On July 27, 2021 we posted U.S. Government Argued Repatriation Tax Is Constitutional! Where we discussed that the U.S. government urged the Ninth Circuit to not revive a couple's challenge against the 2017 federal tax overhaul's repatriation provision, arguing the pair has mischaracterized the levy on foreign income as an unconstitutional direct tax on property. (Charles G. Moore et al. v. U.S., case number 20-36122, in the U.S. Court of Appeals for the Ninth Circuit).
Now according to Law360, the Ninth Circuit tossed a constitutional challenge to the 2017 federal tax overhaul's corporate repatriation tax, affirming a lower court's decision that the one-time levy passes muster under a clause limiting the federal government's authority to tax.
The Tax Cuts and Jobs Act's repatriation tax is a permissible tax on income that does not exceed limits on the government's taxation power laid out in the U.S. Constitution, the appeals court said in a published opinion Tuesday. The provision under Internal Revenue Code Section 965 was passed as part of the TCJA's shift to a more territorial tax system, and it imposes a one-time mandatory transition tax on deferred earnings held abroad.
Congress authorized the tax with the legitimate intent to tax offshore, undistributed earnings held by U.S. people that could otherwise avoid taxation, according to the opinion. And courts have consistently affirmed the validity of other taxes similar to the transition tax, the Ninth Circuit said, rejecting a California couple's challenge to the tax under the apportionment clause as well as the Fifth Amendment's due process clause.
David A. Hubbert, deputy assistant attorney general of the U.S. Department of Justice, lauded the decision in a statement. "We are gratified that the court of appeals reaffirmed Congress' broad authority under the Constitution to solve unique tax problems, such as taxing more than $2 trillion in earnings being held offshore by U.S. taxpayers," Hubbert said.
But Sam Kazman of the Competitive Enterprise Institute, who is representing the couple, told Law360 that the Ninth Circuit advanced too expansive a view of income in finding it "does not need to be realized in order to be taxed." The holding risks opening the door to taxes such as a wealth tax, according to Kazman, who said his legal team will likely challenge the decision.
The couple in the dispute, Charles and Kathleen Moore, filed a complaint in 2019 in California federal court saying they paid about $15,000 in taxes under Section 965 based on their small stake in a controlled foreign corporation, KisanKraft Ltd., that provides affordable equipment to India's small-scale farmers. In seeking a refund, the Moores said the tax bill was based on earnings retained and invested by KisanKraft, earnings they never received, and that the levy is a direct tax that violates the Constitution's apportionment clause.
That clause requires that such taxes be apportioned among the states in proportion to their population. The 16th Amendment, though, carves out an exception for income taxes.
The California federal court tossed the suit, finding that the tax is a tax on income that consequently doesn't violate the apportionment clause. It also rejected the Moores' arguments that the tax is imposed retroactively in violation of the Fifth Amendment's due process clause, given that it "is a rational means of affecting a legitimate legislative purpose."
The Ninth Circuit agreed with those holdings, finding Tuesday that Congress authorized the tax to address the $2.6 trillion in offshore earnings that the U.S. previously couldn't tax until they were distributed. And it has reached this result by "rational means," by using a date following the passage of the TCJA as the effective date of distribution in order to tax the earnings, according to the opinion.
Kazman of the Competitive Enterprise Institute, a libertarian think tank, told Law360 that the opinion is a "relatively extreme ruling" that can allow the government to pursue different taxes, such as a wealth tax proposed by Sen. Elizabeth Warren, D-Mass., or federal property taxes.
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