Tax immunities and the Supreme Court
Tax immunities refer to the legal protections that prevent the federal government and state governments from being taxed by each other. The U.S. Constitution does not explicitly establish these immunities, but landmark Supreme Court cases have shaped their understanding. In McCulloch v. Maryland (1819), the Court inferred federal immunity from state taxes based on the supremacy clause, asserting that states cannot tax federal entities. This principle was later expanded to protect state activities and employees from federal taxation, as seen in cases like Dobbins v. Erie County (1842) and Collector v. Day (1871). Over time, however, the Court's interpretation has evolved, limiting tax immunities primarily to direct taxes imposed on one government by another. Cases such as Graves v. New York ex rel. O'Keefe (1939) marked a significant narrowing of the intergovernmental tax immunity doctrine. Today, federal tax immunity applies when the legal incidence of the tax falls directly on federal entities, while state tax immunity is restricted to basic governmental functions. As tax laws and interpretations continue to develop, the balance between state and federal taxation remains a pivotal area of legal examination.
Tax immunities and the Supreme Court
Description: Constitutional principle that exempts federal and state government agencies, activities, and property from taxation by one another.
Significance: In an 1819 ruling, the Supreme Court first inferred the federal government’s immunity from taxation by the state. The Court later inferred state immunity from federal government taxation from the Tenth Amendment. These immunities prevent state and federal governments from using their taxing power to unduly interfere with each other’s government.
The U.S. Constitution does not expressly immunize the federal government from state taxation nor the states from federal taxation. However, in McCulloch v. Maryland (1819), the Supreme Court inferred the federal government’s immunity from Article VI, section 2, the supremacy clause, of the U.S. Constitution. McCulloch held that Maryland could not impose a tax on notes issued by the Bank of the United States because a state may not tax those it does not represent. Otherwise, any state could use its taxing power “to retard, impede, burden, or…control” the federal government, which the Constitution declared to be supreme in exercising its delegated powers. McCulloch did not directly address the issue of federal taxation of state governments but suggested that states did not enjoy reciprocal immunity.
Later Immunities
After McCulloch, however, the Court inferred state tax immunity from the Tenth Amendment and crafted the doctrine of intergovernmental tax immunity defined by the principle of dual federalism. The Court began by extending doctrine from the primary immunity of government itself to bar taxation by one government of the employees of another. Dobbins v. Erie County (1842) invalidated a state tax on a federal officer, and Collector v. Day (1871) held that the salaries paid state judges were immune from federal taxation. The Court further extended state immunity to protect increasingly diverse state proprietary activities, such as utility and railroad operations, and private businesses selling goods to state governments. Then in Pollock v. Farmers’ Loan and Trust Co.(1895), the Court held that the interest earned from state bonds was immune from federal taxation. The Court also expanded the doctrine of intergovernmental tax immunity to bar state taxation of private businesses selling goods to and leasing land from the federal government because the economic incidence or burden of the tax would be passed on to the federal government. In Long v. Rockwood (1928), it even made royalties on federally issued patents immune from state income taxation.
These increasingly expansive interpretations deprived federal and state governments of substantial revenues and moved the Court to narrow the scope of intergovernmental tax immunities in the late 1930s. In James v. Dravo Construction Co. (1937), the Court discarded the economic incidence test, limited federal tax immunity to its legal incidence, and upheld a nondiscriminatory state tax on a private business that had built locks and dams under a federal contract because the federal government did not have a direct legal obligation to pay the tax. Then the Court’s decision in Helvering v. Gerhardt (1938) overruled Day, permitting the federal government to levy a nondiscriminatory income tax on state civil servants. Finally, in Graves v. New York ex rel. O’Keefe (1939), the Court overruled Dobbins and permitted nondiscriminatory state taxation of federal employees. After Graves, the intergovernmental tax immunity doctrine became even more limited, barring only taxes imposed directly on one government by another and taxes that discriminated against the employees and private businesses that had dealings with the government.
Federal Tax Immunity
Federal tax immunity exists only when the legal incidence of the tax falls directly on the federal government, its property, or one of its entities. The Court further limited the immunity of federal employees from state taxation in United States v. County of Fresno (1977), in which it upheld a state tax on the use by federal employees of housing supplied to them by the U.S. Forest Service as part of their compensation because the tax was similar to a state tax on the owners of nonexempt property who passed the economic incidence on to their renters. States may not, however, impose discriminatory taxes on federal employees. In Davis v. Michigan (1989), the Court rejected a state income tax on federal government employee retirement benefits that exempted state employee retirement benefits from taxation.
Private businesses that use federal property are no longer immune from nondiscriminatory state taxes. In Detroit v. Murray Corp. (1958), the Court sustained state taxes on a private company’s use of machinery owned by the federal government and leased to the company for use in the business. In a companion case, United States v. Detroit (1958) upheld a state tax on those who used tax-exempt federal property because the state had imposed a similar tax on the owners of nonexempt private property. After United States v. New Mexico (1982), the Court took a narrow approach to determining federal tax immunity. New Mexico rejected the claim that private contractors were federal agents who were paid by an advanced funding procedure because the private taxpayer and the government must be so closely connected that the taxpayer “stands in the government’s shoes.”
State Tax Immunity
Although the immunity of the federal government and its entities has not been at issue since 1937, the Court limited state tax immunity to the performance of its basic governmental functions. In New York v. United States (1946), it rejected the distinction between government and proprietary activities as unworkable in an age of increasingly diverse state governmental activities and articulated a new state immunity principle that permitted a federal nondiscriminatory tax to be applied to the state’s bottling and sale of water. The Court further limited the reach of the state immunity doctrine in Massachusetts v. United States (1977), in which the Court sustained the application of a federal annual registration tax on civil aircraft to a state police helicopter because it was based on a fair approximation of the state’s use of the national aviation system. After Massachusetts, the federal government could tax even a basic state government activity if the nondiscriminatory tax recoups the cost of benefits received from the federal government.
Bibliography
Cox, Archibald. The Court and the Constitution. Boston: Houghton-Mifflin, 1987.
Gunther, Gerald, and Kathleen Sullivan. Constitutional Law. 14th ed. Westberry, N.Y.: Foundation Press, 1997.
“The Intergovernmental Tax Immunity Doctrine - Legal Information Institute.” Law.Cornell.Edu, www.law.cornell.edu/constitution-conan/article-1/section-8/clause-1/the-intergovernmental-tax-immunity-doctrine. Accessed 7 Apr. 2023.
McCloskey, Robert G. The American Supreme Court. 2d ed. Chicago: University of Chicago Press, 1994.