When the Supreme Court deviates from its usual efforts to avoid hearing tax cases, it is usually because the underlying issue is not truly about taxes. That pattern was repeated last week, when the Court issued rulings in one high-profile and one very low-profile case, both nominally about tax law. Important issues were resolved, but on Dormant Commerce Clause and statutory interpretation grounds, respectively. Tax law was a sideshow.
Perhaps I should not allow my tax professor persona to feel churlish, however. After all, even the most skeptical view of the distinction between “Congress making laws” and “courts interpreting laws” would have to embrace the idea that tax law is ultimately about policy and thus politics, and it is generally good that the courts leave that to the people’s representatives.
Still, one cannot help noting that the Supreme Court continues to be utterly confused about taxes and financial issues more generally. Here, I will discuss these two decisions from last week, along with a relevant Supreme Court case from three years ago, and I will then suggest that last week’s low-profile case might end up having the most important (and negative) effects going forward.
The Long-Sought Death of Quill
The higher-profile case was South Dakota v. Wayfair, Inc. , in which a 5–4 majority of the Court held that states can require out-of-state retailers to collect sales taxes (especially from online purchases) and remit the revenues to the relevant state governments. Why was this seemingly obvious result such a big deal? As always, this goes back to a very bad precedent.
In my first year of being a tax law professor (2003–04), I attended an academic conference in which another new legal scholar was discussing a Supreme Court case from 1992 called Quill (Quill Corp. v. North Dakota, 504 U.S. 298). Because that case dealt with state and local taxes, whereas my work focused on federal budgeting issues, I had not yet been exposed to Quill.
As the presentation proceeded, I simply could not believe what I was hearing. The Supreme Court had ruled that state governments could not require out-of-state retailers to collect sales taxes unless there was a “substantial nexus” between the state and the retailer under Commerce Clause jurisprudence. What did this mean in practice? A retailer could sell goods to residents of a state but not have the necessary “nexus” because it “merely” sold goods into the state. If so, the retailer would not have to collect sales taxes in the way that in-state retailers must do. Instead, the state would have to rely on its citizens to pay taxes directly to the state on products purchased from out-of-state retailers, which they (almost) never do. (Indeed, many online retailers openly encourage buyers to believe that taxes are not owed at all.)
If ever there were a meaningless form-over-substance distinction, I thought, this was it. Even worse, one of the arguments in favor of the Quill rule was that it would somehow be too complicated for out-of-state retailers to keep track of different jurisdictions’ tax laws. The Sears-Roebuck catalog had existed for nearly a century, and by 1992 even high school kids owned computers pre-loaded with spreadsheet applications, but we were to believe that it was too difficult for retailers to consult a list of tax rates in order to compute sales taxes?
In the fifteen years that I have been a tax law professor, there has not been a single instance in which I have heard another professor say anything positive about Quill. Even so, when a colleague at another law school wrote an amicus brief for Wayfair (which I, along with many of my colleagues, eagerly signed), strategic considerations prevented him from saying directly that Quill was idiotic.
Instead, the argument had to be that online retailing had changed matters so significantly that Quill—even if it had been correctly decided—was no longer sensible in a digital economy. This was true, but it was also a bit silly. Yes, it is easier to compute sales taxes today than it used to be, but it was never difficult.
I should also say that there is a sense in which this outcome is a Pyrrhic victory. That is, many of the people who are celebrating Quill’s demise are in favor of progressive taxation, which is to say that we believe that higher-income people should pay higher effective tax rates than lower-income people pay. Income taxes, especially the federal income tax, have long been designed to achieve that goal.
By contrast, sales taxes are notoriously regressive, because poorer people spend disproportionately more (compared to richer people) on sales-taxable goods and services, which means that even a flat-rate sales tax ends up hitting poorer people much more significantly. In a way, then, allowing states to collect sales taxes more easily enables a bad system to continue.
In the end, however, that is a second-order concern, because even regressive tax revenues can be used for progressive purposes. When states lose huge amounts of revenue because of people being enticed to buy online—which not only costs their state and local governments’ money but also harms their local businesses—the result is less money for essential state services. A more enlightened federal government (such as existed, surprisingly enough, when Richard Nixon was president and Congress was in Democrats’ hands) would transfer federal money to states, but until we get back there, the end of Quill is a necessary step in the right direction.
Why Did the Supreme Court Rule on This Issue at All?
As I noted above, the Wayfair case was a 5–4 ruling, which we have come to expect from high-profile cases. The breakdown of the vote, however, was not the usual matter of the four liberalish justices disagreeing with the four movement conservatives and Justice Kennedy casting the deciding vote. Instead, the majority opinion was written by Justice Kennedy, joined by Justices Alito, Ginsburg, Gorsuch, and Thomas. Chief Justice Roberts’s dissent was joined by the other three liberalish justices. In other words, Roberts and Ginsburg were in unexpected positions.
This reminded me of another Supreme Court case pertaining to state tax issues, 2015’s Comptroller of Treasury of Md. v. Wynne, which saw an even stranger lineup of justices in a 5–4 opinion: Alito, Breyer, Kennedy, Roberts, and Sotomayor in the majority, with Ginsburg, Kagan, Scalia, and Thomas in dissent.
