Analyzing Dissent in Moore v. U.S.: Realization Requirement and Constitutional Implications

In this episode of the Tax Section Odyssey podcast, the focus is on the landmark Supreme Court case, Moore v. United States, which examined the constitutionality of the mandatory repatriation tax under Sec. 965 of the Tax Cuts and Jobs Act (TCJA). The Court upheld the tax with a 7–2 majority.

The case opens up further discussion on the taxation of unrealized gains and the constitutionality of a wealth tax. Tony Nitti highlights the significance of the Supreme Court’s decisions on taxation and encourages a thorough reading of the opinions for their educational value.

Also, revisit previous episode from Nov. 22, 2023 — All eyes on Moore v. U.S. plus a history lesson on tax cases.

Transcript

April Walker: Hello everyone and welcome to the Tax Section Odyssey podcast, where we offer thought leadership on all things tax facing the profession and today we have a really quick turnaround podcast that I'm excited about with Tony Nitti, he is a partner at EY National Tax, he is a frequent guest on the show and we recorded late last fall on this topic, the Moore vs. the United States and the podcast was published on November 22nd.

Dare I say riveting podcast or at least it was riveting to me. Hopefully, you listened to it. I will put a link to it on the facts and arguments in the Moore case being heard by the Supreme Court. There was a history lesson, several references to Hamilton, my favorite musical and just an all around fun time.

Here we are Tony, the court took their sweet time I feel like but they dropped the decision last Thursday and here we are first thing Monday morning to record. We are here for the people, so welcome, Tony.

Tony Nitti: Thanks for having me April. Good to be back with you. I'm excited for two reasons. One, you and I and Damian Martin that is also at EY, we did talk about the Moore case back in, I guess it was late November. I know it was right before the oral arguments in our podcasts. Then Damien and I had done a presentation on it at national tax and so I'm excited to come back just to talk about Moore in general.

But I'm also excited because I did get a little jealous when I saw you did a separate podcast with Damien last week and I knew that I had to do something to knock him off the top line of the list of AICPA podcasts. Damien, as soon as this publishes you are relegated to number two. All is right with the world now April.

April Walker: I'm happy to be part of the competition between two greats such as yourselves. The prior podcast did an amazing job, in my opinion, going through all the details but for those who might not want to take a deep dive, that one probably runs 45, 50 minutes, something like that.

For those who don't want to go back and listen, I don't know why you wouldn't but if you don't, Tony, I'd love for you to give us a quick background to set the stage for us on the Moore case.

Tony Nitti: I'll do it as quick as possible and I don't want to bury the lead. Let's talk about the ruling before we even get into the facts but Supreme Court did rule by a 7:2 majority in favor of the government. Effectively saying that section 965 of the code that was added as part of the Tax Cuts and Jobs Act, what we call the mandatory repatriation tax, that it is in fact constitutional and yes, this was a victory for the government.

But let's backup now, let's go through the facts and then talk about why was everybody hanging on that the Supreme Court's decision here, why was this such a eagerly anticipated opinion in the tax community? The facts in Moore, very basic. We've got a retired couple up in the state of Washington and in 2006 they invested some money in an Indian corporation.

They took back more than 10% of the stock, the corporation was owned more than 50% by US shareholders, thereby making it a controlled foreign corporation or CFC. Then from 2006 all the way to the end of 2017, the CFC made money but it never actually repatriated any amounts back to the Moores in the form of a dividend. Under the laws in place at that time, the Moores had no income to recognize at the individual level because they hadn't received any dividends from their CFC.

Now we know that since 1962, part F has imposed a deemed dividend on shareholders of a CFC when that CFC is earning certain types of passive income but that's not what we're talking about here. The corporation CFC in India, it was earning regular operating income, so there was nothing to attribute back to the Moores in the form of a deemed dividend, until December 22nd, 2017 because that's when Congress passed the Tax Cuts and Jobs Act.

As part of that Republican tax bill. One of the things we did was shift from what we call a worldwide system of international taxation to a territorial system of international taxation. With that shift, what was going to happen and what did happen is that income held in a CFC post-2017, when it was repatriated to the US in the form of a dividend would not be subject to tax at the individual level.

