Question for the Court: Can States Tax Income Twice?

This article was updated to include arguments from Wednesday’s Supreme Court session and to clarify that the 1978 case involving Iowa had to do with taxing business income from certain sales.

The U.S. Supreme Court today heard arguments in a long-standing interstate tax dispute, the outcome of which could cost one state tens of millions of dollars and potentially shake up a fragile balance among states over how they tax their residents’ income when they earn it elsewhere.

The case comes out of Maryland, brought by a couple who sued over how the state taxed income they earned out of state. Maryland — like every other state with an income tax — offers a credit to taxpayers on their income tax bills for what they pay in taxes where the income is earned.

But unlike the others, Maryland’s credit is only partial. It offers no credit on a small part of its income tax that is distributed to counties, meaning that its residents pay taxes on the same income twice.

The plaintiffs in the case say the practice is unconstitutional, citing a string of cases that have generally blocked so-called double taxation, often in the name of protecting interstate commerce. The argument is that through its double taxation, Maryland creates an incentive for its residents to work only in Maryland.

During Wednesday’s arguments, Chief Justice John Roberts and Justice Samuel Alito seemed troubled by the potential threat to interstate commerce. Alito cited a submitted brief arguing that Maryland’s tax “operated exactly like a tariff.” Roberts later said that if every state did what Maryland did, “that sounds to me like a tariff.”

But the acting solicitor general of Maryland, William Brockman, said his state should not have to change its tax practices in deference to those of another state, even if there is a concern over double taxation.

“There is no reason a state should have to subordinate this taxing power,” Brockman told the justices. Further, he added, “Maryland is not required to provide a credit at all.”

Justice Antonin Scalia seemed to welcome the point. “That’s my problem with this,” he said, referring to the thinking that one state would have to give in to another’s tax decision. Scalia said opponents were citing “imaginary” constitutional arguments to back up their claims.

The U.S. and Maryland chambers of commerce, the Tax Foundation and the American Legislative Exchange Council (ALEC), which lobbies for conservative causes, agree with the plaintiffs. Maryland, the federal government, the Multistate Tax Commission (a membership group of state departments of revenue) and others defend the practice. Click here for a full list of the briefs filed in the case.

For decades, states have operated under the assumption that double taxation is not allowed, hence their practice of offering credits for taxes levied by other states. But experts say the core question of whether states are forbidden from taxing income twice has never been truly settled.

As they see it, the uncertainty applies to every state’s tax system, and pits federalism and state sovereignty against principles of free trade that have governed more than two centuries of commerce among states.

“It’s a fundamental, foundational question,” said Bradley W. Joondeph, the associate dean for academic affairs at the Santa Clara University School of Law, who wrote his own preview of the case. “When you have a state being told that its income tax system, which is in many respects critical to its raising of revenue, is unconstitutional, that’s something that’s going to get the court’s attention.”

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Colo. Gov. Asks Supreme Court To Ax Taxpayer Rights Row

Share us on: By Eric Kroh
Law360, New York (October 27, 2014, 2:03 PM ET) — Colorado Gov. John Hickenlooper has asked the U.S. Supreme Court to block a challenge by state legislators and educators to the state’s taxpayer bill of rights, which allows voters to approve or deny new taxes, saying the case is not justiciable.
Solicitor General Daniel D. Domenico, on behalf of Hickenlooper, asked the high court to review the Tenth Circuit’s decision in July to let the case go forward, contending that the question on the state’s government should be left out of federal courts.

“Courts throughout American history would have dismissed this case as non-justiciable,” Domenico said in his petition for certiorari, filed Oct. 17. “More than a century of Supreme Court precedent prohibits the federal judiciary from wading into the political questions raised by the guarantee clause.”

The Supreme Court should put to rest the confusion it created in New York v. United States when it opened up the question of whether to maintain the per se rule that prohibits federal courts from ruling on the structure of state governments, Domenico said.

Since the New York decision, a three-way circuit court split has emerged, with the Tenth Circuit standing alone in holding that some guarantee clause claims are justiciable, Domenico said. Meanwhile, the Eleventh and Ninth circuits have continued to apply a per se bar to guarantee clause claims, and other courts have raised the possibility of adjudicating a guarantee clause case but have not done so, he said.

“In parting ways with these other approaches, the Tenth Circuit has taken at least two leaps beyond current law,” Domenico said. “It not only questioned the per se rule but affirmatively rejected it — something no other court has done.”

The Supreme Court should also decide that the plaintiffs in the case do not have standing because they cannot point to a specific legislative vote that has been undone by the taxpayer bill of rights and so fail the test the high court had established in Raines v. Byrd, according to Domenico. Only three of the plaintiffs remain in the state Legislature, he said.

A representative of the plaintiffs was not immediately available for comment.

