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Thursday, June 27, 2024

Graetz: Moore v. United States—Winning The Battle But The War Goes On

TaxProf Blog Op-Ed:  Moore v. United States—Winning the Battle but the War Goes On, by Michael Graetz (Columbia) (Author, The Power to Destroy: How The Antitax Movement Hijacked America (2024)):

Graetz 2The lawsuit by the Moores over $14,729 of tax was never about the tax (labelled the mandatory repatriation tax or MRT) enacted in 2017 to help fund the transition from a worldwide system that deferred taxes on unrepatriated income of USMNC’s CFCs to an exemption system for their foreign earnings, coupled with a minimum tax (the GILTI provision.) It was a vehicle for antitax forces to create a constitutional barriers to income taxes on unrealized appreciation of large holdings of securities or other assets by multimillionaires and billionaires and the even more remote prospects of an annual wealth tax on the extraordinarily rich, like those advocated by Elizabeth Warren and Bernie Sanders.

It was a case the Supreme Court should never have taken, but the Court was convinced to grant certiorari because of the unnecessary insistence by the panel of the Ninth Circuit that realization of income is not a constitutional requirement and the urging of numerous antitax organizations to grant certiorari. The Competitive Enterprise Institute, on whose board Moore’s father had been a member, was the principal mover in this case, a libertarian organization devoted as they say to “free enterprise, capitalism, and deregulation,” a common phrase used among antitax organizations. Importantly, the taxpayer’s cert petition was supported by many other libertarian and antitax organizations including the CATO institute, the Manhattan institute, the Liberty Justice Center, the Pacific Research Institute, the Landmark Legal Foundation, Saving America’s Family Enterprises, the Atlantic Legal Foundation, and last but not least, Grover Norquist’s Americans for Tax Reform. The Chamber of Commerce, a particularly important player in the Supreme Court, also urged the Court to take the case.

The Majority Opinion

Along with many tax professionals who worried about the potential disasters for the tax system that could follow a decision for the Moores, I was relieved when seven justices voted to uphold the MRT. Justice Kavanaugh’s conservative and careful opinion for the five-justice majority is a model of professionalism and judicial restraint. As he wrote: “the precise and narrow question that the Court addresses today is whether Congress may attribute an entity’s realized and undistributed income to the entity’s shareholders or partners, and then tax the shareholders or partners on their portions of that income. This Court’s longstanding precedents, reflected in and reinforced by Congress’s longstanding practice, establish that the answer is yes.” Because the Court concluded that the MRT taxes income realized by Moore’s untaxed foreign corporation, the majority explicitly refused to address the question for which it granted certiorari: whether a gain must be realized to constitute income under the Constitution. Justice Kavanaugh observed that:

The Moores cannot meaningfully distinguish the MRT from similar taxes such as taxes on partnerships, on S corporations, and on subpart F income. The upshot is that the Moores’ argument, taken to its logical conclusion, could render vast swaths of the Internal Revenue Code unconstitutional. See, e.g., 26 U. S. C. §305(c) (deemed stock distributions); §§446, 448 (accrual accounting); §701 (partnership taxation); §§951–965 (subpart F); §951A (pass-through tax on global intangible low-taxed income); §1256(a) (certain futures contracts); §1272(a) (original issue discount instruments); §§1361–1379 (S corporations); §§2501–2524 (gift taxes).

And those tax provisions, if suddenly eliminated, would deprive the U. S. Government and the American people of trillions in lost tax revenue. The logical implications of the Moores’ theory would therefore require Congress to either drastically cut critical national programs or significantly increase taxes on the remaining sources available to it—including, of course, on ordinary Americans. The Constitution does not require that fiscal calamity.

Justice Thomas’s Dissent

In dissent, Justice Thomas, joined by Justice Gorsuch, endorsed the widely criticized 1895 decision in Pollock v Farmers’ Loan and Trust striking down the 1894 income tax as a direct tax not apportioned to the states. Pollock, of course was overruled by the Sixteenth Amendment—which Thomas treats as not undermining the basic conclusions of the Pollock majority. Justice Thomas cites the language at the beginning of Article One, conceding that the direct tax apportionment requirement was part of the noxious “three-fifths” compromise regarding slaves and affirms the uncertainty about the scope of the clause beyond capitation taxes, and taxes on slaves and land. But he nevertheless concludes that the text of the Sixteenth Amendment “includes a realization requirement.” Limiting income taxes to realized income, Thomas claims, is essential to preserve federalism. He endorses the fruit-tree analogy of Eisner v Macomber, treating capital as the tree and income as fruit —an analogy that has long confounded jurists in assignment of income and capital gains disputes. Justice Thomas rejects the majority’s attribution of the corporation’s income to the Moores, insisting—–as a constitutional requirement—that it only apply to shareholders who “actually” control a corporation. This, of course, implies that Subpart F must also fall more than 60 years since its enactment, disparaging the judgements of seven of his colleagues that if the MRT falls so does Subpart F. In a paragraph rejecting Congress’s power over taxes, demonstrating his hubris regarding his own (controversial) reading of history, precedents, and the tax law, Justice Thomas concludes:

