Regardless of whether the Supreme Court rules in favor of petitioners or the government in a constitutional challenge to the Tax Cuts and Jobs Act’s one-time mandatory repatriation tax — or “transition tax” — justices demonstrated a lack of appetite for its decision to have broad consequences over the concept of income in the US.
On December 5, the Court heard oral arguments in Moore v. US (Docket 22-800) a closely watched case revolving around the TCJA provision that applies to US taxpayers who own at least 10% in a controlled foreign corporation. The tax was applied to Charles and Kathleen Moore, a Washington-based couple, whose 13% stake in an Indian company, KisanKraft, lead to an additional $15,000 on their 2017 tax bill.
The Moores’ suit at its core maintains the tax violates the Sixteenth Amendment as an unconstitutional tax on unrealized income. They argued to the lower courts and in Supreme Court briefs that the company’s earnings were reinvested and not distributed to shareholders. Baker & Hostetler LLP partner Andrew Grossman represented the petitioners at oral arguments, where he reiterated the need for a realization requirement for a tax to be valid.
“Without realization, there is no limiting principle,” said Grossman in his opening statement. “Accepting the government’s position on income would make a hash of the current law. … If the government’s position in this case is right, then current law already requires taxpayers to report and pay tax on appreciation in the value of all their assets on corporate earnings for any stocks that they own, and on any paper gains from their contracts in loans. That’s not how the income tax has ever worked going back to 1913. Again, the reason the law doesn’t work that way is the obvious one: unrealized gains are not income.”
Grossman faced pushback in questioning from justices, who seemed keenly aware of the attention the case has received from the tax community. While several organizations like the Chamber of Commerce and conservative groups submitted amicus briefs in favor of Moore, many practitioners worry that a win for the petitioners would have a domino effect in the form of a revisit to what counts as taxable income, such as with partnerships and passthroughs.
Justice Amy Coney Barrett asked Grossman if it would be fair to “attribute the income generated by KisanKraft to the Moores, which is a distinct question of whether there was income within the meaning of the Sixteenth Amendment.”
“I think it ultimately comes down to a 16th amendment question for the same reason that the court thought so in [Eisner v. Macomber], which is that a shareholder’s interest in a corporation, including in its income, is a capital interest and therefore a property interest,” Grossman responded. “And so if there is some reason to look beyond that, and attribute income to the shareholder, that would necessarily raise a question of income, and why it is that this shareholder isn’t being taxed on what would otherwise be a property interest.”
The government was represented by Solicitor General Elizabeth Prelogar of the Department of Justice. Throughout proceedings, the government’s position was that there is no realization requirement. Justices, as they were worried about what a ruling for the Moores would mean, also presented the same concerns to Prelogar.
“I don’t fault the parties for shooting for the stars, but I guess the tenor of the questions is that nobody’s happy with anybody’s definition of anything,” Justice Sonia Sotomayor remarked.
Although Prelogar argued again against a realization requirement, she also raised the point that given the specific facts of the case, there was an income realization anyway, something Justice Neil Gorsuch called a “backup argument.”
That secondary argument seemed to resonate with Justice Brett Kavanaugh. “Even assuming or leaving open whether realization is a constitutional requirement, there was realized income here to the entity that is attributed to the shareholders in a manner consistent with how Congress has done that and this court has allowed,” he said.
Sotomayor asked Prelogar to describe a type of narrow ruling the government is then seeking.
“It would be critically important for the Court to do it through Justice Kavanaugh’s approach,” Prelogar answered. “That is, I don’t think the Court needs to resolve anything about whether the Sixteenth Amendment requires realization. Congress can attribute that realization by the corporation to the shareholders.”
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