Everybody in the tax community talks about, or at least pays attention to, Moore—the mandatory repatriation tax (MRT) case that the Supreme Court will hear in coming months. I think there is at least one tax event a week on Moore these days. Among the overflowing write-ups, I chose Daniel Hemel (NYU; Google Scholar)'s recent article, The Low and High Stakes of Moore, 180 Tax Notes Fed. 563 (July 24, 2023), for this week's review. It is a concise yet remarkably insightful article that contains everything you need to think about Moore.
The tax challenged is the MRT introduced by the Tax Cuts and Jobs Act (TCJA). The MRT requires the U.S. shareholders who own at least 10% of a Controlled Foreign Corporation (CFC) to pay a one-time tax on the undistributed earnings and profits of the CFC dating back to the end of 1986.
However, a more important issue is whether the 16th Amendment authorizes taxation without realization. So, as Hemel notes, the outcome in Moore (on the MRT) matters less than the reasoning (on realization). A win for the government on the MRT can be a Pyrrhic victory on the realization issue under the 16th Amendment, because requiring realization could jeopardize the mark-to-market income tax proposals for the rich.
But the reason why there is so much buzz on Moore among tax professionals is not just about the fate of the mark-to-market proposals. Realization theory relates to the meaning of income. Hence, several provisions in the U.S. tax code, including Subpart F, partnership taxes, taxation of shareholders of S corporations, and mark-to-market tax on regulated future contracts and for security dealers, may be at risk of constitutional challenges if the Supreme Court strikes down a levy on unrealized foreign earnings, according to a Joint Committee on Taxation memo released on October 3, 2023. The Tax Foundation has estimated that, if struck down, the government would lose $5.7 trillion in tax revenue over 10 years. Hemel's article cleverly and quickly limits the scope to the MRT on individuals and drops the MRT on corporate shareholders (e.g., Apple stashing billions of dollars in foreign affiliates) by showing that the Supreme Court considers a corporate income tax an "excise" that isn't subject to apportionment under the 16th amendment (see Flint v. Stone Tracy Co. 220 U.S. 107 (1911)). Hemel also reveals a risk of taking down the entire TCJA--Trump's signature economic policy achievement--due to severability, because "the [TCJA] wouldn't have satisfied Congress's budget reconciliation instructions if not for the revenue raised from the [MRT] on corporations."
Readers can now focus on the issue that both parties are truly interested in—MRT on individuals on the surface and realization theory in substance. Hemel starts with Eisner v. Macomber. Although there are debates on whether Macomber's realization requirement is overruled by later cases, I, along with Hemel, do not think that Macomber is decisive in Moore. Hemel thinks that even if the Court would say that realization is required, the look-through approach that the Macomber majority rejected can be accepted in Moore as an exercise of legitimate congressional power because the earnings and profits subject to the MRT won't be included in a shareholder's income later. Nonetheless, it would risk many accrual-based provisions of federal tax law, including the OID rules and the mark-to-market regime.
Is there any way to embrace the accrual conception of income and still decide in the Moores' favor? Hemel thinks there is. Consider the concept of accrual without a time limit, which relates to the Haig-Simons definition of income. But without a temporal limitation on accrual, this extreme concept blurs the distinction between an accrual-based income tax and a wealth tax, to which neither the proponents of the accrual conception nor the current Court would agree. The Court could maintain an income tax/wealth tax distinction by introducing the notion of basis in income as opposed to wealth. But Hemel considers it risky because the rules on basis should remain within congressional power rather than as constitutional concepts. Therefore, Hemel recommends a temporally limited conception of accrual over a reasonable period. The Court could decide, for example, that "the [MRT]'s three-decade lookback period is too long for it to count as an income tax." Such a position may endanger any transition tax (like the MRT) that imposes a one-time tax on unrealized gains that have accrued before the year of enactment, but it would save the rest of the code, such as OID, largely intact. Congress still could impose a mark-to-market income tax as long as it has a reasonable time period for accrual. (But that doesn’t mean that taxation on accrual beyond that period would be forgiven. Taxation on that portion of accrual would be deferred until a realization event.)
This last position is similar to what I have argued about realization in my recent article, Taxing the Metaverse. I argue that realization is not a conceptual element of income, but Congress can make exceptions to it. It is also in line with foreign jurisprudence on the realization principle. Many countries have established that realization is not a conceptual element of income, but courts decide whether a particular tax on unrealized gain or accrual meets a balancing test. For example, the Constitutional Court of South Korea held that realization is not a conceptual element of income and that it is a matter of legislative policy to either require realization for certain income or to include unrealized gains in the tax base. See e.g., Hunbeobjaepanso [Const. Ct.], July 29, 1994, 92Hunba49 (consol.) (S. Kor.). When applying a balancing test, a version of excess profits tax on real estate was held unconstitutional, whereas an accrual-based income tax was held constitutional.
Introducing a balancing test may invite due process challenges under the Fifth Amendment. Hemel seems to be cautious about invoking the Fifth Amendment claim, but I think it would be inevitable if we embrace the temporally limited conception of accrual. Such a position would expand congressional power under the 16th Amendment and therefore would invite judicial review of the bounds of congressional authority. This point in fact connects to Hemel's conclusion, where he suggests that "[c]onservative justices are likely to ask a similar question in Moore: If the [MRT] is an income tax within the meaning of the 16th Amendment, then what isn't?"
Hemel's article provides an excellent justification of why "a narrow victory for the Moores--one that recognizes accrual-based taxes along with realization-based taxes as income taxes within the meaning of the 16th Amendment but maintains the income tax/wealth tax distinction--would cause far less collateral damage than many other realistic outcomes." I think reasonable people can disagree on whether they support or oppose a wealth tax. However, it is a shame to use Moore as a proxy battle on wealth tax because the architecture of the issues in Moore may endanger the fundamentals of income taxation. Hemel's reasonable approach offers a way to clarify the realization principle in income taxation without causing unnecessary damage to our income tax system.