Argument analysis: The fate of Maryland’s personal income tax remains unclear

Bradley W. Joondeph is the Inez Mabie Distinguished Professor and Associate Dean for Academic Affairs at the Santa Clara University School of Law.

In a lively argument Wednesday, the Supreme Court considered the constitutionality of Maryland’s personal income tax. As explained in the argument preview, the question is whether Maryland’s failure to provide resident taxpayers a credit for taxes they pay other states on the income they earn in those states (at least against the county component of Maryland’s tax) violates the dormant Commerce Clause. At the hearing, a range of concerns surfaced from the Justices. But by the argument’s conclusion, the outcome remained very much in doubt.

*   *   *

To re-set the stage, Maryland’s personal income tax contains two distinct parts. One is the purely state component, which is not at issue. The second part is the county component, which is collected by the state but remitted to the taxpayer’s county of residence. Maryland has conceded that both parts constitute state income taxes for constitutional purposes.

Like other states, Maryland nominally imposes its tax on the entirety of its residents’ income, regardless where that income is earned. But unlike other states, it does not offer its residents a full credit for taxes paid to other states on their out-of-state income. That is, Maryland collects the county component of its tax on 100% of its residents’ incomes, no matter where that income is earned or whether it is taxed elsewhere. Moreover, Maryland imposes the county component of its tax on nonresidents as well, though only on the apportioned share of their incomes earned within Maryland’s borders.

Respondents Brian and Karen Wynne are Maryland residents who earned much of their income in the relevant year outside Maryland, and thus paid taxes on that income to other states. Hence, they were taxed twice at the state level on much of their income: once by the state in which it was earned, and then again by Maryland through the county component of its tax. The Wynnes claim that this multiple taxation – in their view, the direct result of Maryland’s failure to afford them a credit for taxes paid to other states – violates the dormant Commerce Clause.

First to the lectern, Maryland Acting Solicitor General William Brockman emphasized the state’s core argument: a personal income tax that a state imposes on its own residents is constitutionally distinctive due to the special relationship between a state and its (natural person) residents. “A State’s broad power to impose a personal net income tax on its own residents is grounded in the special benefits that a State affords its own residents particularly because they are residents.” This means two things: (1) Maryland is entitled to collect a tax on one hundred percent of its residents’ income, regardless whether other states attempt to tax the same income; and (2) to the extent there is a constitutional problem with overlapping taxation, “[t]here is no reason” that the state of residence should be forced “to subordinate this power” to a state with only a source-based connection to the taxpayer.

From the outset, Chief Justice John Roberts was skeptical of the state’s submission, pointing to the Maryland scheme’s apparent “internal inconsistency.” That is, if every state adopted Maryland’s system, interstate commerce would be disadvantaged, as Maryland taxes residents on all of their income and nonresidents on an apportioned share of their income. As the Chief Justice noted, “if each State did what we’re talking about, people who work in one State and live in another would pay higher taxes overall than people who live within one State and work in the same State.”

Likewise, Justice Anthony Kennedy wondered whether there was one solid case supporting Maryland’s argument: “What would your best cite be?” Brockman offered Oklahoma Tax Commission v. Jefferson Lines. But that case involved a sales tax that had been imposed on a corporation. Granted, Jefferson Lines held that some taxes on interstate commercial activity need not be apportioned. But it does not speak to the more pressing question here, which is whether a personal income tax imposed on a state’s own residents must include some mechanism to protect against the multiple state-level taxation of that income.

Justice Samuel Alito seemed the least persuaded by Maryland’s position. Citing the amicus brief filed by a group of tax economists, he noted that “[w]hat you’ve done operates exactly like a tariff, because it provides an incentive to earn income in Maryland and not outside of Maryland.” State tariffs are the quintessential dormant Commerce Clause violation, and Justice Alito wondered why Maryland’s scheme should not “meet exact same fate.”

