No, Sen. Warren, You Won’t Get a Wealth Tax From the Supreme Court

(Illustration by The Epoch Times, Supreme Court of the United States, Shutterstock, Public Domain)

Commentary

On Dec. 5, the U.S. Supreme Court heard oral arguments on a tax case that could broadly affect how the United States taxes income and whether the accretion of wealth in assets equals income.

The case addresses an issue arising from the 2017 Tax Cuts and Jobs Act (TCJA) provision that transitioned the U.S. tax system from a worldwide tax system to a territorial tax system that taxes only U.S. source income.

As part of that transition, shareholders of foreign corporations were treated as though their respective share of the corporation’s accumulated profits were “income,” even though the profits hadn’t been remitted as a dividend to the corporation’s shareholders. The TCJA imposed a relatively low one-time tax on unremitted accumulated profits, known as the Mandatory Repatriation Tax, or MRT.

Charles and Kathleen Moore were assessed tax under the new arrangement because they owned a foreign corporation with accumulated but unremitted profits. In court, they asserted, among other things, that the accretion in value of their shares wasn’t “income” in the common meaning of the phrase.

Left-leaning progressives, such as Sen. Elizabeth Warren (D-Mass.), are watching the Moore case closely, hoping it will open the door to taxing accreted wealth. The New York Times even printed an op-ed titled, “Want to Tax the Rich for Real? Pay Attention to This Supreme Court Case.” Progressives hope that the Moore case will open the door to the taxation of “on paper” profits “realized” from the property appreciation. Those paper profits are now largely exempt from tax until the appreciation is “recognized” by an event, such as a stock sale, that fixes the value of the asset’s appreciation so it can be independently determined in a specific amount and at a particular time.

The 16th Amendment

Taxes on income were first imposed for 11 years during the Civil War and thereafter until 1872, when Congress repealed it. Another income tax was imposed in 1894, but it was almost immediately struck down by a divided Supreme Court in a 5–4 decision. When progressive Republicans and Democrats attempted to impose an income tax in 1909, conservatives in Congress—hoping to kill the idea of an income tax once and forever—proposed a constitutional amendment, believing that it would never pass and simply die.

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But to the conservatives’ chagrin, the amendment was adopted, and the Federal Income Tax came into being in 1913. It read, “The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration.”

In defining income from various case law, Black’s Law Dictionary states, among other things, that “income,” when applied to the affairs of individuals, expresses the same idea that “revenue” does when applied to the affairs of a state or nation.

Value must be received, and not merely accreted, by an individual in order for it to be “income” that’s subject to an income tax. That was essentially the argument the Moores made.

Adam Smith, an economist and philosopher who heavily influenced the Founding Fathers, is quoted in “The Wealth of Nations“ as saying that taxes on people should be imposed using four conditions:

1. “In proportion to the revenue which they respectively enjoy under the protection of the state,” i.e., graduated and based on the ability to pay.
2. In a way that “... ought to be certain, and not arbitrary,” i.e., not be subject to opinion.
3. “Levied at the time, or in the manner, in which it’s most likely to be convenient for the contributor to pay,” i.e., when the taxpayer has funds, as when the taxpayer has made a sale of an appreciated asset.
4. “As little as possible over and above what it brings into the public treasury of the state, i.e., administered efficiently.

All four of Smith’s principles would be contradicted by a tax on the appreciation of value.

1. Appreciation isn’t in the nature of “revenue.”
2. Taxing appreciated values without a recognition event makes the value of the appreciation arbitrary and subject to opinion.
3. Appreciated property may have no cash affiliated with it, so taxing the appreciation might force the taxpayer to sell the property in order to pay the tax. If you have a Picasso that your great-grandfather bought in 1950 for $10,000, you may have to sell it to pay the tens of millions of tax on its value.
4. Finally, administering the tax would require a whole army of IRS agents to monitor and appraise virtually everything people own. And because there’s no recognition event to independently discern and fix the gain in a specific amount, taxpayers and the IRS would be arguing valuations incessantly.

During oral arguments, some of the conservative justices raised the specter that a precedent in this case might enable Congress to impose a wealth tax.

The government and some of the liberal justices, on the other hand, cited other long-settled elements of the tax law that recognize realized gains even if the income isn’t received in a recognition event. For example,

• Under Subpart F, a section of the Internal Revenue Code, U.S. shareholders who held 10 percent or more of the shares in a foreign corporation in which U.S. persons collectively owned more than 50 percent of the shares are taxed on certain types of mostly passive income such as interest and royalties.
• Bonds that pay interest only at maturity are taxed each year under the Original Issue Discount regime, whereby interest is recognized each year, even though it’s only paid at maturity.
• Under Subchapter S, a corporation’s shareholders may elect to be taxed on their income, whether it’s distributed or not, but the corporation itself generally pays no taxes.
• People who expatriate from the United States and renounce their U.S. citizenship are taxed as if they sold all of their assets at fair market value and so taxed at long-term capital gain rates.

As the justices questioned Solicitor General Elizabeth Prelogar, who argued the case for the government, Justice Neil Gorsuch raised the specter of Congress using a court decision on the MRT as a basis to impose a wealth tax.

“Would you agree, General, that when the Court opens a door, Congress tends to walk through it?” he asked.

Ms. Prelogar, in reply, seemed willing, albeit reluctantly, to accept that the court could approve the tax on the MRT, but only on the very narrow grounds of the TCJA.

Conclusion

The court won’t issue an opinion on the Moore case until next summer. The court may render a divided opinion supporting the MRT, but on narrow grounds. I suspect that some of the justices will issue a broader opinion than the narrow one that Justice Gorsuch seemed to prefer.

For the time being, though, it appears that Ms. Warren and like-minded progressive colleagues will have to earn the ability to tax wealth at the ballot box, not through the Supreme Court.