On May 18, 2015, the United States Supreme Court issued a 5–4 decision in favor of the taxpayer in a dormant Commerce Clause tax case involving respondents Bryan and Karen Wynne and the Maryland income tax laws.1 Although Maryland allowed credit for out-of-state taxes paid by residents and non-residents, the state did not apportion or apply that credit to a taxpayer's county taxes. The Court concluded that the failure to take out-of-state taxes into account in determining the Maryland residents' county taxes violated the dormant Commerce Clause.
This decision will most likely affect not just Maryland, but also New York, Indiana, and Pennsylvania, all of which have similar provisions in their state income tax laws. The benefit is to all taxpayers located in those states that have an interest in a pass-through entity such as a partnership, limited liability company or S corporation, where the entity produces income in more than one state.
The case was brought by the Wynnes, a couple living in Maryland who owned an interest in Maxim Healthcare Services, Inc., an S-Corporation that produced income in 39 different states. The Wynnes paid all of their taxes in Maryland, where they resided, as well as in other states where the income was produced. When they filed their Maryland tax return, they claimed a credit against Maryland's state and county taxes for taxes paid to the other states.
Maryland's State Comptroller allowed the credit against state taxes but disagreed with the claim for credit against county taxes and therefore assessed a deficiency against the Wynnes. When the taxpayers received the assessment, they followed the procedural requirement in Maryland. A hearing with appeals affirmed in the Comptroller's favor. The Wynnes then appealed to the Maryland Tax Court, which also found in the Comptroller's favor. They next appealed to the Maryland Circuit Court for their jurisdiction and were rewarded with a ruling in their favor holding that the Maryland law violated the Commerce Clause. The Comptroller appealed to the Maryland Court of Appeals, Maryland's highest court. That court affirmed the Circuit Court's holding based on Complete Auto Transit, Inc. v. Brady 2 and its determination that the Maryland law failed the fair apportionment and nondiscrimination parts of the Complete Auto Transit test. The Comptroller appealed that decision to the Supreme Court, which ruled in favor of the taxpayers.
The Court's Opinion
Justice Alito wrote the opinion of the Court, in which Justices Kennedy, Breyer, Sotomayor, and Chief Justice Roberts concurred. The Court relied on precedent finding generally that the dormant Commerce Clause prevents states from imposing a tax that discriminates against interstate commerce by providing a benefit to local business or subjecting interstate commerce income to multiple taxation. 3
In particular, the Court looked to three cases involving a state's attempt to tax the portion of a corporation's gross receipts derived in other states. 4 The dissent argued that these cases should not be seen to protect the Wynnes, because they deal with gross receipts rather than net income. The Court countered that more recent cases, such as Complete Auto Transit, had made clear that the gross receipts/net income distinction was no longer relevant. The State argued that these cases involving corporations should not govern here, because individuals receive services from their home state and have the right to vote for legislators of their choice who make the local laws and lobby them to change tax laws. The Court dismissed this argument, noting that "it is hard to see why the dormant Commerce Clause should treat individuals less favorably than corporations" and that the precedents cited applied the same law to corporations and individuals. Further, corporations also receive services from states and have the ability to lobby government for favorable laws. The ability of residents to vote and thus influence changes in the laws that affect them directly is not a sufficient reason to overlook a discrimination problem, the Court said: "[I]f a State's tax unconstitutionally discriminates against interstate commerce, it is invalid regardless of whether the plaintiff is a resident voter or nonresident of the State." 5
The Court then examined the "county" tax applied to residents who earn income in other states under its "internal consistency" test, which "looks to the structure of the tax at issue to see whether its identical application by every State in the Union would place interstate commerce at a disadvantage compared to intrastate commerce." 6 The Court concluded that Maryland's law would burden interstate commerce under this test by favoring income earned within the state. The Court went on to suggest that the problem could be corrected either by providing a credit to residents who pay taxes in other states or by removing that state tax from non-residents..
