Chevron Step 0.5, by Michael Pollack and Daniel Hemel

by Daniel Hemel — Friday, June 24, 2016

Justice Kennedy’s opinion for the majority in Encino Motorcars, LLC v. Navarro is significant for a number of reasons. For one, it marks the first time that the Supreme Court has used a Perma.cc link in an opinion—a victory for the Harvard Law School Library and its Perma.cc partners in their fight against link rot in legal citations. We’ll leave it to others to discuss that development (while acknowledging that our own links here are not in Perma form). Instead, we’ll focus on what is either a doctrinal innovation in Justice Kennedy’s opinion or a long-overdue statement of the obvious.

First, the facts: Hector Navarro and four other plaintiffs worked as “service advisors” at a Mercedes-Benz dealership in the Encino section of Los Angeles. Service advisors interact with customers who bring their vehicles into the dealership for repair—essentially, they are salespeople who sell services rather than cars. Navarro and his co-plaintiffs say that they worked more than 40 hours a week and that the dealership failed to pay them time-and-a-half as required under the Fair Labor Standards Act (FLSA). So they sued the dealership in federal district court.

The dealer, Encino Motorcars, responded that Navarro and his co-workers aren’t entitled to time-and-a-half pay because service advisors are exempt from the overtime requirement under a 1966 amendment to FLSA. That amendment says that the overtime requirement doesn’t apply to “any salesman, partsman, or mechanic primarily engaged in selling or servicing automobiles, trucks, or farm implements, if he is employed by a nonmanufacturing establishment primarily engaged in the business of selling such vehicles or implements to ultimate purchasers.” 29 U.S.C. § 213(b)(10)(A). A service advisor is almost certainly a “salesman,” and a car dealership is “a nonmanufacturing establishment primarily engaged in the business of selling [automobiles] to ultimate purchasers.” What makes the service advisor case complicated, though, is that a service advisor is not engaged in “selling” automobiles (he or she sells automobile services), and a service advisor arguably is not engaged in “servicing” automobiles (he or she provides a service to customers, not cars).

The Labor Department, which administers FLSA, has struggled for some time to determine whether service advisors are covered by the statutory exemption. In a 1970 interpretive regulation, the Department said that service advisors are not exempt. After several courts ruled the other way, the Department indicated in a 1978 opinion letter that it would consider service advisors to be exempt, although it left the 1970 interpretive regulation on the books. In 2008, the Department proposed to amend the 1970 regulation so as to clarify that service advisors are exempt from the overtime requirement. Then in 2011, after a two-month comment period and a nearly three-year delay, the Department promulgated a final rule that reaffirmed its 1970 position that service advisors are not exempt. In the preamble to the 2011 rule, the Department explained its decision as follows:

The Department notes that [the 1970 interpretive regulation] is based on its reading of [the 1966 amendment] as limiting the exemption to salesmen who sell vehicles and partsmen and mechanics who service vehicles. The Department believes that this interpretation is reasonable and disagrees with the Fourth Circuit’s conclusion . . . that the regulation impermissibly narrows the statute. Therefore, the Department has concluded that [the 1970 interpretive regulation] sets forth the appropriate approach to determining whether employees in such positions are subject to the exemption.

76 Fed. Reg. 18,838 (Apr. 5, 2011).

Based on the Labor Department’s 2011 pronouncement, the Ninth Circuit held in Navarro’s case that service advisors are not exempt from the FLSA overtime requirement. To reach this decision, the Ninth Circuit applied the two-step framework set forth in Chevron, U.S.A., Inc. v. NRDC, Inc., 467 U.S. 837, 842 (1984). At Chevron step one, the Ninth Circuit concluded that the statutory exemption for salesmen, partsmen, and mechanics in FLSA is ambiguous as to whether it covers service advisors. And at Chevron step two, the court concluded that the Department’s interpretation was based on a permissible construction of the statute.

Chevron Meets State Farm

Justice Kennedy—writing for himself, the Chief Justice, and Justices Ginsburg, Breyer, Sotomayor, and Kagan—saw the matter quite differently. He acknowledged that, “[i]n the usual course when an agency is authorized by Congress to issue regulations and promulgates a regulation interpreting a statute it enforces, the interpretation receives deference if the statute is ambiguous and if the agency’s interpretation is reasonable.” Encino Motorcars, LLC v. Navarro , 579 U.S. __, __ (2016) (slip op. at 7). But he added that “Chevron deference is not warranted where the regulation is ‘procedurally defective’—that is, where the agency errs by failing to follow the correct procedures in issuing the regulation.” Id. at __ (slip op. at 8) (citing United States v. Mead Corp., 533 U.S. 218, 227 (2001)). He goes on to say (with quite a bit of excerpting on our part):

One of the basic procedural requirements of administrative rulemaking is that an agency must give adequate reasons for its decisions. The agency “must examine the relevant data and articulate a satisfactory explanation for its action including a rational connection between the facts found and the choice made.” Motor Vehicle Mfrs. Assn. of United States, Inc. v. State Farm Mut. Automobile Ins. Co., 463 U. S. 29, 43 (1983) . . . .

