Paul L. Caron

Friday, July 26, 2019

Weekly SSRN Tax Article Review And Roundup: Holderness Reviews Crawford's Magical Thinking And Trusts

This week, Hayes Holderness (Richmond) reviews Bridget J. Crawford (Pace), Magical Thinking and Trusts, 50 Seton Hall L. Rev. ___ (2019).

Holderness (2017)

Wealth inequality is a major concern in today’s United States. As wealth concentrates among the super-wealthy, lawmakers, academics, and commentators have proposed ways to diffuse that wealth, often through tax reform. Wealth remains concentrated in part through the use of legal rules and entities, perhaps in ways that lead to unintended results. Here there be trusts. Trusts—particularly family trusts—have long been a major tool of wealth conservation and potential tax avoidance. So when the Supreme Court heard this year’s Kaestner case questioning North Carolina’s authority to tax the income of a family trust, many hoped that the Justices would help dismantle the tax avoidance tool by blessing the state’s taxing authority.

It was not to be. The magical family trust survived state efforts to tax its income, propped up by the Supreme Court’s decision. Had the Court failed those concerned about growing wealth inequality? “No,” answers Professor Bridget Crawford in Magical Thinking and Trusts. In fact, the Court did just as it should; expecting that the Court could do anything else was fanciful.

Crawford makes her argument in two phases. The first phase explains doctrinally why the Court reached the correct decision in Kaestner. In the case, North Carolina’s only connection with the trust income was that the trust beneficiary resided in the state. The trust had not been formed in North Carolina, the trustee did not reside in the state, and no distributions from the trust had been made to the in-state beneficiary. Further, there was no evidence that the trust was a sham. The simple fact of the beneficiary’s residence in the state was not enough to establish North Carolina’s taxing jurisdiction over the trust income under the Due Process Clause precedent, which demands some purposeful availment of the taxing state outside of the actions of others (the “other” being the beneficiary in this case).

Crawford then masterfully responds to two main lines of criticism of the decision to set up the second phase of her argument—that the judiciary is in no position to fix the problems presented by family trusts. One line of criticism, attributed to Professor Carla Spivack, takes issue with the notion that the beneficiary of a family trust is not the actual owner of the trust assets, a necessary condition to denying North Carolina’s jurisdiction to tax the trust income in Kaestner. Crawford appears to grant that the criticism is fair enough, but points out that it is not in accordance with the law of trusts. Trusts do exist through magical legal thinking, and are treated as separate from their beneficiaries under the law. The second line of criticism, attributed to Professor Daniel Hemel, takes issue with allowing the Due Process Clause and state laws to be used to shield wealthy individuals from taxation. There is moral weight to this argument, but again, Crawford points out that trusts are creatures of state law and are entitled to respect as such. The pernicious effects here are an unfortunate result of our federalist system.

Crawford’s final act is to demonstrate the complexity of the trust problem vis-à-vis wealth preservation and tax avoidance by building on the criticisms of the Kaestner case to reimagine trust law. To reshape trust law in a way that would meaningfully curb current abuses would demand radical changes, as Crawford’s suggested reforms demonstrate well. As one reads though her suggestions, the scope of the changes and accompanying problems become ever more clear. Only at the end of the discussion does the reader realize how artfully Crawford has made the pragmatic case against trust law reform—or at least has mapped out the true scope of the reform effort—by articulating all that would be needed to achieve the goal of reducing trusts’ role in promoting and preserving wealth inequality. Perhaps, Crawford suggests, tax reform—even with all its difficulties—is the better path for addressing wealth concentration. In any event, no judge is equipped to implement the far-reaching reforms to trust law or tax law that are needed to materially address wealth inequality; legislatures must act.

It’s difficult to find fault with Crawford’s analysis, but I do wonder if more could be said to address the criticisms presented of the Kaestner decision. Crawford appears sympathetic to Spivack and Hemel, but has trouble moving past state tax due process precedent to reach their positions. I agree (as did the Kaestner Court) that the due process standard from Quill supported the trust here, but that standard is based in a decades-old view of the demands of due process for personal jurisdiction. Would it be all that troubling for the Court to allow the state tax due process standard to evolve to a more justice- or fairness-based inquiry? The Wayfair Court appeared comfortable empowering states to combat tax avoidance under the dormant Commerce Clause; why not extend that empowerment to the due process arena as well? Perhaps that genie was simply too large to let out of the bottle.

Magical Thinking and Trusts offers a thoughtful view into the intersection of trust law, tax law, and wealth inequality. Crawford lays out the difficulties of combating the wealthy’s tools of wealth concentration so skillfully that the reader truly feels the weight of the battle ahead. Slaying this dragon will take a force of committed, thoughtful, and creative lawmakers; thankfully, Crawford has begun the task by illuminating the size of the beast.

Here’s the rest of this week's SSRN Tax Roundup:

Hayes Holderness, Scholarship, Tax, Tax Scholarship, Weekly SSRN Roundup, Weekly Tax Roundup | Permalink


Only in academia could the Supreme Court ruling here be controversial.

One can only cringe at the shenanigans that would have transpired if the SC ruled the other way.

But hey, anything to redistribute wealth, I suppose. Yeah, no thanks.

Posted by: josh scandlen | Jul 27, 2019 6:33:39 PM

"Current abuses" Huh? Have I missed something? Irrevocable trusts have negative income tax consequences. You have to pay gift taxes on lifetime funding and miss out on the step up in basis. Funding at death is subject to estate taxes. If the donor thinks his or her heirs need protection from themselves, where is the abuse?

Posted by: Dale Spradling | Jul 27, 2019 9:54:23 AM