Justice Scalia dissented, joined by Justice Thomas in part. Justice Scalia reiterated his long-held constitutional objection to the judicial doctrine of a "dormant" Commerce Clause that requires the Court to determine the relative interests of commerce and states even in areas in which Congress has not legislated. The Scalia dissent noted the inconsistencies that abound in the Court's dormant Commerce Clause precedent, providing a series of examples illustrating the contradictions in the cases and arguing that the Wynnes should not prevail under appropriately applied precedent. 7 Justice Thomas joined in both of these assessments. Justice Scalia's dissent included a third part setting out the way he would vote on dormant Commerce Clause cases in general, in which Justice Thomas did not join.
Justice Thomas dissented separately (joined in part by Justice Scalia), noting his view that the dormant Commerce Clause jurisprudence made no sense and was "unworkable in application". 8 Justice Thomas found the new requirement that all states must provide a full credit for taxes paid to other states to be a change from the historical understanding of state taxation under the constitution and not in accord with the Court's own precedents. 9
Justice Ginsburg wrote the principal dissent, joined by Justices Scalia and Kagan. She argued that the states should have the power to tax worldwide income regardless of the jurisdiction to which additional taxes are paid, based upon the states' powers under the Due Process Clause in the Constitution.
The court has recognized that there is no distinction between corporations and individuals when it comes to the Commerce Clause. For most taxpayers, the Court's application of the dormant Commerce Clause to states in the Wynne situation will be a positive. Both the Court's opinion and the dissents make clear, however, that there can easily be "internally consistent" state tax schemes that result in double (or multiple) taxation for taxpayers and do not fall under a dormant Commerce Clause challenge. In that case, the taxpayer would not win from the Wynne decision.
The Wynne result is not as rosy for states, which may face considerable revenue loss by the requirement of giving a full credit for other state's taxes (without the cap that operates in terms of the foreign tax credit and prevents US credits for foreign taxes at rates that exceed the US tax rate and would thus reduce taxes on US source income with taxes paid to foreign countries). States will likely grapple with the Wynne decision for some time, to determine how best to handle this significant change in revenue from their residents. ■
1 Comptroller of the Treasury of Maryland v. Wynne Et UX., available at http://www.supremecourt.gov/opinions/14pdf/13-485_o7jp.pdf (hereinafter referred to as "Slip Opinion").
2 430 U. S. 274 (1977). This case asks whether a "tax is applied to an activity with a substantial nexus with the taxing State, is fairly apportioned, does not discriminate against interstate commerce, and is fairly related to the services provided by the State." Id. at 279.
3 The Court cited, among other cases, Northwestern States Portland Cement Co. v. Minnesota, 358 U. S. 450, 458 (1959), for its statement that a tax that subjects interstate commerce to the "burden of multiple taxation" is discriminatory under the Commerce clause. Slip Op. at 6.
4 Slip Op. at 6-7 (citing J. D. Adams Mfg. Co. v. Storen, 304 U. S. 307 (1938); Gwin, White & Prince, Inc. v. Henneford, 305 U. S. 434 (1939); and Central Greyhound Lines, Inc. v. Mealey, 334 U. S. 653 (1948)).
5 Slip Op. at 11.
6 Slip Op. at 18-19. The Court noted that it must consider three taxes that are labelled as different taxes as one tax: In order to apply the internal consistency test in this case, we must evaluate the Maryland income tax scheme as a whole. That scheme taxes three separate categories of income: (1) the "county tax" on income that Maryland residents earn in Maryland; (2) the "county tax" on income that Maryland residents earn in other States; and (3) the "special nonresident tax" on income that nonresidents earn in Maryland. For Commerce Clause purposes, it is immaterial that Maryland assigns different labels (i.e., "county tax" and "special nonresident tax") to these taxes. In applying the dormant Commerce Clause, they must be considered as one.
Slip Op. at 21, n. 8.
7 Scalia Dissent, at 5-6.
8 Thomas Dissent, at 1.
9 Thomas Dissent, at 3.