The Colorado taxpayer bill of rights, or TABOR, adopted in 1992, mandates that a tax law passed by the state Legislature and signed by the governor always be placed on the next election’s ballot for voters to decide whether to approve it. Various groups including state legislators and educators sued Hickenlooper in 2011, claiming that requiring the electorate’s advance approval of tax increases dilutes the power of the legislators, violating the guarantee clause.

Immediately after being sued, Hickenlooper tried to dismiss the suit, saying the plaintiffs did not have standing because they were not individually injured by TABOR. The district court denied the motion, and the governor appealed to the Tenth Circuit.

The three-member Tenth Circuit panel upheld the lower court’s decision on strictly jurisdictional grounds in March, affirming that the plaintiffs had provided adequate proof that TABOR, by requiring voter referendum on most tax issues, caused them injury. The appellate court did not address the case’s merits. In July, a divided Tenth Circuit decided against rehearing the lawsuit en banc.

Hickenlooper is represented by Colorado Solicitor General Daniel D. Domenico.

The case is Hickenlooper v. Andy Kerr et al., case number 14-460, in the U.S. Supreme Court.


–Editing by Christine Chun.

Software Downloaded in Texas Creates Nexus for Out-of-State Seller

The Texas Comptroller recently issued a decision that an out-of-state software company had nexus with Texas because it licensed software used in Texas.

The company was based out of Utah and sold computer programs and digital content over the Internet. The purchase and use of the company’s products was governed by license agreements, which granted customers licenses to use the company’s products. The license agreements prohibited customers from transferring the products to third parties and placed other restrictions on customers’ use of the products. The company retained all rights in, title to, and ownership of the licensed products. The company had no other significant presence in Texas.

Texas requires out-of-state retailers to collect Texas use tax if the retailers have nexus with Texas. “Nexus” is the amount of contact, as determined by state and federal law, that is sufficient for a state to legally require a person to collect and remit sales or use tax. Federal law requires that a person have physical presence in a state to have nexus with that state.

Texas considers prewritten software to be tangible personal property for sales tax purposes. The Comptroller decided that the company had nexus due to the presence of the company’s licensed software and digital content in Texas. Because the company kept property rights to the software, it had property in Texas. The software was tangible personal property owned by the company and located in Texas. The Comptroller decided that this was enough physical presence to create nexus. The company therefore had to collect Texas tax on its sales of software to Texas customers.

TTR, Inc.
340 NE Kirby Street
McMinnville, OR 97128

2015 State Business Tax Climate Index

Ranking the Best and Worst States for Business Taxes
Annual release of the 2015 State Business Tax Climate Index

Washington, DC (Oct 28, 2014)—Wyoming, South Dakota, and Nevada rank among the best business tax climates, while companies in New Jersey, New York, and California struggle with the worst tax codes in the county, according to the newest edition of the Tax Foundation’s annual State Business Tax Climate Index.

The report’s key findings include:
• The 10 most competitive states are: Wyoming (#1), South Dakota (#2), Nevada (#3), Alaska (#4), Florida (#5), Montana (#6), New Hampshire (#7), Indiana (#8), Utah (#9) and Texas (#10).
• The 10 least competitive states are: New Jersey (#50), New York (#49), California (#48), Minnesota (#47), Vermont (#46), Rhode Island (#45), Ohio (#44), Wisconsin (#43), Connecticut (#42), and Iowa (#41).
• The most notable ranking changes occurred in North Carolina, Nebraska, North Dakota, New York, Wisconsin, Maine, and Kansas (see state specific press releases for more details).

The report, now in its 11th edition, measures how well structured each state’s code is by analyzing over 100 tax variables in five different categories: corporate, individual income, sales, property, and unemployment insurance taxes. States are punished for overly complex, burdensome, and economically harmful tax codes, but are rewarded for transparent and neutral tax codes that do not distort business decisions. A state’s ranking can rise or fall significantly based not just on its own actions, but on the changes or reforms made by other states.

Since the last edition, many states have experienced ranking changes largely because of the fundamental reforms made in a handful of states. The most exciting change occurred in North Carolina which experienced the largest rank improvement in the study’s history, jumping from 44th to 16th place due to a fundamental overhaul of state’s tax code. Nebraska, North Dakota, New York, and Wisconsin also improved their tax codes. Conversely, Maine was the only state that saw a significant drop in rank this year due to its increased state sales tax rate.

“The federal government is gridlocked, but state policymakers on both sides of the aisle are enacting truly fundamental reforms,” said Tax Foundation Economist and Manager of State Projects Scott Drenkard. “States are doing their part and it’s time that Washington steps up.”

The goal of the State Business Tax Climate Index is to start a conversation between taxpayers and policymakers about how their states fare against the rest of the country. This report helps answer the questions: How well is your tax code structured? How competitive is your state compared to the rest of the county? Are businesses in your state spending too much time complying with onerous tax provisions? Are you double taxing things you shouldn’t?

Full Report: 2015 State Business Tax Climate Index

Media Contact:
Richard Borean
Manager of Communications
Tax Foundation

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