But you can't just flip a switch and make that move April because if that income has been stashed in a CFC prior to 2017 and has never been subject to US tax. If you suddenly opened the flood gates and allow what was rumored to be anywhere from 1.5 to $2 trillion that had been stashed in CFCs, never subject to US tax. If you allow that to come back post-2017, tax-free, that's a windfall. That money would have never been subject to US taxation.

To prevent that windfall, Congress enacted Section 965, this mandatory repatriation tax and what it did is it said, look certain shareholders of a CFC as of December 22nd, 2017, you have to pretend that you received a dividend equal to your pro rata share of the CFCs income from whatever came later 1986 or when you acquired the stock all the way through to the end of 2017.

Tony Nitti: By picking up this deemed pretend dividend and paying tax on it, now we can pave the way for this switch to a territorial regime where in the future that same money can actually be repatriated back to the US and not have to be subject to US tax.

Tony Nitti: The Moores dutiful taxpayers that they were, paid the 965 tax, I believe it was $14,729 and then they got around to thinking, what did I just pay tax on? I never received anything. I put money into a CFC and I sat on my hands and I enjoyed the fact that the company was doing well but I never took a penny out.

Tony Nitti: Why on earth am I cutting a check to the Internal Revenue Service? They sued in district court and the district court dismissed in favor of the government. They appealed up to the Ninth Circuit, the Ninth Circuit did the same and then over the summer last year, the Supreme Court decides that they will listen to this case and it certainly surprised a lot of people.

Tony Nitti: Why would the nation's highest court agree to hear an argument over $14,000 in tax? But the root of it was the fact that they were arguing, the Moores were that Section 965 was unconstitutional and that's a big deal. When you're saying something's unconstitutional and that goes beyond just your run-of-the-mill argument, you tend to see in Tax Court.

Tony Nitti: The reason they were saying it was unconstitutional, it was something that was certainly going to pique the interest of the Supreme Court and certainly in this day and age. What they said was, look.

Tony Nitti: The 16th Amendment to the Constitution grants Congress the power to lay and collect taxes on income from whatever source derived without having to apportion that tax among the states based on population. When the 16th Amendment says it can tax income by definition in the 16th Amendment has to be realized. There has to be what we call this realization requirement and we'll examine that further. Just for our purposes right now, it just means that I need to have something in my hands that makes me richer from an economic sense that I can do what I will with.

Now we know that tax law has expanded upon the concept of realization where you can have concepts of constructive realization, but we'll get into all that. The idea is something had to happen to lead me richer in an economic sense. They said, here in 965, I'm being taxed on amounts that clearly I never received. There has been no realization. If there's been no realization than whatever the taxing me on cannot be income. The only thing they could be taxing me on, is my ownership of stock and a CFC as of a specific date and time, December 22nd, 2017.

That type of tax, a tax on ownership of property, is a direct tax under the meaning of Article 1, Section 9 Clause 4 of the constitution, what we call the direct tax clause, and is required by that clause to be apportioned among the states based on population. Since 965, last time I checked it was directly assessed and not apportioned among the states based on population. The tax violated the Constitution.

A really fascinating argument, April, because what it looked like it was doing was setting us up for a showdown for the ages because in their written briefs, the taxpayers, more or less said to the Supreme Court. We need you to rule once and for all that, yes the 16th Amendment contains a requirement that income be realized before it can be taxed as income. You can only imagine, and this is what we discussed in our first podcast at National Tax, what the implications of that type of ruling would be if the Supreme Court last Thursday had handed down a ruling that said income has to be realized. It's not just 965 that would face expulsion from the code. How does partnership roll? How to S corporations? How do they survive if there's now this constitutional realization requirement?

