The Supreme Court has decided Moore v. United States, which had the potential to be the most important tax case in over a century. That potential wasn’t realized (pun intended), however.
The “question presented,” as set out in the petition for certiorari in Moore, was “Whether the Sixteenth Amendment authorizes Congress to tax unrealized sums without apportionment among the states.” If you simply hold on to property as it appreciates in value, you generally don’t have to pay tax on the appreciation until some realization event, like a sale, occurs. But is realization constitutionally required or could Congress tax an increase in property value as part of an income tax? That’s an important question—a really important question—but one unfortunately not answered in Moore.
First, a little background:
The Constitution contains some specific limitations on the otherwise broad grant of congressional taxing power. One is that direct taxes must be apportioned among the states based on population (like the apportionment of representatives). A state with one-tenth of the national population must bear one-tenth of the aggregate liability for any direct tax, regardless of how the tax base is distributed across the country.
That might seem crazy, but it’s not crazy if the apportionment rule is interpreted—properly—as a limitation on the taxing power. The founders thought direct taxes lend themselves to governmental abuse, and apportionment makes direct taxation unworkable under most circumstances. We haven’t had to worry much about how the apportionment rule works because Congress, if it’s paying attention, doesn’t impose taxes that might be subject to the rule. (No apportioned tax has been enacted since 1861.) Rational members of Congress (some remain, I’ve heard) don’t want to enact legislation that would lead to absurd results—and almost certain litigation.
Almost everyone at the founding understood that a tax on land was direct and would therefore have to be apportioned. In 1895, in Pollock v. Farmers’ Loan & Trust Co., the Supreme Court struck down an unapportioned 1894 tax on income, although the Court had earlier upheld the constitutionality of a Civil War income tax. The Pollock Court held that the 1894 tax was direct (at least insofar as it reached income from property). It was effectively a tax on the property itself and, because it hadn’t been apportioned, it was invalid.
The negative reaction to Pollock—the 1894 income tax was popular because it reached only a small percentage of the population—led to the Sixteenth Amendment, ratified in 1913. That amendment exempted “taxes on incomes from whatever source derived” from the apportionment requirement, making the modern unapportioned income tax possible. By its terms, however, the amendment applies only to “taxes on incomes.” A direct tax that is not on “incomes” remains subject to apportionment—which is to say that such a tax shouldn’t be enacted or, if it were, the courts should strike it down.
On to Moore: Under the so-called “mandatory repatriation tax” (MRT), a one-time tax enacted as part of the Tax Cuts and Jobs Act of 2017, the Moores—significant, but not majority, shareholders of a controlled foreign corporation—were taxed in 2017 on their shares of the undistributed post-1986 earnings of that corporation. They claimed they had no income because they had received no distributions from the corporation. They argued, that is, that no realization event had occurred, and the Sixteenth Amendment requires realization to exempt a tax from apportionment. They were being taxed on property—their stockholding interest.
A federal district court and a Ninth Circuit panel both said realization is irrelevant to the income question. The panel noted, as it had to, that the Supreme Court in 1920, in Eisner v. Macomber, seemed to have held that realization is a constitutional requirement for there to be “income[] from whatever source derived.” Realization doesn’t necessarily require that accessions to wealth be converted into cash to be taxable, but something has to happen above and beyond simply holding appreciated property. The panel noted correctly, however, that over the years the Supreme Court had pulled back from a broad reading of Macomber. In particular, the Court has twice referred to realization as a rule of “administrative convenience,” which doesn’t sound like a constitutional principle.
On the other hand, four Ninth Circuit judges dissented when the full court rejected a petition to rehear Moore en banc. Those judges said, in effect, that of course realization is required to have income. And Chief Justice Roberts gave a favorable citation to Macomber in 2012 in his controlling opinion in the first Obamacare case, National Federation of Independent Business v. Sebelius.
The Court granted cert in Moore specifically on the realization question, and it was that question on which oral arguments mostly proceeded. The Moores had also argued in the lower courts that, because the MRT reached earnings attributable to taxable years potentially going back as far as 1987—in their case, apparently to 2006—the retroactive effect violated the Due Process Clause of the Fifth Amendment. That argument failed at both the district court and Ninth Circuit levels, and it wasn’t considered by the Supreme Court.
The Supreme Court upheld the MRT by a 7-2 vote, but on very narrow grounds. And the “7” is misleading in that two of the justices, Barrett and Alito, concurred only in the judgment, not on the reasoning in the majority opinion written by Justice Kavanaugh. In important respects, this was a 5-4 decision.
If there is an intellectually interesting point in the Kavanaugh opinion, it’s the apparent acceptance of the idea that an income tax isn’t direct. Without explicitly saying so, the Court majority suggested that the conclusion in Pollock was aberrational, something that many at the time thought and that almost all legal academics (except me) accept today.
The apparent repudiation of Pollock is interesting, but not legally important because the Sixteenth Amendment, ratified in 1913, exempted “taxes on incomes from whatever source derived” from apportionment. Whether Pollock’s conclusion was right or not, it’s no longer the law: a tax on income need not be apportioned. (The Pollock holding that a tax on property of any kind is a direct tax, so long as it’s not on income, seems to have survived.) Under the amendment, it still matters whether a tax is on “incomes.” If it’s on property rather than on income from property, it must be apportioned.
