Unrealized Gains Tax Survives U.S. Supreme Court

In a long-awaited ruling, the United States Supreme Court affirmed the constitutionality of a mandatory repatriation tax introduced by the Tax Cuts and Jobs Act (TCJA). 

In upholding the tax, Justice Brett Kavanaugh wrote for the majority.

“The MRT — which attributes the realized and undistributed income of an American-controlled foreign corporation to the entity’s American shareholders, and then taxes the American shareholders on their portions of that income — does not exceed Congress’s constitutional authority.”

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The 7-2 decision, issued June 20, was expected to have implications for the taxation of wealth in the U.S., not just for U.S. taxpayers with substantial ownership in certain foreign corporations. Justice Amy Coney Barrett wrote a concurring opinion, joined by Justice Samuel Alito. Justices Clarence Thomas and Neil Gorsuch dissented.

Here’s more of what you need to know.

Moore tax case

As Kiplinger reported, Moore v. United States, centered on whether U.S. taxpayers with specified foreign holdings could be subject to a one-time tax on those investments. The plaintiffs, Charles and Kathleen Moore, owned a stake in an agricultural equipment company in India. 

Despite not receiving dividends or income from their investment over the years, the Moores paid about $15,000 in taxes on earnings attributed to them as shareholders due to the mandatory repatriation tax (MRT).

• The couple later argued that the MRT was unconstitutional, contending that income must be realized to be taxable under the 16th Amendment, which grants Congress the power to impose a federal income tax.
• Their lawsuit challenged the TCJA's provision that levied this one-time tax on U.S. taxpayers with significant ownership in certain foreign corporations.
• More than 50 amicus briefs were submitted in the case, some supporting the Moores' contention that the court should strike down the MRT. That included a brief from West Virginia and 16 other states, arguing that taxing unrealized gains harms state economies.

SCOTUS upholds tax on foreign earnings

The Supreme Court emphasized that its holding is a narrow one. As the news analysis site, SCOTUS blog, reported, the holding is limited to taxes levied on shareholders of an entity on undistributed income realized by that entity. That income has to be attributed to the shareholders when the entity hasn’t been taxed on the income (situations where the entity is treated as pass-through).

In finding for the government, the Court affirmed the 9th Circuit Court of Appeals. That court highlighted that the MRT was designed to close loopholes that allowed shareholders to evade taxes on offshore earnings. By upholding the tax, the Supreme Court essentially reinforced the government's ability to tax foreign-held profits — at least in the circumstances described in this case.

As Kavanaugh wrote in the decision, “The Court’s longstanding precedents plainly establish that, when dealing with an entity’s undistributed income, Congress may either tax the entity or tax its shareholders or partners. Whichever method Congress chooses, this Court has held that the tax remains a tax on income.” 

Wealth tax: Bottom line

When the U.S. Supreme Court agreed to hear this case, some believed the legal battle over taxing what the petitioners have described as unrealized gains might significantly impact tax policies for the wealthy. 

Examples include billionaire taxes proposed by President Biden, Sen. Elizabeth Warren (D-Ma.), and U.S. Senate Finance Committee Chairman Ron Wyden (D-Ore.). (Biden's FY25 budget proposal includes a billionaire tax that would apply to households with a net worth of over $100 million. Wyden’s Billionaires Income Tax Act proposes to end the “buy, borrow, die” tax strategy.)

Those, and other so-called "wealth tax" proposals in several states that can involve unrealized gains, are a reason why the Moore case was seen by some, as a strategic move in a broader tax policy debate. 

In the majority opinion, Kavanaugh noted that the court was not attempting to resolve certain other thorny tax questions including those involving wealth or net worth, signaling, "Those are potential issues for another day.”

The case is Moore v. United States, No. 22-800.

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