When you think about pass-through taxation, we know that the owners are taxed on their share of the pass-through entities income, whether they get a penny or not in the form of distributions. If you've suddenly got this realization requirement, how do you make peace with Subchapter K and S? Or what about Subpart F that we just talked about? That since 1962 has allowed Congress to say to shareholders that have a CFC, we know you didn't get anything out of the CFC, but the CFC is earning passive income, and to prevent abuses, we're going to pretend that you got your share of that passive income and subjected to tax. How can Subpart F continue to exist if there's this new constitutional realization requirement as established by the Supreme Court?

The reason we got together in November and had a whole session devoted to it at National Tax was because smart people like former House Speaker Paul Ryan, were saying, look, a victory for the taxpayers in Moore could invalidate up to a third of the current tax law. That's a big deal.

Then for the government's part, they appear to be saying to the Supreme Court, it's time for you to rule the opposite, that there is no realization requirement inherent in the 16th Amendment. Imagine what those consequences would be. If we're saying income does not have to be realized. It's not just about preserving Subpart F and Subchapter K and S. It's about the future of tax law.

If income doesn't have to be realized, then Congress, if it needs to, could attempt to tax taxpayers unrealized appreciation in their assets and less anybody think that's far-fetched. Remember that, a couple of weeks after we got together in November, April, Senator Ron widened formally released his proposal for what he calls the billionaires tax, which is a minimum tax that would reach, in part, certain individuals unrealized appreciation in their assets. It's a very real proposal that's floating out there right now.

If the Supreme Court last Thursday would have come down and said, there is no realization requirement. Congress can tax whatever it wants, then it would obviously leave the door open for something like that tax on unrealized appreciation or maybe, and I think this is a slightly different argument that we can get into, or maybe even a wealth tax, which obviously Elizabeth Warren and other candidates in the 2022 election from the Democratic side were proponents of we. In November me, you and Damien, just like every major newspaper, just like every morning talk show we're discussing Moore because of the implications. We thought we were headed for a landmark decision, an absolute showdown with the Supreme Court, backs to the wall had to say once and for all, is there a realization requirement in the 16th Amendment?

April Walker: Very nice. I think that sets us up for that you told us what the decision was, the court came down in favor of the government 7-2. Let's talk now about what that really meant. How did the showdown, how did it come out and what did we learn from this and what significance does it hold for our taxpayers now?

Tony Nitti: When you ask how do the showdown come out? It didn't. That's disappointing to many. It's anticlimactic too many, but it also shouldn't be a surprise. Now how can I sit here and say, it shouldn't be a surprise when Damien, myself, you, we devoted a couple of hours between podcasts and sessions back in November to saying this realization requirement is going to get settled here. What changed that ultimately, the court was able to decide without even addressing the realization requirements and why would I say that shouldn't be a surprise.

We had unfortunate timing with our sessions back in November, April because first week of December is when the oral arguments were held in Moore. It became very clear in the oral arguments that both sides, taxpayers and the government, had perhaps become aware of the gravity of what they had asked the Supreme Court to rule on because they both took steps to give the court an avenue to a more narrow, less impactful ruling, so that the taxpayers, the Moore's, they came in and said, we're reading the same articles everyone else is that we could try to throw out one-third of the code here.

You don't have to do that Supreme Court in order to rule in our favor because what we're going to do here, in these oral arguments is we're going to concede for you that these other provisions that people are looking towards, they're constitutional for their own reasons. Partnerships work because partnerships have always been treated as being a mere aggregate of its partners, like they don't have a separate tax existence. That is why income of a partnership can be taxed at the partner level, whether or not it's been distributed. S corporations, every shareholder who's around at the time the S election is made, has to affirmatively consent to that election. You know what you're getting into.

What you're getting into is being taxed on income that perhaps you haven't realized yet, but as long as you sign up for it, then you're stuck with it. They say that's what makes S corporations different. The fact that you have to consent to it. Then Subpart F, this was a little bit of a reach I think, but they said look, Subpart F is designed to attack specific abuses where people are putting passive income in a CFC when they could just as easily hold it in their individual capacity. We think that one is okay as well.

