Lecture 35 The Power to Tax and Spend Part 2: Intergovernmental Immunity and Taxation as a Regulatory Power

This lecture We cover Intergovernmental Immunity Taxation as a Regulatory Power Pages 533-548

The Tax Immunity Doctrine Establishing the Tax Immunity Doctrine McCulloch v. Maryland (1819) It also dealt with Congress power to tax Maryland had sought to tax the national bank Marshall ruled against it as unconstitutional because it would interfere with the federal government’s operations if states could tax it Collector v. Day (1871) Could the federal government tax states? Day was a probate judge in Massachusetts, and said his income could not be taxed The Court rules 8-1 in his favor They basically say it is a two way street If States cannot tax income of federal officeholders, the federal government could not do the same to state officials

Erosion of Tax Immunity The previous case was part of dual federalism and states right Helvering v. Gerhardt (1938) overruled Dobbins v. Commissioners of Erie County (1842) and permitted states to tax income of federal officials Graves v. New York ex rel. O’Keefe (1939) overrules Collector v. Day and allowed the federal government to tax the income of state officials Income is allowed to be taxed, no matter the source of it Many other cases allows more taxation by states and federal governments on each other Alabama v. King and Boozer (1941)- Court allows state taxation on a federal contractor in a cost-plus contract, which essentially was a transfer of the tax onto the federal government

South Carolina v. Baker (1988) Background Involved a federal law that allowed for the removal of the federal exemption for taxation of state and municipal bonds unless the bonds were in registered form Registered bonds were still exempt this was an attempt against tax evasion This case was heard in original jurisdiction Question: Did this law violate the tax immunity doctrine? There was also a Tenth Amendment question

South Carolina v. Baker- II Arguments For South Carolina (overturn the law) The government lacks authority violation of 10th Amendment and tax immunity Allowing this tax will require higher interest rates, thus increase costs for states The Court should uphold Pollock v. Farmers’ Loan and Trust Company and follow it For Baker, the Secretary of the Treasury (uphold the law) The Court should overrule Pollock v. Farmers’ Loan and Trust Company This law only targets the form of the bonds The tax is only applied to those doing business with the state Any administrative costs associated with issuing registered bonds are incidental

South Carolina v. Baker- III Justice Brennan rules for a 7-1 Court Concurrences by Rehnquist, Scalia, and Stevens The rational for Pollack has long been repudiated by modern precedent The Court directly overrules it here This is not a tax on the states it only taxes bondholders The Court also directly overrules Pollack This is a non-discriminatory federal tax There is no constitutional entitlement for state bondholders to be exempt from federal taxes or states to issue bonds with lower interest rates The intent of the law was that all bond be in registered form registered bonds still exempt from federal taxes Also not a 10th Amendment violation

South Carolina v. Baker- IV Justice O’Connor, dissenting Kennedy did not participate She would not have overruled Pollack States are up to Congress as to whether their bonds are tax exempt She notes how dependent states and localities are on bonds This will cause them to have to raise interest rates to compensate It may strike at the heart of state and local governmental activities She finds a 10th Amendment violation as well

Davis v. Michigan Department of the Treasury (1989) Background Michigan allowed for a state tax exemption for retirement issued by it or in the state All other retirement income, including federal or from another state could be taxed Davis was a federal retiree and challenged the law, and wanted a refund for the state taxes he had paid on his federal retirement income Davis was a lawyer himself and personally argued the case before the Court The United States joined with him Question Did Michigan violate federal law when they taxed his federal income while it exempted similar income from state and local sources in Michigan?

Davis v. Michigan Department of the Treasury- II Arguments For Davis (overturn Michigan’s law) Federal law states that they can tax compensation of federal employees so long as the taxes do not discriminate based on the source Michigan taxes income from federal retirement programs but not those paid by state ones This violates intergovernmental tax immunity as well because it treats federal and state retirement income differently

Davis v. Michigan Department of the Treasury- III Arguments For the Michigan Department of Revenue (uphold the Michigan scheme) Intergovernmental tax immunity is based on the Supremacy clause and only protects governments, and not individuals from taxation by other governments There is no evidence it places no burden the federal retirement system The law only mentions employees, and thus ends when he retired The state has an interest exempting state employee pensions for fostering state public employment

