Part 33 – US residents bring suit alleging that the Section 965 US Transition Tax is Unconstitutional


A lawsuit alleging that the Section 965 transition tax is unconstitutional affords the opportunity to write Part 33 in my series of posts about the U.S. Transition Tax.
Part 22 of this series included a discussion of a paper by Sean P. McElroy which argued that the Section 965 repatriation tax was unconstitutional for the following reasons explained in the abstract:

Abstract
In late 2017, Congress passed the first major tax reform in over three decades. This Essay considers the constitutional concerns raised by Section 965 (the “Mandatory Repatriation Tax”), a central provision of the new tax law that imposes a one-time tax on U.S.-based multinationals’ accumulated foreign earnings.
First, this Essay argues that Congress lacks the power to directly tax wealth without apportionment among the states. Congress’s power to tax is expressly granted, and constrained, by the Constitution. While the passage of the Sixteenth Amendment mooted many constitutional questions by expressly allowing Congress to tax income from whatever source derived, this Essay argues the Mandatory Repatriation Tax is a wealth tax, rather than an income tax, and is therefore unconstitutional.
Second, even if the Mandatory Repatriation Tax is found to be an income tax (or, alternatively, an excise tax), the tax is nevertheless unconstitutionally retroactive. While the Supreme Court has generally upheld retroactive taxes at both the state and federal level over the past few decades, the unprecedented retroactivity of the Mandatory Repatriation Tax — and its potential for taxing earnings nearly three decades after the fact — raises unprecedented Fifth Amendment due process concerns.

The full paper is here.
It appears that the plaintiffs in this case are making precisely these two arguments.
The facts as described in the claim include:

15. Mr. Moore owned 12.937 percent of KisanKraft Limited, a closely held Indian public limited company and controlled foreign corporation for U.S. tax purposes (“KisanKraft”).
16. KisanKraft is headquartered and has a registered office in Bangalore, India.
17. KisanKraft is a certified manufacturer, importer, and distributor of affordable
farming equipment in India. KisanKraft primarily serves small and marginal farmers throughout India. In general, such farmers are underserved in India because major manufacturers, importers, and distributors of farming equipment focus on large commercialized farmlands.
18. Mr. Moore has owned shares of stock in KisanKraft since 2006.
19. Since 2006, KisanKraft has experienced steady revenue growth and has reported
positive earnings almost every year.
20. None of those profits were distributed to Mr. Moore. Instead, they were retained by KisanKraft and reinvested in its business abroad.
21. The Moores timely filed their 2017 federal income tax return with the Internal
Revenue Service on or before the April 17, 2018 deadline (the “Original Return”).
22. The Moores filed an amended return on October 26, 2018 the (“Amended Return”).
The Amended Return included:
(a) Disclosures of Mr. Moore’s 12.937 percent direct ownership of KisanKraft;
(b) A reasonable cause statement requesting that penalties not be imposed as a
result of the Moores’ unintentional failure to previously file disclosures of Mr. Moore’s ownership of shares in KisanKraft; and
(c) A payment of $15,130 that resulted from an increase in tax due to:
(i) The inclusion in taxable income of their pro rata share of the post1986 earnings and profits of KisanKraft pursuant to 26 U.S.C. § 965;
(ii) The partial participation exemption deduction pursuant to 26 U.S.C.
§ 965(c); and
(iii) A reduced foreign tax credit offset pursuant to 26 U.S.C. § 965(g)
(collectively, these amounts are referred to as the “Mandatory Repatriation Tax Inclusion”).
23. As a result of the TCJA’s Mandatory Repatriation Tax, the Moores were required
to report as taxable income the Mandatory Repatriation Tax Inclusion amount of $132,512.

Mr and Mrs Moore are represented by Andrew M. Grossman of Baker & Hostetler LLP who argues that:

2. The Mandatory Repatriation Tax is unconstitutional for two independent reasons.
First, it violates the Constitution’s Apportionment Clause, which requires direct taxes to “be apportioned among the several states.” The Mandatory Repatriation Tax is a direct tax, and not an income tax, because it is not based on income at all, but on the fiction that taxpayers subject to it received income in the absence of an actual “gain…received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal.” Eisner v. Macomber, 252 U.S. 189, 207(1920). In this respect, it is no different from an unapportioned tax on capital itself and equally beyond Congress’s power to enact.
Second, the Mandatory Repatriation Tax violates the Fifth Amendment’s Due Process Clause because it imposes retroactive tax liability for earnings dating back over three decades to 1986. That is precisely the kind of “harsh and oppressive” retroactive taxation that the Supreme Court has held to “transgress…constitutional limitation.” Welch v. Henry, 305 U.S. 134, 147 (1938).

The full complaint is here:
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Conclusion …
This is wonderful news. It’s too early to assess their chances of success. Congratulations to the plaintiffs who are taking a principled stand!
John Richardson – Follow me on Twitter @ExpatriationLaw

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