I think that last piece in particular hurt the taxpayers a bit because if you read Justice Barrett and Alito's concurring and judgment opinion, they're not quite so sure it appears to me that Subpart F would even be necessarily constitutional and we can get into why that would be in just a few moments. They were trying to make it easier in the Supreme Court saying you don't have to worry about throwing out this other stuff but, Sec. 965, it's a different animal. It's not a partnership, it's not an S-Corp, It's not Subpart F.

It is a situation where reinvested money and a CFC got nothing in return for 12 years, and now you're taxing me on income that I've never received, that's got to go. That's unconstitutional. The government, they came in and they said, hey, Supreme Court, guess what? You can rule in our favor without even addressing this realization requirement because if you look hard enough, you'll realize here that income has clearly absolutely been realized. It's just that it was realized at the corporate level, at the CFC level. If we look back at the judicial precedent of this very core, we can see in the mid-20s to the late 30s, a series of cases that allow Congress to attribute the income that's been realized by an entity, specifically when that entity is taxed as a pass-through for US tax purposes.

That's a partnership, that's an S-Corp. In a lot of settings, it's also a CFC, but Congress can attribute the income earned by a pass through to its owners even if it has not been distributed. So they said, Supreme Court, we're giving you an out here. You can rule in our favor without even talking about realization. Instead, just focus on attribution. Acknowledge that the income has been realized at the CFC level, and there's nothing preventing Congress from saying, we're going to attribute that income at the CFC level to its shareholders, including the Moore's and make them pay tax on it even though it is yet to be distributed.

Tony Nitti: After the oral arguments, I think most people who were watching closely saw the writing on the wall. Because the Supreme Court is in the habit of issuing the most narrow opinion that they can in order to rule on a specific set of facts. With the government giving the Supreme Court a pretty clear avenue to a more narrow ruling that didn't have to address the realization requirement, I think a lot of people anticipated that we were going to get a decision that was largely based on attribution rather than realization.

That's what ultimately came down last Thursday and that's why I say it feels anticlimactic to some because we only had to get into to the second footnote in the entire case where the majority opinion drafted by Justice Kavanaugh said, we're not here today to talk about what would happen if Congress were to try to tax unrealized appreciation or even wealth. Then, even in the body of the opinion, Kavanaugh comes out at some point and says, the Moore's wanted us to say there's a realization requirement. The government wanted us to say that there is not, we don't need to address that today in order to opine on this set of facts.

Tony Nitti: That realization debate has just been deferred because instead, what they did is the majority kept it very simple. Just like the government proposed to them, they looked at cases stretching from 1925 there were four of them from 25 to the late 30s and they're slightly different facts in each case. But by and large, you had these four cases that showed that Congress has flexibility when you have an entity taxed as a pass through and you have flexibility if you're Congress to have either taxing at the entity level or taxing at the owner level. Now, the court did put some guardrails around that flexibility. Kavanaugh talked about the fact that, this concept of attributions should generally be limited to, as I mentioned before, entities that are taxes pass-through for US tax purposes, which would be your partnerships, your S corps, things like grantor trust and then CFCs. But then also Justice Kavanaugh was saying that we're not saying that they can tax the same income at both levels under the same character but yes, you can have income at a corporate level, dividend and shareholder level, but they were putting some guardrails around it.

Generally speaking, they kept it very simple and the majority did two things. One, as I said, they looked at that judicial precedent that says, we've got a history here of being able to tax, for example, on Heiner v. Mellon, partners on income that even under state law, they were not permitted to receive in the form of distribution. Then we have the Bruce Baker case where Congress was able to tax partnership income at the entity level because it was effectively acting as if it were a corporation. They looked at these four pieces of precedence and yes, the concept of attribution is alive and well, we can take this income earned at the CFC level and attributed to the Morris.

Then they just took some steps to take apart the Moore's argument that Sec. 965 is somehow vastly different from Subchapter K and S and Subpart F because they said, this argument that partnerships are never respected as separate tax-paying entities. We know that's not the case and we have case-law here that says, at various moments in time, we've been able to levy taxes at the partnership level and we know that for variety of reasons for federal tax purposes, partnerships are respected as their own entity. Maybe not necessarily tax paying entity, but their own entity and aren't mere aggregates of its partners. From an S corporation perspective, you say that every shareholder has to consent to the election and they do.

