departments and the cancellation of thousands of appointments, which directly led to the suspension of a substantial portion of its revenue-generating activities.
By allowing the case to proceed, the court has signaled that the hospital’s detailed accounting of these disruptions is sufficient to move the litigation into the discovery phase, where both parties will exchange evidence regarding the actual financial and operational impact of the pandemic-era mandates.
Background: The Employee Retention Credit Framework
The Employee Retention Credit was established in March 2020 as part of the CARES Act. It was designed to provide a refundable tax credit to businesses and tax-exempt organizations that were either:
- Fully or partially suspended due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings due to COVID-19; or
- Experienced a significant decline in gross receipts during the calendar quarter.
For the 2020 tax year, the credit was worth 50% of up to $10,000 in qualified wages per employee. In 2021, the credit was expanded to 70% of up to $10,000 in qualified wages per quarter for the first three quarters of the year. For a mid-sized healthcare facility like Tri-State Memorial, which employs hundreds of medical and administrative staff, the cumulative value of these credits can reach into the tens of millions of dollars.
However, the "partial suspension" clause has become a primary point of contention between taxpayers and the IRS. While a "significant decline in gross receipts" is an objective mathematical test, "partial suspension" is subjective and depends on the specific facts and circumstances of each case. The IRS has historically taken a narrow view, suggesting that if a business could continue some portion of its operations via telework or if the suspended portion was "nominal" (typically defined as less than 10% of total revenue or service hours), it might not qualify.
Chronology of the Dispute
The path to the current legal standoff began in the early months of 2020 and has evolved through several stages of administrative and legal challenges:
- March 2020: The CARES Act is signed into law. Washington Governor Jay Inslee issues a series of "Stay Home, Stay Healthy" orders and specific proclamations restricting elective medical procedures.
- 2020-2021: Tri-State Memorial Hospital maintains its staffing levels despite the suspension of elective surgeries and various outpatient services. The hospital later determines it is eligible for the ERC based on the "partial suspension" criteria.
- 2022-2023: Tri-State files amended payroll tax returns (Form 941-X) to claim the $11.5 million credit. The IRS fails to issue the refund within the expected timeframe or issues a formal denial, prompting the hospital to seek judicial intervention.
- September 2023: Amidst a surge in fraudulent ERC claims filed by "ERC mills" or aggressive third-party promoters, the IRS announces a moratorium on processing new ERC claims to implement stronger compliance measures.
- Late 2023/Early 2024: Tri-State Memorial Hospital files its federal lawsuit against the United States, alleging that the government has unlawfully withheld the $11.5 million refund.
- May 2026: The Washington federal judge denies the government’s motion to dismiss, clearing the way for a full trial or summary judgment proceedings.
Supporting Data and the Economic Impact on Healthcare
The financial stakes for Tri-State Memorial are mirrored across the American healthcare landscape. According to data from the American Hospital Association (AHA), hospitals nationwide lost billions of dollars in revenue during 2020 and 2021 due to the cancellation of elective procedures. While the Provider Relief Fund (PRF) offered some direct grants, many hospitals relied on tax credits like the ERC to offset the costs of maintaining a full workforce while service volumes were artificially suppressed.
Data from the IRS indicates that the agency has been overwhelmed by the volume of ERC claims. As of early 2024, the IRS had received over 3.6 million ERC claims. While the majority were legitimate, the agency estimated that a significant percentage were either ineligible or fraudulent, leading to an intensified audit environment. For legitimate providers like Tri-State, this has resulted in multi-year delays in receiving funds that were intended to provide immediate pandemic relief.
In Tri-State’s specific case, the $11.5 million figure represents a critical infusion of capital for a community hospital. In rural or semi-rural areas like Clarkston, such facilities often operate on thin margins. The hospital’s argument rests on the fact that while it remained "open" for emergency care and COVID-19 treatment, the "suspension" of its most profitable segments—orthopedic surgeries, elective screenings, and specialized outpatient care—constituted a partial suspension under the law.
Official Responses and Inferred Reactions
While the Department of Justice (DOJ), representing the federal government, does not typically comment on pending litigation, its filings in the Tri-State case reflect a broader strategy of defending the federal treasury against large-scale ERC claims. The government’s primary defense is that Tri-State’s operations were not "suspended" in a legal sense because the hospital continued to provide essential services. The DOJ argued that the hospital’s inability to perform certain procedures was an incidental effect of the pandemic, rather than a direct result of a specific order that "suspended" the business.
Attorneys for Tri-State Memorial Hospital have maintained that the government’s position ignores the reality of hospital operations. They argue that when a governor tells a hospital it cannot perform its primary revenue-generating activities, that is the definition of a partial suspension.
"The hospital made the difficult decision to keep its staff employed and ready to serve the community during a public health crisis, relying on the promises made in the CARES Act," a source close to the legal team might suggest. "To deny the credit now, based on a narrow and hyper-technical reading of the law, undermines the very purpose of the legislation."
Analysis of Implications and Broader Impact
The decision to allow Tri-State’s suit to proceed has several implications for the healthcare industry and the ongoing wave of ERC-related litigation:
1. Precedent for "Partial Suspension"
This ruling adds to a growing body of case law that suggests courts are willing to look beyond the IRS’s "nominal impact" rule. If Tri-State ultimately prevails, it will provide a roadmap for other hospitals and clinics to argue that elective surgery bans qualify as partial suspensions, regardless of whether the facility remained open for emergency services.
2. Pressure on the IRS
The IRS is currently facing significant pressure from Congress and the private sector to clear the backlog of legitimate ERC claims. Decisions like this one may encourage the agency to settle outstanding claims with reputable healthcare providers rather than risking unfavorable judgments in federal court that could broaden the eligibility criteria for all taxpayers.
3. Financial Stability for Rural Healthcare
For community hospitals, the ERC is often the difference between fiscal stability and service cuts. The $11.5 million sought by Tri-State could be used to upgrade medical equipment, expand mental health services, or recruit specialized physicians to the Clarkston area. A win for Tri-State would underscore the role of tax policy in supporting the rural healthcare infrastructure.
4. The "ERC Mill" Distrust
The court’s willingness to let the case proceed also highlights the distinction between sophisticated, fact-based claims made by established entities and the generic, often fraudulent claims pushed by third-party "consultants." By providing detailed evidence of specific government orders and their direct impact on various hospital departments, Tri-State has distanced itself from the suspicious claims that triggered the IRS crackdown.
Future Outlook
The case will now move into the discovery phase, where the hospital must provide granular data on its 2020 and 2021 operations. This will likely include patient volume statistics, revenue breakdowns by department, and internal communications regarding the implementation of Governor Inslee’s orders.
The federal government may still attempt to win the case through a motion for summary judgment after discovery is complete, arguing that even with all the facts on the table, the hospital does not meet the legal definition of "partially suspended." However, for now, the court’s refusal to dismiss the case serves as a vital lifeline for Tri-State Memorial Hospital and a signal to the IRS that its restrictive interpretation of pandemic relief may not always hold up under judicial scrutiny.
As the legal battle continues, the healthcare industry will be watching closely. A final judgment in favor of the hospital could trigger a wave of similar filings from across the country, potentially forcing a massive re-evaluation of how the Employee Retention Credit is applied to the medical sector. For Tri-State Memorial, the goal remains clear: securing the funds they believe were promised to them for standing by their employees during the most challenging period in modern medical history.
