The U.S. Supreme Court (SCOTUS) has taken a case, Moore v U.S., that challenges the constitutionality of taxing unrealized income (i.e., gains in the value of assets that have not been sold or otherwise taken by their owners) in the context of the one-time transition repatriation tax imposed on corporate earnings accumulated overseas. This could have profound implications for cash value life insurance. Generally, life insurance inside buildup is considered unrealized income. SCOTUS will not hear arguments on the case, or reach a decision on it, until its October term—so quite possibly there will not be a decision until the summer of 2024.
The case could be decided on narrow grounds—its facts involve an investment by the taxpayers in a foreign company that paid the one-time repatriation tax and passed onto the taxpayer-investors their share of the tax ($15,000) without making any distributions to the taxpayers. But the court could also decide to rule on what constitutes income subject to tax and thus income subject to Constitutional rules involving the Constitution’s requirements on direct taxes.
The legalities of the case are intricate, but legal scholars and practitioners agree that the case does raise a real possibility that SCOTUS will find that to be taxable, income must be realized (i.e., the owner of an asset must actually receive any gains the asset throws off in a given year). That has huge implications for cash value life insurance as well as other capital investments. In addition, a broad ruling with a favorable outcome for the taxpayers could upend long-established current law partnership, financial and international tax rules, where undistributed or unrealized income has long been currently taxed.
The political implications are also significant. In Moore, the challenge is to a tax bill of $15,000, based on a repatriation tax provision from the GOP’s 2017 Tax Cuts and Jobs Act, which was intended to raise revenue to pay for the corporate rate reduction in the Act. If SCOTUS finds that tax unconstitutional, it will have substantial impact on GOP-favored tax rules. But if SCOTUS takes a broader view and rules on more forms of unrealized income, it could amount to a death knell for various Democratic proposals that would impose tax on gains in value of investments that have not been sold or exchanged or otherwise realized, held generally by the very wealthy, so-called “wealth taxes”. In short, the SCOTUS ruling has the potential to turn tax policy on its head, with adverse impacts on current law as well as on both GOP and Democratic tax proposals.
Prospects: There is a long road ahead on this case—the issues will be briefed by lawyers on both sides of the question, as well as by “friends of the court” (amicus briefs); oral arguments will be heard; the Justices will discuss. It could take a year before we know how the Court will resolve this case. But the fact that SCOTUS has taken a case with a relatively small amount of tax at issue and with no conflict on the issue in the circuit appeals courts suggests that the Court may be interested in a broader resolution of whether income must be realized before it can be taxed. NAIFA, along with every other stakeholder in income tax policy, will be watching this case very closely.
NAIFA Staff Contact: Jayne Fitzgerald – Director – Government Relations, at jfitzgerald@naifa.org.