But think about if the shareholder mix changes and now you have shareholders owning 49% of the stock and they want to revoke that S election. You need more than 50% consent to revoke an S election. You can have 49% of shareholders who do not consent to that election, but they're powerless to do anything about it. They said the mirror requirement that you consent is not enough here to differentiate sub S for 965 and then Subpart F the argument for the Morris was largely based on the degree of control that shareholder had to have in the CFC. But it's the same 10% control for 965 purposes as it is for Subpart F purposes.

The court just basically said your arguments Moore aren't convincing to us. We're going to keep this simple. We're going to attribute the income of the CFC to you here and say that is perfectly constitutional. The decision was a little anticlimactic, but should not have been surprising.

April Walker: Little bit anticlimatic on the decision. And the focus on attribution versus realization. But Tony, is there anything we can gleam or learn from this decision?

Tony Nitti: I certainly think there is. We've got a 33 page dissenting opinion from Justices Thomas and Gorsuch that could best be described as a strongly worded, maybe scathing, whatever you want to call it. But it was very clear that these two justices, in descending to the majority's opinion, really felt like the Supreme Court had a missed opportunity here to address this ambiguity in the law and figure out once and for all whether or not there was a realization requirement. Because they accused the majority of this is a direct quote, “changing the subject in addressing attribution over realization”. But then went on to say pretty definitively, no pretty about it. They went on to say definitively, we believe there's clearly a realization requirement inherent in the 16th Amendment and so we don't agree with this ruling. Listen, it's a dissenting opinion so to some degree that angry arguments set forth is the legal equivalent of Grandpa Simpson shaking his fist at a cloud.

But we should still pay attention to it because I believe that it was a well-crafted argument by Justices Thomas and Gorsuch as it goes through the evolution of the Constitution that I think could absolutely serve as a foundation for future defenses against, for example, a tax on unrealized appreciation. I think there's a lot to be learned from this dissenting opinion where Thomas and Gorsuch build out their argument as far as why there's a realization requirement in the 16th Amendment.

If you've got a couple more minutes April, I certainly wouldn't mind taking our listeners through it. Because like I said, I do think it's well thought out. But we don't have to go through the whole history again, like we did last time about how the constitution came to be but it is important that we understand a couple of steps in the evolution. You want to hear the entire sorted history, you can go back to the original podcasts, get all your fill of Hamilton references as April said.

But for today's purposes, it's 1787 we're at the Constitutional Convention and we are aware that we need to be able to generate revenue for the federal government, but at the same time, we have to be sensitive to the sensibilities of the country's citizens who, after that nasty breakup with England, were not going to be particularly receptive to taxes.

The Constitution starts out with Article 1, Section 8 Clause 1, that just grants the government it's general taxing power. It says that the Congress can enact taxes imposed duties, excises, and pretty much leaves it at that. But that concept of taxes, we knew they were going to need more guardrails around because people were so sensitive to it and after some heated negotiations between the Southern and Northern states that we go into detail about in the first podcast, they come out and say, the two most likely taxes that we're going to impose at the federal level are what we call a poll tax or a tax per head on humans simply for existing and then a tax on the ownership of real property.

One of the guardrails we want to build into the Constitution is that these types of taxes, what we will call it direct taxes had to be apportioned among the states based on relative population. They added a second clause to the Constitution, Article 1, Section 9, Clause 4 what's become known as the Direct Tax Clause and that clause simply just says, all direct taxes have to be apportioned among the states based on population. Quick example of how that would work if Congress were to enact a national tax on each acre of land and the total tax is going to be $10 million to be collected from all the states.

If Connecticut and Virginia, even though they may have different acreages of land within their state boundaries, if they have the same exact population, they're going to pay a portion of that overall federal tax. You take the national tax and you say, each state pays its share based on its relative population as a part of the whole. That was supposed to provide some safeguards and some guardrails. The problem as we delve into in our first podcast is that nobody really understood what a direct tax was and that's been a bit of a problem.

