Legalistic Lawlessness and the Strategic Use of Repudiated Supreme Court Precedents, Part One of Two

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Posted in: Tax and Economics

The so-called Billionaires Tax is apparently dead. As I explained in a Verdict column last week, Senate Democrats recently floated a proposal to tax the “unrealized” income of the ultrarich, a move that would have partially repealed one of the longest-running scams favoring the wealthy that our tax code provides. Most of us pay taxes on incomes in the year that we receive them; billionaires are not required to do the same.

That proposal is not moving forward, as I noted, but so be it. Good ideas die in Congress all the time, and I was honestly surprised when I learned that Democrats had even come out with the proposal. Indeed, until just a few days ago I had forgotten about a Verdict column that I wrote in early 2019 in which I suggested that Democrats might try to pass a tax proposal like this, but I gently described it as “an open political question” whether they would have the nerve to do so.

If the Democrats’ proposal is now dearly departed, however, what more is there to say? It turns out that we can learn quite a lot from the brief flurry of commentary that was published this week before the proposal was killed (evidently by Joe Manchin). Especially useful are the arguments from some conservatives who revealed that they are prepared to revive and abuse Eisner v. Macomber, the long-repudiated Supreme Court decision that I discussed both in last week’s column and in its predecessor in 2019.

Today, therefore, in Part One of a two-part series, I will explain how easy it would be for a motivated Supreme Court to mangle logic and precedent to make it more difficult for Congress to enact taxes that would collect revenues from the richest Americans. Before getting there, however, I will explain how this will matter even if the United States soon becomes a one-party autocracy under permanent Republican, non-majoritarian rule.

The Democrats’ Tax Plan—Good Though It Was—Might Not Have Been Worth Writing About

Two months ago here on Verdict, I published “Dead Democracy Walking,” in which I explained why it is already too late to save our pluralistic constitutional democracy from being turned into a one-party state. What Republicans have done over the last two generations, but especially in 2021 at the state level, makes it all but impossible to see a path by which Democrats will be declared the winners of future elections, no matter how unpopular Republicans and their policies are.

There is no need to recapitulate the arguments in that column again here, but I bring it up to remind myself that last week’s column was in an odd sense a broken promise. In that column, I wrote this about my writing henceforth on Verdict:

Future columns will follow a common structure: identify an issue, stipulate that my analysis is likely to become obsolete when the country’s rule of law finally ends, and then gamely (or, perhaps stubbornly) analyze the identified issue as if the country’s anti-democratic future is not already ordained.

I did not do that last Thursday, at least inasmuch as I did not stipulate that this is all going to become obsolete soon. And in this case especially, that lapse on my part matters.

In that column, I indulged old habits of imagining that the Democrats might pass laws while they hold political power, that those laws would be challenged through normal legal means, and that several years from now we might or might not see the Supreme Court invent an unprincipled reason to protect rich people from taxation.

To be clear, even though the death of American democracy will become impossible to ignore or deny in a few years, there are good reasons for Democrats to try to pass good laws in the meantime. A big part of the intraparty battle over the social investment bill this year, in fact, has been informed by the reality that Republicans might not feel comfortable repealing laws that the vast majority of people support. If the Democrats can enact permanent child tax credits, or universal pre-K, or expanded Medicare benefits, or any of their other highly popular proposals, those policies are likely to “stick” in the same sense that the Affordable Care Act became too popular to repeal, to use only the most prominent example.

Republicans understand that taking away something people value is more difficult than stopping them from having it in the first place. Even under one-party autocracy, Republicans are likely to choose their battles carefully, if only because they will be squabbling for power among themselves. Winning their party’s primaries, after all, will in part involve pandering to their base—the same base to which their disgraced former President pandered by promising never to touch Social Security or Medicare. Good, progressive policies are often too widely accepted to jettison.

That being said, the Billionaires Tax was never going to be in the category of “things the Republicans would leave alone.” The one and only major piece of legislation that Republicans were able to pass in the four years before Joe Biden became President was an extremely regressive tax law that Republicans somehow tried to claim was not a giveaway to the most powerful Americans. Cutting taxes for rich people is, and always will be, their prime directive.

Therefore, if the Democrats were to pass a tax on the unrealized income of the ultrarich, that law would be Item Number One on the Republicans’ legislative agenda, to be repealed within nanoseconds after they take back power. This issue, therefore, would never have had time to get to the Supreme Court, because Republicans in Congress (and whoever they install in the White House) will be falling all over themselves to cut taxes for their wealthy patrons—not only in repealing any progressive tax changes that the Democrats might yet enact, but continuing to hack away at any progressivity that might linger in the tax code.

The Notion of Legalistic Lawlessness Revisited

The reason the constitutional analysis of the Billionaires Tax matters, then, cannot be that at some point in the future it would result in the invalidation of a law that remained on the books. Again, even if Democrats had passed that law, it would be gone in short order. Why, then, might it still matter to get into the constitutional muck?

The answer is that the Supreme Court could in other ways be valuable in the Republicans’ efforts to exempt the rich from taxation. Although a future Republican government would repeal the obvious things like a Billionaires Tax, maybe the Supreme Court could supercharge its efforts to return the country to the pre-New Deal days—which readers who went to law school will know as the Lochner era—in which the Constitution itself is deemed to be a protection racket for the wealthy and powerful.

Would Republicans like to repeal the income tax entirely? Some have tried, and they might do so again; but they would find it quite agreeable if they could say that “the Supreme Court says that we can’t tax incomes.” Short of that, would they not enjoy seeing the Court rule at least that progressive taxation (which, by definition, imposes higher tax rates on higher incomes) violates our founding document? At the other extreme, maybe taxation itself could be deemed to be unconstitutional? In a Dead Democracy era, all bets will be off.