Like Wayfair, Wynne ended up being a Dormant Commerce Clause (DCC) cases more than a tax case. As Verdict columnist and Cornell Law professor Michael Dorf noted on his blog last week, Wayfair exposes some puzzling features of DCC doctrine. Among other things, he notes that the Court has it arguably backward in terms of a statutory-versus-constitutional distinction in determining when state laws can be invalidated.
In any event, Wynne saw a state government lose its right to collect taxes as it saw fit, whereas Wayfair respected states’ right to collect taxes. In that light, if we view Gorsuch as a stand-in for Scalia, the justices who were consistent across both cases in respecting the states were Ginsburg, Scalia/Gorsuch, and Thomas. Kennedy and Alito were inconsistent, and the other three were consistently wrong. (It is perhaps unsurprising that Ginsburg continues to be right on these cases, because her late husband Martin Ginsburg was one of the all-time great tax scholars.)
In my Verdict column regarding the Wynne case three years ago, I noted that the Court had purported to prevent so-called double taxation but had actually (and quite explicitly) allowed states to adopt mutually inconsistent tax systems that could put citizens with multi-state sources of income in a bind. Even on its own, then, Wynne made no sense. At least Wayfair has solved a very pressing real-world issue for states, but other than allowing the justices to very publicly exhibit their confusion about the DCC, nothing else has been resolved.
What Is Money (and Other Deep Thoughts)?
The low-profile case with a tax angle that I mentioned at the beginning of this column is Wisconsin Central Ltd. v. United States, in which the five conservatives reunited in a 5–4 majority holding that “money compensation” does not include employee stock options. On its face, that outcome is neither manifestly obvious nor plainly nonsensical, but it turns out that the majority did get it wrong. The more interesting questions are why they did so and why this odd little case saw the return of the usual ideological split among the justices.
The tax aspect of the case arises from the Railroad Retirement Tax Act of 1937, which created a retirement system for railroad workers that was separate from the just-enacted Social Security system. That Act exempted many forms of in-kind benefits (including food, lodging, and railroad tickets) from the taxation of “compensation” that funded that retirement system.
In particular, Congress defined compensation in the Act to include “any form of money remuneration,” apparently to distinguish wages from things like free meals. Inevitably, however, this created a difficult gray area.
As it happens, my career prior to law school was as an economics professor, focusing in large part on monetary economics. This meant that I had over the years had to explain to less-than-exhilarated students that “money” exists along a continuum. There is cash, there are checks, there are debt cards, there are stocks, there are US Savings Bonds, and there are an almost unlimited number of not-quite-the-same near-equivalents to cash.
I would usually write a list of such financial instruments on the board, arranged in order of “liquidity,” which essentially means the ease with which something can be used to buy something else. Cash is by its nature the most liquid, but even a person’s private residence could in rare instances be used in a transaction to buy something else, such as a person using her house to buy a business.
The point was that things like clothing, services, and food were non-liquid, in a relative sense, compared to financial assets. (In what sadly counts as humor to economists, I pointed out that perishable items like milk were the least “liquid” assets, because they are nearly impossible to use in financial transactions.)
As I was reading the Wisconsin Central decision, I was therefore amused to see the justices struggling with such a fundamental concept of financial economics—and especially with one that involves arbitrary line drawing, which lawyers tend to hate.
Again, the question raised by the case was whether employee stock options—clearly a financial asset, not an item like food or lodging—can be taxed or are instead do not qualify as “money remuneration.” How would the justices view this?
To my chagrin but not surprise, the Court blew it, drawing the line such that employee stock options are likened to food and not to money. To my genuine surprise, the majority did so even though Justice Breyer’s dissent made it clear that the relevant federal agencies had consistently interpreted the statute otherwise for eighty years (with no objection from the railroads until very recently).
In other words, the majority looked at what is clearly a blurry line-drawing exercise that nonetheless actually does have a principled answer—stock options are not cash, but they are “money” in a meaningful and relevant sense that food and train tickets are not—and decided to pretend that employee stock options are not “money” because they are not cash. The majority then overturned nearly a century of consistent (and completely reasonable) agency interpretation to reach its ruling.
If this outcome had been reached by a 5–4 split that was as random as the Wynne or Wayfair majorities, I might simply chalk this up to the idea that far too many lawyers (including Supreme Court justices) are not very good at thinking about financial matters like taxes and the definition of money. With the Court’s five Republican-appointed justices opposing the four Democrat-appointed justices in this case, however, this ought to raise eyebrows. (The Court’s conservatives also badly mangled the economic analysis—apparently deliberately—in its antitrust case this week, as Professor Tim Wu of Columbia Law School noted.)
There is surely little at stake in terms of left–right political valence in Wisconsin Central. What does seem to be happening here is that the Court’s conservatives feel completely comfortable superimposing their (not crazy, but ultimately incorrect) definition on a statute, and to do so while quite aggressively ignoring the competent guidance of the administrative state.
Is this related to Justice Kennedy’s gratuitous comment in a concurrence in a different case last week (as discussed by Joshua Matz) that the Court might want to revisit Chevron deference? This certainly seems like a battle that Justice Gorsuch would happily endorse, given his history of opposing Chevron deference, which Professor Dorf has discussed here on Verdict.
If so, that would not always cut in a conservative direction, but especially because the Wisconsin Central decision wipes away an administrative rule that was decades old, it suggests that the Court might be prepared to launch into an aggressive attack not on the Trump executive branch’s actions but on the long established “deep state” that Republicans have now deemed to be another enemy of the American people. It is too early to tell, but this bodes ill for the future.