Tony Nitti: A couple of years later we add a supreme court case called Hilton, where the Supreme Court ruled that a tax on the ownership of carriages for the conveyance of persons was not a direct tax. In that case, the justices, each of them, to some degree, came out and said, at this point, we think the only things that truly are direct taxes are taxes on people and taxes on ownership of real property. That's how things stood for the next 100 years, April until post-civil war, Congress tried to enact its first ever peacetime income tax.

Tony Nitti: That got challenged right away in a case called Pollock versus Farmers Trust and the taxpayer said, look, this income tax is unconstitutional. Why? Because it is a direct tax. If we stop right there, like wait a minute, you just said that direct taxes were things like a tax on people and a tax on owning real property. How can an income tax be a direct tax? Well, the taxpayer was arguing, look, we know a tax on ownership of property, like real property is a direct tax. The tax on the income that comes from that property, we don't have any mechanisms in the constitution to distinguish between those two, to separate between the two.

Tony Nitti: We have to treat a tax on income that comes from property like rental income from real estate, the same way constitutionally, we would treat a tax on the underlying ownership of the real property and everybody acknowledges that is a direct tax. A tax on the income from the property should also be a direct tax. Then extending that concept to personal property, they said the same thing. They said, if you own stock and we want to tax the dividends that come from that stock. Well, taxing that income is akin to taxing the ownership because we have no means to distinguish between the two, and so that would also be a direct tax.

Tony Nitti: If you can't tax dividend income, you can't tax rental income, a big part of your income tax isn't going to work anymore and that's exactly what happened, April. Much to the surprise of Congress and in one of the most analyzed, scrutinized, debated cases in the supreme court's history, Pollock versus Farmers Trust, the Supreme Court rules that the income tax, in large part, is a direct tax that has to be apportioned among the states based on population. Obviously that doesn't work to apportion and income tax among the states based on population, and so the tax disappeared. The income tax was gone.

Tony Nitti: But Congress couldn't just sit there and do nothing. They needed a way to generate revenue and so they did something that would be largely unthinkable in today's environment, but they amended the constitution. This piece here, April is critical to understanding the arguments set forth by Justices Thomas and Gorsuch. Because in the 16th Amendment, it was done specifically to counteract the ruling in Pollock. Congress came out and said, okay, we're going to amend the constitution to say that congress shall have the power to lay and collect taxes on income from whatever source derived without apportionment among the states.

Tony Nitti: But what they didn't do, April when they added that 16th Amendment, and again this is critical, is they didn't get rid of the direct taxing clause, right? They could have just ripped that from the pages of the constitution say, we're getting rid of this requirement that a direct tax has to be allocated among the states, but they didn't. They left it there when they added the 16th Amendment, which says, we can tax income without apportionment.

Tony Nitti: In the eyes of Thomas and Gorsuch, and this is not in their eyes, I should say, this is a fact and then I'll get to their opinion, the fact is post 1913, we have three distinct categories of tax regimes in this country. Number one, we have indirect taxes like duties, imports, and exercises that we don't need to worry about for this conversation. Number two, we have the direct tax clause, direct taxes have to be apportioned among the states based on population. Then category three, we have an indirect income tax that doesn't have to be apportioned.

Tony Nitti: The point that Justices Thomas and Gorsuch make, and it is an interesting one, is that if we're going to have category two while adding category three, and we're going to retain both those categories. There has to be some way to distinguish when an item falls in category two as a tax on property, a direct tax, versus when it falls in category three, a tax on income. That process, according to the two justices, by which an item that's being taxed moves from category to a tax on property, a direct tax, to category three a tax on income, is this process of realization, this idea of realization.

Tony Nitti: We can further refine this idea of realization in both legal and layman's terms right, from a legal perspective, they said, hey, look at the 1920s decision the supreme court you had someone who invested money in a corporation, and then got a stock dividend, and that stock dividend didn't make them richer. It gave them more slices of pie in the corporation, but reduced the value of each slice. So their overall value of their ownership hadn't changed.