Because it wrongly concludes that the Moores’ constitutional argument would invalidate not only the MRT but also other longstanding taxes, the majority frets that the Moores would “deprive the U. S. Government and the American people of trillions in lost tax revenue” and “require Congress to either drastically cut critical national programs or significantly increase [other] taxes.... The Constitution does not require that fiscal calamity,” the majority proclaims. I agree. But, if Congress invites calamity by building the tax base on constitutional quicksand, “[t]he judicial Power” afforded to this Court does not include the power to fashion an emergency escape.

Justice Thomas was comfortable that trillions of dollars of tax revenue and more than a half century of tax law could be overturned in a misleading case with a questionable record (at best) brought by a libertarian organization and supported by leaders of the antitax movement.

Justice Barrett’s Concurrence

Justice Barrett’s limited and parsimonious concurrence, joined by Justice Alito, is as worrisome as Justice Thomas’s dissent. Justice Barrett upholds the MRT only because the taxpayer conceded the constitutional validity of Subpart F and failed to persuasively distinguish it. Like the two dissenting justices, she concludes that realization is a constitutional requirement:

[R]ealization may take many forms, but our precedent uniformly holds that it is required before the Government may tax financial gain without apportionment. Realization is a question of substance, not form…. Our cases describe many ways income might be realized; a rigid definition does not capture them all…. The common thread is that to realize income, one must receive something new and valuable beyond the property she already owns.

Substance vs form would become a constitutional requirement for the courts, not Congress, to determine whether it has been satisfied. This must trouble those who have struggled with the economic substance requirement of current law. Justice Barrett indicates that she does not agree with the majority’s list of valid provisions, but she doesn’t say which ones she would hold unconstitutional. She also emphasizes the barrier to “arbitrariness” under the Due Process Clause (which the Moores did not pursue in the Court), inviting more constitutional litigation over tax provisions.

How Big a Victory?

After the Court agreed to hear the Moore case, I expressed dismay and urged the Court to dismiss the case.[1] After attending the oral argument, I concluded the Moores were likely to lose, but expressed concerns that the Court would hold that realization is a constitutional requirement, which would not only bar the unlikely prospect of federal wealth taxes and taxes on unrealized gains of the wealthy, but would also open up the prospect of litigation over the constitutionality of a wide variety of existing and future tax provisions.[2] After Moore, questions abound: Is the mark-to market regime for securities dealers at risk? For straddles? The exit tax on high-net-worth individuals under section 877A? Can capital gains at death or gifts be taxed? Borrowing in excess of basis? And on and on.

Eight of the justices (other than Justice Jackson who wrote a separate concurrence) along with the Solicitor General of the United States took the Moore case as an occasion to rule out as unconstitutional a federal wealth tax unless apportioned to the states by population. But four justices—enough to grant certiorari—explicitly concluded that income taxes on unrealized gains were also barred by the Constitution. Five others remained silent on this question. No one explicitly embraced the Court’s 1991 decision in Cottage Savings Ass’n v Commissioner, describing realization as a matter of “administrative convenience,” and holding a change in legal entitlements was sufficient for realization.[3] Despite the best efforts of Justice Kavanaugh and his colleagues in the majority, Moore is a caution to Congress about what and how it can legislate, an invitation to more antitax litigation, and a potential boon to young tax lawyers with the time and inclination to rehearse and refine the voluminous scholarship on realization, The war goes on.  

[1] Michael J. Graetz, “To Avoid the Moore Morass, the Court Should DIG It – But It Probably Won’t,” 112 Tax Notes Int'l, 973 (Nov. 13, 2023.)

2] Michael J. Graetz, “What I Learned at the Oral Argument in Moore,” 181 Tax Notes Fed. 2151 (Dec. 18, 2023).

[3] 499 U.S. 554 (1991).

TaxProf Blog Op-Eds on Moore v. United States, No. 22–800 (June 20, 2024):

https://taxprof.typepad.com/taxprof_blog/2024/06/graetz-moore-v-united-states-winning-the-battle-but-the-war-goes-on.html

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