Eric Feigin, assistant to the U.S. Solicitor General, made two important points on behalf of the United States as an amicus in support of Maryland. First, he challenged the notion that the personal income tax Maryland imposes on its own residents should be lumped together, for purposes of the internal consistency test, with the apportioned county income tax imposed on nonresidents. Though both taxes are imposed on income, the jurisdictional bases are different. And if Maryland’s tax on residents is viewed on its own, it is without doubt internally consistent. More broadly, Feigin contested the idea that multiple taxation exists when the overlapping taxes – even if measured by the same value (such as income) – are “based on distinct jurisdictional rationales.” Second, Feigin noted that, to the extent the Court sees an internal consistency problem, that problem is attributable to the apportioned tax imposed on nonresidents. And “it’s kind of backwards for respondents to raise that challenge,” as they have not been subjected to that aspect of the tax.

Chief Justice Roberts, however, seemed unmoved. To him, the two taxes “are linked together. . . . I’m not sure you can artificially separate them.”

Representing the Wynnes, Dominic Perella repeated the essential point of his brief: any state imposing an income tax must ensure that its scheme precludes the risk ofmultiple taxation that would disadvantage interstate commerce. Maryland possesses the jurisdiction to tax one hundred percent of its residents’ income, but “the Commerce Clause operates to force [the states] to structure their taxes in a way that avoids double taxation.” Moreover, “where one State is taxing on the basis of residency and the other on the basis of source, . . . the Court has stated that residency yields.”

Some Justices were troubled by the necessary implication of the Wynnes’ argument that the state of residence might receive nothing in income taxes from residents who earn their income outside the state, even though they receive the same benefits of residency. This would leave the state, said Justice Ruth Bader Ginsburg, “without a penny from this resident who may have five children that he sends to school in Maryland.” Similarly, Justice Kennedy expressed the concern that “this man is getting a free ride.” Perella responded that, in essence, this was a part of our system of federalism. The Commerce Clause protects interstate commerce, and Maryland reaps the benefits just as much as it loses out: “this comes out in the wash.”

Still, several Justices pursued whether there might be some other type of tax Maryland could impose on residents to ensure that they contribute their fair share to covering the costs of government. Justices Anthony Kennedy, Stephen Breyer, Sonia Sotomayor, and Elena Kagan all explored, in various ways, whether a state could impose a flat “fee” on residency that would avoid the constitutional problems raised here. Perella seemed to concede that such a tax would be permissible, provided it was not measured in net income.

For his part, Justice Antonin Scalia seemed to reject the basic premise of the Wynnes’ challenge: that the Commerce Clause restrains the states’ taxing powers. At one point, he referred to “the imaginary negative Commerce Clause,” and at another, after Perella stated that “Maryland can close the [tax] gap however it likes,” Justice Scalia interjected, “I agree.” This is nothing new. In several prior cases, Justice Scalia has objected to the dormant Commerce Clause’s very existence, though he has grudgingly followed the Court’s precedents that are squarely on point on grounds of stare decisis.

*   *   *

The upshot of all this is hardly clear. On the one hand, the Court’s failure to fully explore the nature of a state’s relationship with its own residents – or the priority between the state of residence and the state of source when both seek to tax the same income – bodes well for the Wynnes, as these were the central points of Maryland’s principal submissions. On the other hand, Justice Scalia and Justice Clarence Thomas have basically rejected the idea of the dormant Commerce Clause. If they adhere to that view here, then Maryland would only need to pick up three other votes to prevail. And at various points in the argument, Justices Ginsburg, Sotomayor, and Kagan sounded quite sympathetic to the state’s plight.

The fact that Maryland imposes the county component of its income tax on nonresidents – and not just on its own residents – may give the Court a narrow path out. Specifically, the Court could hold that Maryland’s scheme, taken as whole, is internally inconsistent, and thus operates to discriminate against interstate commerce. Such a holding would punt on the bigger questions – namely, (1) whether a state can ever collect a wholly unapportioned personal income tax from its residents; and (2) whether the state of source or the state of residence must take ultimate responsibility for preventing multiple taxation. Avoiding these questions, especially given the diversity of the Justices’ views, might offer an attractive solution.

Still, the argument left no clear indication as to where the Court might go, leaving the future of Maryland’s personal income tax quite uncertain.