Tax World Is Nervous as Court Arguments in Moore Case Approach

The Supreme Court is set to hear oral arguments Tuesday in a critical tax-law case that is poised to create upheaval—on the federal and state levels alike.

The case, Moore v. United States, concerns whether a tax on companies’ past foreign earnings is constitutional, and whether income that hasn’t been “realized” by taxpayers can be taxed. If the court ultimately decides the answer is no, many observers fear that could trigger not only gigantic tax refunds to multinational companies, but could also preclude any future attempts to impose taxes on wealth, and call into question a host of other taxes that have been around for years or decades.

That could lead to a wave of new litigation, and a need for new legislation and regulation to address parts of the tax code that the court’s ruling may sweep away because they bear some resemblance to the tax at issue, these observers say. It could also limit policymakers’ future flexibility in raising revenue, and cause havoc in many states’ tax systems.

“Huge chunks of the tax code are at risk,” said Chye-Ching Huang, executive director of the Tax Law Center at the New York University School of Law.

The case concerns the mandatory repatriation tax, also known as the transition tax, imposed by the 2017 tax law as a one-time levy on past foreign corporate profits when the US decided to tax such profits going forward. Multinational companies such as Apple, Microsoft, and Pfizer are paying a total of hundreds of billions of dollars under the tax.

Charles and Kathleen Moore, a retired couple from Washington state, are challenging the tax over a $14,729 tax bill they had to pay under the same provision. The Moores were taxed on the profits of an Indian machine-tool company in which they’d invested, even though the company’s earnings hadn’t been distributed to them.

The Moores and their supporters insist the repatriation tax can be struck down without disrupting the rest of the tax code. In the Moores’ brief to the court, they argue that while the tax is unconstitutional, that “does not cast doubt” on other tax provisions. The Cato Institute, which filed an amicus brief supporting the Moores, said other parts of the tax code wouldn’t be affected by the ruling, and that the court “need not be concerned about opening a Pandora’s Box.”

But many tax practitioners, academics, and other observers don’t see a good way to separate the repatriation tax from other taxes based on similar principles. A broad ruling in the Moores’ favor “will eviscerate a massive portion of our current tax regime,” which would flow down to the states, said Andrew Appleby, a professor of tax law at Stetson University College of Law in Florida.

The Supreme Court will hear oral arguments in the case on Tuesday. A ruling is expected by next June.

Potentially Wide-Ranging Effects

Throwing out the mandatory repatriation tax would have an enormous impact on its own: The government has estimated that the tax would bring in $340 billion over 10 years, and a ruling striking it down may require the IRS to issue refunds of amounts that companies have already paid.

But the effects may extend much further. Moore hinges on whether a taxpayer has to “realize” income to be taxed on it. That means if the justices strike down the repatriation tax, it could also affect other taxes similarly based on income that hasn’t been directly realized by or distributed to taxpayers.

Prominent among those: a potential future wealth tax or “billionaires’ tax,” since such taxes might be imposed based on the accumulated value of wealthy individuals’ assets, which wouldn’t have been monetized by those taxpayers.

Senate Finance Committee Chairman Ron Wyden (D-Ore.) introduced the latest such proposal last week, telling reporters there was “no question” it was legally sound and that it uses “provisions in the tax code that I think are clearly constitutional.”

At the state level, California, Illinois, New York, Washington, and others all considered bills this year to impose a levy on personal net assets above a certain threshold, though none of those proposals succeeded.

“The stakes are certainly high,” Appleby said.

A ruling in the Moores’ favor could also ripple through taxes already on the books, like the tax on Subpart F income, in which shareholders of US corporations must pay taxes on the passive income of the corporations’ foreign affiliates, even if it isn’t paid to the parent company. The tax on global intangible low-taxed income, or GILTI—the US’ minimum tax on a company’s foreign income—could also be affected.

Such international taxes rely on a foreign subsidiary’s attribution of income to the parent company’s US shareholders in order to combat incentives for the company to shift profits offshore, said Rebecca Kysar, a Fordham University law professor and a former Treasury Department tax official. A broad ruling for the Moores “would essentially leave the US tax base defenseless against profit-shifting,” she said.

Invalidating such taxes would also, in turn, “complicate or even render impossible” US participation in the OECD’s new 15% global minimum tax, said Alan Cole, senior economist at the Tax Foundation.

More casualties could include taxes on “sophisticated investments,” largely aimed at wealthy taxpayers and meant to ensure they pay their fair share, said Steve Rosenthal, a senior fellow at the Urban-Brookings Tax Policy Center. Those include taxes on original issue discount bonds, where full value is paid only at maturity, and regulated futures contracts taxed on a mark-to-market basis, where investors are taxed before they receive the proceeds.

Any ruling that requires realization for tax purposes could invalidate those provisions, and that “would permit rich taxpayers to dodge their fair share of taxes, sometimes permanently,” Rosenthal said.

Base Erosion in the States

At the state level, most use a taxpayer’s federal adjusted gross income as a starting point to calculate state taxes, so a Moore ruling rendering some kinds of income non-taxable could lead to erosion of their tax bases, too.

Several states that tax mandatory repatriation revenue might face refund demands of their own if the tax is found unconstitutional. A broad Moore ruling could also affect state tax structures that rely on some analysis of unrealized income, like taxes on partnerships and financial contracts using mark-to-market accounting. State revenue agencies should pay close attention to such provisions, Appleby said.

Even a narrow ruling for the Moores could hurt the states, while an even slightly broader ruling “would likely destabilize the tax systems” in states that conform to federal provisions like GILTI and Subpart F that are similar to the repatriation tax, a group of Democratic attorneys general from 16 states and the District of Columbia wrote in an amicus brief to the court.

For their part, 17 Republican state attorneys general filed an amicus brief in September supporting the Moores, portraying the lower-court decision that went against them as an infringement on states’ taxing power. Taxes on unrealized values and gains, such as property taxes, “are traditionally the States’ domain,” the attorneys general wrote.

If the court does strike down the repatriation tax, it could be just the first step on a long road in the courts, tax observers think. Even a narrow ruling is likely to lead to attempts by taxpayers to question other taxes via litigation, said John Harrington, co-leader of Dentons’ US tax practice. “There could be a lot of new cases.”

Taxpayers are “clever and adversarial,” Cole said. If the court rules that realization of income is necessary for it to be taxed, it will “invite taxpayers to plan around the court’s limitations to keep their money away from the IRS.”

—With assistance from Samantha Handler.