Applying those principles here, the unavoidable conclusion is that the 2011 regulation was issued without the reasoned explanation that was required in light of the Department’s change in position and the significant reliance interests involved. In promulgating the 2011 regulation, the Department offered barely any explanation. . . . This lack of reasoned explication for a regulation that is inconsistent with the Department’s longstanding earlier position results in a rule that cannot carry the force of law. See 5 U.S.C. § 706(2)(A); State Farm, supra, at 42-43. It follows that this regulation does not receive Chevron deference in the interpretation of the relevant statute.

Encino Motorcars, 579 U.S. at __, __ (slip op. at 9-10, 12).

Our first reaction to this passage was: Huh? Ronald Levin has observed that courts sometimes merge State Farm review with Chevron step two. See Ronald M. Levin, The Anatomy of Chevron Step Two Reconsidered, 72 Chi.-Kent. L. Rev. 1253 (1997). But Encino is emphatically not a Chevron step two decision. Justice Kennedy is quite clear about the fact that he is not engaging in the Chevron two-step framework. And moreover, Justice Kennedy doesn’t decide the Chevron step one question: whether the statutory exemption is ambiguous with respect to service advisors. Indeed, Justices Thomas and Alito dissented for that reason: they thought that the statutory exemption unambiguously covers service advisors, and they wouldn’t have left that issue to be resolved by the Ninth Circuit on remand.

So perhaps Encino is an example of what administrative law casebooks call the “Chevron step zero” inquiry: a gateway question that applies before the Chevron two-step. See Stephen G. Breyer et al., Administrative Law and Regulatory Policy: Problems, Text, and Cases 293 (7th ed. 2011); Jerry L. Mashaw et al., Administrative Law: The American Public Law System: Cases and Materials1022 (7th ed. 2014); see also Thomas Merrill & Kristin Hickman, Chevron’s Domain, 89 Geo. L.J. 833, 836 (2001) (coining the phrase). The “ultimate question” for a court at Chevron step zero is whether “Congress intended it to defer to the agency’s determination.” See Long Island Care at Home, Ltd. v. Coke, 551 U.S. 158, 173-74 (2007). To answer that question, courts consider whether “Congress would expect the agency to be able to speak with the force of law when it addresses ambiguity in the statute.” Mead, 533 U.S. at 229. (If not, then no Chevron deference.) A court might also decide at step zero that the Chevron framework does not apply because the agency “has no expertise” in the area or because the question is of such “deep economic and political significance” that Congress would not have delegated the decision to the agency sub silentio. King v. Burwell, 135 S. Ct. 2480, 2489 (2015).

 

But Encino is not your typical Chevron step zero case. Congress clearly intended for the Labor Department to fill gaps in FLSA. The Supreme Court has already said as much: “FLSA explicitly leaves gaps” and “provides the Department with the power to fill these gaps through rules and regulations.” See Long Island Care at Home, 551 U.S. at 165. The issue lies squarely within the Department’s expertise, and while it’s an issue of great importance to the 45,000 service advisors across the country, it’s not a question of such “deep economic and political significance” that we might doubt whether Congress meant to pass it off to the agency.

Nor is Encino your typical State Farm case. The issue in State Farm was not whether the agency’s rule would get Chevron deference. The Chevron doctrine didn’t exist then—and wouldn’t for one more year. Rather, the issue in State Farm was whether the agency’s rule should be struck down. Something else is going on here.

At the risk of carrying the choreographic metaphor a step too far, we suggest that Encino is indeed a different move—a move we’ll call “Chevron step 0.5.” If Chevron step zero asks whether Congress intended for the agency to fill gaps in the relevant statute, Chevron step 0.5 asks whether the agency has followed the proper procedure in filling the gap. If not, then it’s not enough for Congress to have intended for the agency to have gap-filling authority. Even if the agency has that power, it hasn’t used it.

The notion that a regulation must be procedurally valid in order to qualify for controlling deference should not be controversial. Mead says that Chevron deference is only warranted where Congress intended to delegate interpretive authority to the agency, and it also says that Congress can manifest that intent by granting an agency the authority to proceed through the “relatively formal” procedure of notice-and-comment rulemaking. Mead, 533 U.S. at 230. It is quite sensible to require that an agency wishing to receive Chevron deference actually engage in the process prescribed by Congress. The APA requires that notice of proposed rules be published in the Federal Register, that notices be followed by comment periods of particular length, and that rules contain “concise general statement[s] of their basis and purpose.” 5 U.S.C. § 553. If an agency fails to do these things, then it has not exercised its interpretive authority within the terms expected—indeed, set out—by the Congress that delegated that authority.

