A piece of the Tax Cuts and Jobs Act (TCJA) was recently brought into question at the highest legal level. While many hoped Moore v. United States would settle a broad issue regarding whether the income tax requires realization by the taxpayer, the Supreme Court ruled narrowly, punting on the bigger issue.

Since 2006, Charles and Kathleen Moore held an interest in an Indian company named KisanKraft, a controlled foreign corporation (CFC). Though the company was profitable, the Moores received no dividends. Generally, prior to the TCJA, tax would be deferred for the Moores on KisanKraft’s income until it was repatriated via distributions. However, the TCJA imposed a one-time mandatory repatriation tax (MRT), which taxed unrepatriated foreign company earnings for certain shareholders.

The Moores paid their $14,729 of MRT and sued for refund arguing the tax was unconstitutional because they had never received dividends from their investment and therefore never realized income. Lower courts dismissed the case, but the Supreme Court agreed to take up the issue.

Why would the highest court take up a case involving such little tax? Because whether the income tax requires a realization event by the taxpayer under the 16th Amendment has sweeping effects for the tax code. If it’s decided that realization is required by the taxpayer, several widely-used provisions, such as passthrough entity taxation and Subpart F, could also be challenged as unconstitutional because they too tax an owner on a company’s realized income regardless of distributions received. If realization is not required, current tax proposals for an individual wealth or mark-to-market tax based on an investment’s value could have a clearer path.

The Court ultimately decided that ruling on a realization requirement was not fundamental to the outcome of the Moore’s case. Instead, a 7-2 decision provided that the MRT was constitutional as attribution of income from certain entities, including a CFC, to its owner has been upheld for decades. However, the two dissenting opinions strongly disagreed with the majority, arguing that an opportunity to address the realization requirement was missed and the MRT is unconstitutional. While the majority opinion controls the outcome of this case, the stage is set for future debate.
 

Published: 08/08/2024

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