Tony Nitti: But the IRS tried to tax it and the supreme court said you can't because it's not income. The reason it's not income is because there's been no realization. In defining realization, they said, look, when you make a capital investment in a corporation like this, you don't have realization until you have something of detachable, separable value in your hands as the shareholder that you can do whatever you want with, that you can use at your disposal. Since you don't have anything of value here, there has been no realizations, so that's the legal definition.

Tony Nitti: A more simple definition, April that I find helpful is if we want to distinguish between what is a tax on property in category two, that's a direct tax and what's a tax on income that's not, is to think of it in terms of a tree and the fruit that it bears. You own a tree, you own property, right? Taxing the ownership of that tree would be a direct tax. But if that tree bears fruit, think about fruit. You can only fully enjoy fruit if you sever it, if you detach it, if you harvest it from its source from the property.

Tony Nitti: In the eyes of Thomas and Gorsuch here, the dissenting justices, what they're saying is, we have to have that moment where the fruit is detached from the tree and only then does the fruit become income that can be taxed as income, not have to be apportioned among the states, so it's that critical moment of realization. April, if you appreciate your analogies being food-based, I don't know maybe that tree and fruit analysis helped you.

April Walker: It certainly did.

Tony Nitti: Yes, it's extending that argument two more, the facts and more. It becomes very simple for Justices Gorsuch and Thomas because they say, the Moores invested in a corporation, that is a tree, that is a property investment. Show me where the fruit was. They never got any fruit. They never got a distribution. They never got anything in their individual capacity, and so if we were to tax what is effectively an ownership of stock here and treat it as if it were taxing the fruit that never came, taxing it as if it were a tax on income, then what we're doing from a constitutional sense is we are ignoring Congress's decision to preserve Category 2, to retain that direct tax clause. Because for them to take the time and effort to keep the direct tax clause means that Congress believes some items should continue to be treated as a direct tax on the ownership of property. Until property bears fruit, any tax that you tried to assert on that property should continue to be respected as a direct tax or else what was the point of preserving that direct tax clause when you added the 16th Amendment.

Tony Nitti: They then went on, and hopefully this is making it more clear for the listeners and not more confusing, April, but this concept of a tree and fruit, I think is helpful. Until you've got fruit in your hands, how can anything be taxed as income. They went on to say, think about it in terms of a tax on unrealized appreciation. Imagine that you, April, buy real estate today for a million bucks, and over the next year, you don't rent that real estate out. You don't sell that real estate. You don't generate a penny of income from the real estate, but it does appreciate and value, it doubles by next year at this time.

Tony Nitti: If Congress were to come in and try to tax you on that doubling in value. What Justices Thomas and Gorsuch would say, April, "Is there any fruit in this situation? Did you receive anything of separate detachable value that you harvested from the tree? Now have in your individual capacity to do what you want with?

April Walker: Seems no.

Tony Nitti: Seems like no. They would say is if it seems like no, then you can't possibly be taxing fruit. The only thing you can possibly be taxing is the ownership of the tree, the real estate. Since 1787, people have appreciated that a tax on ownership of real estate is a direct tax that Article 1, Section 9, Clause 4 of the Constitution requires to be apportioned among the states based on population. That's it, that's the thrust of their argument.

But it's really an interesting one because the constitution is obviously very much like the tax law in the sense that, I don't know if a lot of people notice about the tax law, but the way the tax law has to be interpreted by the courts is that no single word in the code or regulations is superfluous or unnecessary. Which seems crazy, right? When we think about the length of the code and regs. But everything has to have a purpose.

Tony Nitti: Same thing with the Constitution, if they took the time to preserve the direct taxing clause, but added a 16th Amendment that allows us to tax income. There's got to be some critical distinction between those two categories of taxation, and then the eyes of dissenting opinion of Justice Thomas and Gorsuch, that critical distinction is when income becomes realized when the tree ultimately bears fruit. I think because their analysis is one of constitutional evolution, that it is well formulated and that it very well may serve as the backbone for a future defense because at some point, we're going to end up right back in front of the Supreme Court finally, deciding whether or not realization is required. Who knows what the composition of the court looks like at that time? I say their argument is well crafted. What do I know?

