The U.S. Supreme Court has upheld the constitutionality of the so-called “mandatory repatriation tax” (MRT) in a narrow ruling, stating that the MRT taxes realized income — income earned by offshore corporations — and attributes that corporate income to shareholders, taxing them on their portions of that income. The majority opinion also clarifies that its analysis does not address issues related to taxing both the entity and the shareholders on undistributed income, taxes on holdings, wealth, or net worth, or taxes on appreciation.
The MRT, enacted as part of the Tax Cuts and Jobs Act of 2017, generated over $300 billion in revenue for the federal government. It deems undistributed earnings and profits reinvested abroad by certain businesses since 1986 to be “income” in 2017 for specific U.S. shareholders. Charles and Kathleen Moore, who owned about 13% of KisanKraft, a controlled foreign corporation in India, argued that income must be realized to be taxed without apportionment under the 16th Amendment. They contended that the MRT imposed an impermissible unapportioned tax on property.
Legal Arguments and Supreme Court Ruling
The Ninth Circuit Court of Appeals previously held that an “income tax” does not require the taxpayer to have realized income under the 16th Amendment. The Supreme Court agreed to review this decision. In a majority opinion authored by Justice Kavanaugh, the Court held that the 16th Amendment authorizes Congress to attribute income realized by an entity to its owners under specific circumstances:
- Taxation of the shareholders of an entity
- On the undistributed income realized by the entity
- Which has been attributed to the shareholders
- When the entity itself has not been taxed on that income
The majority opinion emphasizes that this holding is narrow and applies when Congress treats the entity as a pass-through. Although the issue of realization was not resolved in Moore, the opinion notes that prior Supreme Court precedent requires realization for income to be taxed without apportionment.
Justice Barrett’s concurring opinion, joined by Justice Alito, states that realization may take many forms but is uniformly required before financial gain can be taxed without apportionment. Justice Thomas’s dissent, joined by Justice Gorsuch, asserts that “16th Amendment ‘incomes’ include only income realized by the taxpayer.”
The majority opinion also indicates that Congress could not tax both an entity and its owners on the same income and that arbitrary attribution is proscribed by the Due Process Clause. This leaves tax practitioners pondering whether any current taxes might violate this holding.
The BakerHostetler team representing the Moores included Partners Andrew Grossman, Jeffrey Paravano, David B. Rivkin, and Counsel Kristin A. Shapiro.