Davis v. Michigan Department of the Treasury- IV Justice Kennedy rules for a 8-1 majority Case law has changed over time to allow time Helvering allowed for the taxation of non-discriminatory taxes on state employee income The main question after this case and Graves was whether it was discriminatory Congress passes the Public Salary Tax Act of 1939 It consented to state and local taxation of federal employee income so long as it did not discriminate against the employee based on the source of the pay Michigan acknowledges the law is discriminatory, but says it does not apply to retirees They argue it is needed to help it get qualified employees Michigan’s benefits are much less but for others this may be the opposite The Court finds this was discriminatory solely on the basis of the pay

Davis v. Michigan Department of the Treasury- V Justice Stevens, dissenting He would rule in favor of Michigan It is important for Michigan deciding how to run its own affairs It treats nearly all Michigan residents the same But it does exempt its own state retirees Federal retirees are treated the same as all but these state retirees and workers Aftermath Davis got a refund, as did other federal retirees in 14 other states States lost a lot of money, but had to make the choice of taxing all government retirement income, or taxing all of it

Taxation for Regulatory Purposes Can Congress tax for non-revenue purposes? The answer is largely yes Originally, most revenue was raised tariffs J.W. Hampton, Jr. & Company v. United States (1928) The law allowed the President to adjust tariffs by as much as 50% for trade policy The existence of other motives cannot in the selection will not invalidate Veazie Bank v. Fenno (1869) A bank tax was upheld to regulate more than it was to raise revenue It taxed bank notes issued by state banks by 10% It was designed to weaken state banks to help the new national bank

McCray v. United States (1904) Background This case involves margarine As it grew in popularity due to being cheaper, the dairy industry wanted protections The Oleomargarine Act of 1886, and amended in 1902 placed a ¼ percent tax on uncolored margarine and 10 cents per pound on yellow margarine The margarine manufactures had to pay the tax, thus raising prices so as to encourage more butter sales McCray was assessed a $50 penalty for purchasing untaxed margarine for sale McCray challenges this at the trial court level and loses

McCray v. United States- II Question: Could Congress enact this under its Taxation power? Arguments For McCray It puts an unreasonable burden on this particular product The Congress has not authority to place a regulatory tax This tax discriminates against margarine in favor of butter the goal is not to gain revenue, but to destroy margarine in favor of butter For the United States This is essentially an excise tax on a product There are no restraints to the power to levy excise taxes except geographic uniformity

McCray v. United States- III Justice White writes for a 6-3 Court The power to tax is essentially unrestrained To question the motives of Congress for passing a tax would act to usurp its power So long as it does not conflict with any other constitutional provision This is also under police powers as to stop people from being thought to believe that this product might really be butter The judiciary is without authority to invalidate an act of Congress under the taxation clause, even if it is a bad law He makes a judicial restraint argument here

Bailey v. Drexel Furniture Co. (1922) Background After Hammer v. Dagenhart (1916) disallowed regulation of child labor under the commerce clause, they tried doing it by imposing a tax The Child Labor Tax Act of 1919 imposed a 10% excise tax on the net profits of any company that had used child labor, defined largely as the Keating-Owen Act Drexel was found to have violated the act and assessed $6,312.79 for the tax year He paid the amount under protest and sued for a refund Question: Did Congress violate the 10th Amendment by trying to regulate child labor, which had been found to be a state concern?

Bailey v. Drexel Furniture Company- II Arguments For Bailey (uphold the law) So long as the tax is uniform, it is allowed under the power to tax Congress should not look to the motive of the law Federal laws should not be invalidated where there is unquestioned power to act For the Drexel Furniture (overturn the law) Child labor is a subject which the federal government is without authority (Dagenhart) Congress is using the power to tax to regulate an issue reserved for states This is little more than a criminal statute

Bailey v. Drexel Furniture Company- III Chief Justice Taft writes for an 8-1 majority He says the law must be construed by its intent of the Congress The purpose is clear to prevent child labor The goal was to take over state functions they could not do so in other ways “To give magic to the word tax would be to break down all the constitutional limitations of the powers of Congress and completely wipe out the sovereignty of states” This was merely a punishment disguised as a tax Since regulation of child labor was held to belong to states and out of the realm of the national government under the commerce clause, it fails here as well

Subsequent Cases Congress proposed a constitutional amendment However it failed, but states passed their own laws United States v. Darby (1941) then gave Congress this authority Congress had the ability to impose excise taxes for other bad productions Narcotics Marijuana Professional gamblers However, the power to tax cannot be used to make some give up another right United States v. Karhriger (1953)- self incrimination Marchetti v. United States (1968)- Procedures that lead to self-incrimination

Next lecture Taxing and Spending for the General Welfare Pages 548-569 Note: This may be broken in half