Moore landed with a thud. We were supposed to be given guidance on the importance of realization, and we didn’t get that.
Despite the nominal “question presented,” the Moore majority punted on the realization question, concluding that there had been realization after all: income was realized by the corporation and then could be attributed to the appropriate shareholders, even if they received no distributions. That is, for purposes of the MRT, the corporation could be treated as a passthrough entity, like a partnership or an S corporation, where attribution of undistributed entity-level income to investors has been a given under the Internal Revenue Code for decades. (The majority emphasized that such attribution would not be acceptable in all cases, however. Whether attribution is permissible will depend on case-by-case analyses. Thanks for the guidance, Your Honors!)
Anyway, if realization had occurred, the Court didn’t need to worry about whether realization is constitutionally required. It didn’t need to worry, that is, about the “question presented” in the cert petition. This was indeed a narrow decision. The majority went out of its way to emphasize what it was not deciding: whether, in an unapportioned tax, Congress (1) can reach both an entity and its investors simultaneously on undistributed income (that wasn’t a problem in Moore: the foreign corporation wasn’t subject to US taxation); (2) can tax “holdings, wealth, or net income”; and (3) can tax appreciation. In short, the Court didn’t help us with the issues that everyone cared about.
There are problems with the majority’s analysis. One is that the attribution issue hadn’t been fully briefed. (The merits briefs, for good reason, focused on what was supposed to be the question presented.) In the oral argument, Solicitor General Prelogar signaled that she would be happy with a finding of realization by the corporation as a way to decide the case—she wanted to win, after all—although the government’s primary argument was that realization isn’t constitutionally required. At the time, Justice Gorsuch questioned the propriety of deciding a case based on a position not fleshed out, or reacted to, in the briefs. New arguments aren’t supposed to be plucked from the ether in judicial determinations. But the majority did so anyway.
Something that clearly motivated the Moore majority was concern about what could happen to tax law if realization were to be held to be a constitutional requirement. Commentators had claimed that many provisions in the Internal Revenue Code might be called into question, and the courts could be overwhelmed by the resulting litigation. For example, could the attribution rules for passthrough entities (partnerships, limited liability companies, S corporations)—where the entity is generally not taxed, but the partners, members, or shareholders are currently taxed on their shares of the entity’s current income—be at risk? This sky-might-fall commentary raised legitimate concerns, but they were overstated. (For one thing, taxpayers aren’t going to challenge provisions that benefit them.) In any event, that’s not how the MRT worked. What was attributed to shareholders in 2017 was undistributed corporate income that could go back as far as 1987. Would 1987 earnings that had been reinvested in a corporation really be attributed to shareholders as income in 2017? A tax on reinvested income from years ago sounds like a tax on property to me.
Furthermore, we don’t usually excuse constitutionally suspect congressional behavior just because it has been going on for a long time. The Moore majority concluded, however, that what Congress has done historically should be taken into account in determining constitutionality.
Justice Jackson joined the majority opinion, but she wrote her own opinion as well, since she didn’t think the majority had gone as far as it should have. She wanted to make it clear that realization isn’t a constitutional requirement to have income. She was, however, the only justice explicitly to take that position.
Justice Barrett, in an opinion joined by Justice Alito, concurred only in the result because the Moores had conceded the constitutionality of some attribution schemes—in particular, Subpart F, of which the MRT was a part—and hadn’t met their burden of showing that the MRT was fundamentally different. But Barrett’s opinion was a concurrence in form only. She made many points that are consistent with the dissent filed by Justice Thomas (joined by Justice Gorsuch).
For example, Justice Barrett emphasized, as did the dissenters, that the word “derived” in the Sixteenth Amendment connotes a realization requirement. Furthermore, the government hadn’t pointed to any decision upholding an unapportioned tax on appreciation. Realization can take many forms, but something substantive has to occur. And Justice Barrett complained also about the inadequate briefing on the attribution point.
Justice Thomas wrote a very long, thoughtful dissent, describing the philosophy underlying the apportionment rule. But his primary point was simple: the majority ignored the question presented. Of course, realization is required, he thinks, for many of the reasons set out by Justice Barrett.
Moore landed with a thud. We were supposed to be given guidance on the importance of realization, and we didn’t get that. We (including members of Congress drafting legislation) should know whether realization of some sort is necessary, and, over a century after the ratification of the Sixteenth Amendment, we still don’t. Given the narrow holding in Moore, one might think the justices had second thoughts about having granted cert, but didn’t want to look like doofuses by deciding that cert had been improvidently granted.
Much of the amicus briefing in Moore focused on whether an unapportioned federal wealth tax, a tax on property, would be permissible. Given the several wealth-tax proposals that have been advanced in Congress, that subject gave sex appeal to the case. Although the majority opinion purports not to rule on that question, commentators have seen both a silent “go ahead” and a similar “slow down” in the majority opinion. Both can’t be right.
