Historic Supreme Court case could imperil the entire US tax code
Opinion by Travis Nix, Opinion Contributor, The Hill, 8/9/23
The Supreme Court has agreed to hear one of the most important tax cases in history, which could either greenlight the constitutionality of an economically disastrous wealth tax, or destroy critical parts of the U.S. tax system.
Unless the justices take a middle road and define the 16th Amendment according to the history and traditions of the U.S. tax system, the case will result in bad law and worse outcomes.
The case (Moore v. United States) concerns the constitutionality of the 2017 Tax Cut and Jobs Act (TCJA). The act imposed a mandatory repatriation tax on pre-2018 profits that companies and some U.S. shareholders stored abroad. Previously, foreign business profits went untaxed until they returned to U.S. shareholders. But under mandatory repatriation tax, passed as part of Republicans’ comprehensive international tax reform, profits were taxed even if shareholders never received the income.
The revenue from the mandatory tax helped raise an estimated $339 billion that contributed to offsetting other individual and corporate tax cuts, as well as broader international tax reform in the 2017 tax cuts.
The court faces a difficult question: Is this mandatory tax on foreign profits that shareholders never actually received constitutional under the 16th Amendment? The Supreme Court has maintained since 1920 that income must be “clearly realized” for it to be taxable. Yet the U.S. tax code is riddled with taxes on unrealized income.
For example, the main tenet of partnership tax law is that partners are taxed on income allocated to them for tax purposes, whether or not they actually receive the income. The Supreme Court upheld this principle in 1938, less than three decades after the 16th Amendment was ratified. Since 1962, the United States has also taxed the passive and highly mobile income of overseas corporations controlled by U.S. shareholders, whether or not the income is distributed to them, to prevent aggressive tax avoidance strategies. The TCJA’s mandatory repatriation tax fits within this existing international tax regime.
As any attorney will tell you, bad facts and consequences create bad laws. Even if you have the law or the Constitution on your side, you will lose if your case leads to unacceptable outcomes. This is how unconstitutional laws are declared constitutional.
In Moore, the government is likely to win due to the irrevocable consequences of upending the current tax system. In briefing, the Justice Department focused heavily on the established constitutionality of these existing tax regimes. At oral argument, I expect the solicitor general to highlight how a ruling that this tax is unconstitutional could destroy the partnership and international tax systems, which routinely taxes unrealized income. Justices will no doubt have these consequences in mind when they make their decisions.
Justices are going to want to uphold tax law to avoid the disastrous consequences they’ve already been briefed on, but originalism and wealth tax will bar their way. The original meaning in Black Law’s dictionary from 1910 claims that income must be “received” to be defined as such, and that any income that has not been received cannot be taxed. As much as the justices want to preserve longstanding principles of the U.S. tax system, they cannot do it without setting precedent against the original meaning of “income” and authorizing a wealth tax.
The Supreme Court’s best option to resolve this case fairly and with minimal destruction is to invoke its history and tradition tests that it is now using in its First and Second Amendment jurisprudence. Under this framework, a tax on unrealized income will be constitutional if it comports with the history and tradition of the income tax code.
The mandatory repatriation tax should be constitutional under this test, because the U.S. has a long history of taxing unrealized gains in its international tax code, having done so since 1962.
A history and tradition test would allow the Supreme Court to strike down a future wealth tax that has never been law before, and preserve the longstanding constitutional requirement that income be “clearly realized” for taxes on it to be constitutional.
A narrow decision that invokes a history and tradition test would be the best method for the Supreme Court to preserve the current U.S. tax system and constrain lawmakers from passing new unconstitutional taxes on wealth.
Travis Nix is a graduate of Georgetown Law School.