To put the point starkly, imagine an agency had been granted the authority to engage in notice-and-comment rulemaking and wrote a new regulation (on a matter within its jurisdiction and expertise) on the back of a napkin nailed to a signpost outside the White House. The regulation contains an interpretation of an ambiguous statutory provision, again within the agency’s jurisdiction. If that agency then claimed its interpretation written on that napkin was entitled to Chevron deference, it would (we think) be laughed out of court. But why? Congress intended for the agency to fill gaps in the statute (Chevron step zero) and the statute is indeed ambiguous (Chevron step one). Suppose, too, that the interpretation adopted by the agency on the napkin is entirely reasonable (indeed, maybe even the best reading of the statute), and that the agency actually explained its reasoning quite thoroughly despite the napkin’s surface-area limits. So the interpretation should pass muster at Chevron step two—and would even satisfy State Farm’s reason-giving requirement. But no one (we don’t think) believes that an agency can get Chevron deference for a position taken on a napkin. Why not? Because the agency failed to follow the proper procedure for exercising its gap-filling authority. The napkin rule flunks at Chevron step 0.5.

What’s most remarkable about Encino is therefore not that it announced this step 0.5 but that, in over 30 years of Chevron jurisprudence, the Court had never made this step explicit before. (At least, to the best of our knowledge, step 0.5 had never been made explicit before, and the Court cited no case for the proposition.) Why did it take so long?

One partial (though unsatisfactory) answer is that in the typical APA case in which a private party challenges a regulation—even where there is a procedural defect at issue—step 0.5 is unnecessary. Section 706 of the APA (really, section 10(e) of the APA, but that’s another story) says that a reviewing court shall “hold unlawful and set aside agency action . . . found to be . . . without observance of procedure required by law.” 5 U.S.C. § 706(2)(D). If the rule is set aside, then poof!—it’s gone, and quite obviously a court will not accord Chevron deference to a rule that doesn’t exist.

But Encino is not a suit against an administrative agency under the APA to have a rule set aside. It’s a suit by Hector Navarro and his co-workers against Encino Motorcars under FLSA for backpay. The court would have no jurisdiction to set aside the Labor Department’s rule in this context. The rule comes up only because the court must decide whether to defer to the Labor Department’s view or to interpret the statutory exemption de novo.

Another answer, though again only a partial one, is that the consequence of a negative determination at Chevron step 0.5 is not that the agency’s pronouncement goes poof! It’s that the agency’s pronouncement lacks the force of law. But the agency’s pronouncement isn’t wiped from human memory. It still, at least potentially, is eligible for Skidmore deference: “courts and litigants may properly resort [to it] for guidance,” and its “weight . . . in a particular case will depend upon the thoroughness evident in its consideration, the validity of its reasoning, its consistency with earlier and later pronouncements, and all those factors which give it power to persuade, if lacking power to control.” Skidmore v. Swift & Co., 323 U.S. 134, 140 (1944). (Or, at the very least, we can’t think of any compelling reason why it wouldn’t be Skidmore-eligible.) To be sure, the procedural defect (the fact that it was published on a napkin rather than in the Federal Register) might make us question the validity of its reasoning. Then again, quite a few great ideas were first written on the back of a napkin. (See, e.g., the fire nozzle and the Space Needle.) The larger point, though, is that the reward for winning at Chevron step 0.5 isn’t so rich: you still have to contend with the agency pronouncement under Skidmore. Maybe this means that a litigant’s energies are better spent waging a Chevron step one battle than a Chevron step 0.5 battle. And if the issue is less likely to be litigated, it’s less likely to be a ratio decidendi.

Now, in Encino, the consequence of this particular procedural defect is more or less the same as the agency’s pronouncement going poof! The procedural defect is the agency’s failure to give a reason, so the regulation’s “power to persuade” is nil. But there remains the possibility that in a different case, a procedurally defective rule would nonetheless offer such a persuasive interpretation of the relevant statute that it would carry sway under Skidmore. A procedural defect does not necessarily mean death. But it does mean no Chevron.

Finally, one might ask whether Encino/Chevron step 0.5 matters much if it only comes up collaterally, outside the context of a direct challenge to an agency rule. (Recall that in a direct challenge, a procedural defect generally means that the rule is set aside, so the question of Chevron deference falls away.) For the one of us who teaches tax law, the answer is: It most certainly matters. The Tax Anti-Injunction Act imposes limits on direct challenges to revenue regulations, so collateral attacks (in the context of a Tax Court petition or refund action) are the modal case. And beyond tax, whenever an agency brings an enforcement action for violation of a statute and cites a regulation interpreting the statute as support, Chevron step 0.5 potentially comes into play.

So, is Encino a new development in administrative law? Yes—and no. Yes in the sense that it brings Chevron step 0.5 to the fore. No in the sense that Chevron step 0.5 might have been lurking in the background all along.

Cross-posted at Whatever Source Derived.

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