Tony Nitti: People could put together other arguments that are more well-crafted or contrary arguments that are better crafted. But I do think that this is something we should be paying attention to in this more opinion, even though it's in the dissenting opinion, even though they were overruled 7-2, because I think it is logical. I think it is, as I said, well put together when you look at the evolution of the Constitution. You can get some insight into at least how these two justices view a realization requirement. I think also if you were to go and read the concurring judgment opinion by Justice Barrett and Alito, you'll see that they certainly have some concerns about realization as well. But that's a decision for another day. I did say decision for another day, and so for people who are frustrated, I get it. But we shouldn't have been surprised because the writing has been on the wall since December.

April Walker: Wonderful. As we're wrapping up a little bit, I'd like to talk about what your opinion is on how this decision might affect future tax reform efforts. I guess I'm thinking wealth tax.

Tony Nitti: Maybe I'm wrong about this, but I view the wealth tax as being an entirely different issue with much bigger hurdles to get past than, for example, a tax on unrealized appreciation. The reason I think I say that is because with a wealth tax, it gets very hard to argue necessarily that there has been any fruit born because you haven't earned any income at all. They're not even attempting to tax you on income necessarily. They're taxing on the value of assets. I don't know how a wealth tax and necessarily fits within the 16th Amendment definition of income.

Tony Nitti: One of the things that I found very fascinating about the Moore case when we got to the oral arguments, is that they talked in the oral arguments with the government about their thoughts on a wealth tax. In this case, the government conceded that, look, if we were to try to tax the value of someone's assets for just a specific moment in time, I believe they said that was a quintessential direct tax that must be apportioned and I might be quoting it wrong, so please somebody double-check me on that. But I think they more or less said the government, hey, in this case, we can see that a tax on value for specific moment in time would be a quintessential direct tax. But we can tax and increase in value between two different points of time because that represents income.

Tony Nitti: I think a tax on unrealized appreciation, we saw how that argument may well go. You've got Justice Jackson saying that Congress can tax whatever they want. There's no realization requirement. You've got, at the very least Justices Thomas Gorsuch saying, " Not a chance, there's absolutely a realization requirement." I would presume that some other justices will join them. But a wealth tax, I just think is a more difficult argument to make unless there's constitutional angles and there probably are that I just don't see. Because you're not even pretending to tax income necessarily, you're taxing value at a specific point in time. If you go back to my tree verse fruit analogy, how in a wealth tax environment are you not conceding that you are taxing ownership of the tree rather than the fruit that it bears.

April Walker: Well, this is about as breaking news as this podcast gets. Any final thoughts you want to share with us, Tony, as we're reflecting on this long awaited decision.

Tony Nitti: Anytime the Supreme Court talks tax, we have to pay attention, we have to listen. I would just encourage people to read it all of it, read the majority opinion, read the two concurring opinions, and certainly read the dissenting opinion just to see how this may all shake out at some point in the future. But obviously it's all at the mercy of when it eventually becomes in front of the court. But to me, it's just a fascinating history lesson on the evolution of taxes. Really, I've always said, when I do podcasts with my old buddy Damian Martin. Bring him up one last time, I've always said there's no better way to learn the tax law than reading case law. I think the 80 pages or so here, more, even though it may not be what everyone hoped it would be, certainly offers a lot of insight and a lot of educational value.

April Walker: Perfect. Yes, I like to leave people with some homework and that's some good homework to do. Go read the decision. Thanks again, Tony. This has been delightful. I appreciate your time and energy on this.

Again, this is April Walker from the AICPA Tax Section. This community is your go-to source for technical guidance and resources designed especially for CPA tax practitioners like you in mind. This is a podcast from AICPA and CIMA together as the Association of International Certified Professional Accountants. You can find us wherever you listen to your podcasts and please follow us so you don't miss an episode if you already follow us. Thank you so much and please feel free to share with a like-minded friends. You can also find us at aicpa-cima.com/tax. Check out our other episodes, as well as the aforementioned one earlier about this case and also get access to the resources. Thanks again for listening.

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