In a column early last year, I coined the term “legalistic lawlessness” to describe how the Supreme Court in the post-constitutional age could dress up the exercise of raw power in the garb of reasoned jurisprudential discourse. The idea was that Republicans need not act openly as though the country has become a banana republic, because the one skill that people like Neil Gorsuch and John Roberts have honed over the years is to hide awful decisions behind a cloud of legalistic nonsense. (This generation’s Korematsu, 2018’s Trump v. Hawai’i, is only the most tragic example of this.)

When it comes to taxation, why would the Court’s conservatives not reach back into the Lochner playbook and rely on an actual case from that era, that is, the Macomber case that I discussed last week? The messy analysis in that case is an open invitation to play games with future tax cases.

Consider what one conservative legal pundit wrote about Macomber early this week, as part of a flailing argument against the Billionaires Tax:

Whether something is defined as income often has to do with whether a person has complete control over a source of money that can then be used in trade to purchase or invest as one sees fit. Unrealized gains don’t fit under that rubric because the wealth is on paper, not in the hands of the owner to use as she wants. In 1920, the Supreme Court ruled that stock dividends or splits can’t be taxed because they are not income.

The argument that precedes the final sentence’s reference to Macomber is simply confused. Even on its own terms, it merely asserts that the definition of income “often” depends on the factor that he identifies, which is a puzzling way to formulate a supposedly devastating constitutional argument. But even that one factor is simply irrelevant.

Unrealized gains on an asset, after all, are within a person’s complete control, because the person can trade the asset, sell it, borrow against it, or keep it and do nothing at all (other than think happily about how much richer they have become). Not selling it does not mean that it is not within their complete control to do so, nor does the fact that their increased wealth is on paper. The owner owns what she owns, and when it goes up in value, she has more purchasing power and—most importantly—has thus received income.

To the extent that there is a doctrinal argument hiding in that mess at all, the pundit might have been referring to the Supreme Court’s 1955 Glenshaw Glass case, which held that income can be taxed (under what is now Section 61 of the Internal Revenue Code) when the taxpayer has experienced “undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion.”

That, however, is a statutory case, where the Court explained what Congress must have meant when it defined gross income (a definition that, of course, a future Congress can change at any time). More to the point, the realization requirement is a separate prong of that analysis, and “complete dominion” simply does not have anything to do with whether something has been realized at all—much less whether realization is constitutionally mandated.

Regarding Macomber itself, the piece that I quoted above links to another conservative legal commentator, who tried to rewrite history in a slightly different way. Referring to a report by ProPublica from earlier this year that explained how unrealized gains should be included in taxpayers’ incomes, this former professor wrote:

In 1920, the U.S. Supreme Court concluded that, under the 16th Amendment, there must be some actual transfer of rights before Congress can tax appreciation as income. Sell appreciated property and you realize the gain. But just hold on, and there’s no income to tax. The ProPublica report measures effective tax rates by assuming that unrealized increases in wealth are the same as income. That point may have polemical power, but it’s not the law.

Yes, in 1920 the Macomber majority did indeed say that only realized income is income, but that is not the law today. As I explained in my 2019 piece, in 1940 the Supreme Court repudiated the earlier case’s analysis. In Helvering v. Bruun, the Court did not need to overrule Macomber, because the case’s holding itself was fine—a classic example of having reached a valid conclusion via faulty logic, the latter of which the Bruun Court was eager to reject.

Why was the holding in favor of the taxpayer valid? The taxpayer in the Macomber case had been taxed when she received a “stock dividend,” which for these purposes can be thought of as a stock split, where she was told to send her 2,200 shares of Standard Oil of California stock back to the company, in return for which she would receive 3,300 new shares. But because the company did the same thing (a 3-for-2 replacement) for every shareholder, no one was richer as a result. because they each still owned the same proportion of the same company.

The shareholders thus did not experience gains at all, so they had received no income—neither realized nor unrealized. This is different from “ordinary dividends,” where the recipients in fact are richer when the company gives them money that they did not previously have. The Bruun Court thus explained that the analysis in Macomber was meant only “to clarify the distinction between an ordinary dividend and a stock dividend.” The former is not income (realized or not), while the latter is.

As I explained in last week’s column, we thus have for over eighty years been living in a world in which Macomber has been limited to its narrowest holding, and the realization doctrine exists entirely as a statutory matter. Tax scholars summarily ridicule the constitutional analysis in Macomber, and for good reason.

This alone, however, is enough raw material for the current Supreme Court to work with. If they so desired, they could claim that Macomber has never been overruled (which is only true of the holding, as above), and now they can say that unrealized income is not income in a constitutional sense, hiding behind a century-old precedent rather than admitting that they are defying logic as well as decades of consensus.

It is important to add here that, even if a tax were held to be a “not-income tax,” that does not itself make the tax unconstitutional. As I explained in yet another Verdict column in early 2019, a not-income tax—even a simple tax on wealth—is constitutional (at worst requiring “apportionment,” which conservatives would hate). It is thus important to understand that Republicans cannot say that “this tax is unconstitutional” even if it taxes something other than income.

And it only gets worse from there. As I will explain in Part Two of this two-part series, the Roberts Court is already being encouraged to think about all taxes as taxes on wealth. Although that would not make any taxes unconstitutional per se, it would completely upend the way that our tax system works—with devastating consequences for our economy and our society. Sound radical? You have no idea.