Supreme Court Agrees To Hear Landmark Case On Whether States May Tax Income Earned In Other States (Forbes)

The Supreme Court had a busy day on Tuesday. 

When the dust settled, however, it had only granted one new case – but it was a big one. The nation’s highest court granted certiorari to Comptroller v. Wynne, setting the stage for a fight that could rewrite tax laws in states across the country.

As noted before, lawyers and judges like to use Latin. Granting certiorari (or “granting cert” for the really cool hipster lawyers) means that the Supreme Court will hear the matter.

Some cases have what’s called “original jurisdiction” in the Supreme Court; those cases, which are defined by statute (28 U.S.C. § 1251) go straight to the Supreme Court. The typical case associated with original jurisdiction would be a dispute between the states. Most cases, however, don’t go that route. To be heard at the Supreme Court level without having original jurisdiction requires the losing party at the appellate level to file a petition seeking a review of the case. If the Supreme Court grants the petition and decides to hear the matter, it’s called a writ of certiorari. And that’s what happened here.

The question presented in the Petition for Certiorari in Wynne(downloads as a pdf) is:

Does the United States Constitution prohibit a state from taxing all the income of its residents — wherever earned — by mandating a credit for taxes paid on income earned in other states?

Procedurally, the question found its way to the Supreme Court after the Court of Appeals of Maryland “reached the unprecedented conclusion” that a state is in violation of the Commerce Clause in the U.S. Constitution if it collects income taxes from its residents when the income was earned from sources in another state and is subject to tax by the other state.

In this case, a married couple, the Wynnes, reported taxable net income of approximately $2.7 million. More than half of that amount represented a share of earnings in an S corporation with operations in several states. The Wynnes claimed a credit on their Maryland tax returns for taxes paid to 39 other states but not for any county or local government taxes. The State of Maryland denied the credits and issued a notice of deficiency and the Wynnes appealed. At a hearing, the assessment was affirmed.

Eventually, the Wynnes amended their petition to claim that the tax credit statute was in violation of the Commerce Clause of the United State Constitution. That claim was rejected. At appeal, the Wynnes argued that the state of Maryland was constitutionally required to extend the credit for taxes paid to other states to the county as well as the state, raising the question of whether a state had the unconditional right to tax all income based on residency. The Circuit Court agreed with the Wynnes.

On appeal by the state, the Court of Appeals agreed with the Circuit Court. The Court wrote that, based on its belief that the Constitution prohibits “double taxation” of income earned in interstate commerce, a state may not tax all the income of its residents, wherever earned.

That decision, it was argued by the state, conflicted with a number of “fundamental precepts” involving the “well-established principle” that “a jurisdiction… may tax all the income of its residents, even income earned outside the taxing jurisdiction.” However, in Wynne, the Court of Appeals concluded that the Commerce Clause imposes restrictions on a state’s power to tax its own residents: in other words, Maryland was not allowed to tax all of its residents’ income if the resident paid taxes on that income to another State.

The state argued that this finding was inconsistent with prior law and was, in a word, wrong. The consequences, according to the state’s petition, could be the “significant loss of revenue that will amount to tens of millions of dollars annually.”

And that’s why you should care. Not only does this decision have consequences for Maryland but it “has potential repercussions beyond Maryland,” according to the petitioner (downloads as a pdf). The reply brief for the petitioner specifically notes that “while most states provide full credits for income taxes paid to other states, many local jurisdictions do not.” The result, if the Wynne decision holds, according to the state is that “any jurisdiction taxing its residents’ entire income will face needless uncertainty about the viability of its tax system and its potential exposure to onerous refund claims.”

In other words, an affirmation could cost local and state governments millions of dollars.

The loss shouldn't matter, according to Dominic Perella, a lawyer with Hogan Lovells who is representing the Wynnes. He said, about the case: “Maryland’s approach is unfair to people who make money in more than one state.”

US Supreme Court building, front elevation, steps and portico. (Photo credit: Wikipedia)

The question is big enough for the feds to weigh in. The Obama administration issued an amicus curiae brief in April of this year, supporting the petitioner’s position (downloads as a pdf). Amicus curiae is Latin (yes, more Latin) for “friend of the court” and describes an argument made by someone who is not a specific party to the proceedings but believes that the court’s decision may affect its interest. Under the Rules of the Supreme Court of the U.S., “An amicus curiae brief that brings to the attention of the Court relevant matter not already brought to its attention by the parties may be of considerable help to the Court. An amicus curiae brief that does not serve this purpose burdens the Court, and its filing is not favored.”

The feds argued in their brief that “though States often choose to grant tax credits to their residents for income taxes paid in other States, nothing in the Commerce Clause compels a State to offer such credits or otherwise defer to other States in the taxation of its own residents’ income.” Further, “[t]he decision… may lead to challenges to similar tax schemes in other jurisdictions; and is inconsistent with statements made by the highest courts in other States.”

The U.S. Supreme Court clearly agreed that this was a matter that needed to be resolved. Granting cert doesn't mean that the court believes that the petitioner is correct: the regular court rules apply. There will be arguments and more (!) briefs before the Court reaches a decision.

These matters do not move quickly: you shouldn't expect oral arguments on this matter until fall of this year. But expect plenty of speculation – and interest – before then.