by Sheldon Richman
Sheldon Richman is the editor of The Freeman and In brief. TGIF appears Fridays.
If you don't like the weather, wait 15 minutes. I hear that's what they say in the Rocky Mountains. I'd like to propose an addendum: If you do like a federal court's tax ruling, wait 11 months.
As I've discussed previously, last August a three-judge panel of the influential U.S. Circuit Court of Appeals for the District of Columbia stunningly declared a section of the Internal Revenue Code unconstitutional because it permitted the taxation of money that should not be considered income. Now those judges have changed their minds, essentially ruling that Congress can tax anything it wants. Then again, we already knew that.
The case, Murphy v. Internal Revenue Service, resulted from a woman's award of compensatory damages for mental anguish and loss reputation after she turned whistleblower against her employer. sect;104(a)(2) of the Internal Revenue Code (Title 26 of the U.S. Code), states:
gross income does not include —
. . . (2) the amount of any damages (other than punitive damages) received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal physical injuries or physical sickness . . . . [Emphasis added.]
The IRS argued that since Marrita Murphy's injuries were not physical, the damage award was income. Initially the judges rejected that argument, stating, [T]he framers of the Sixteenth Amendment would not have understood compensation for a personal injury — including a nonphysical injury — to be income. (The first opinion is here [pdf]. Point of historical fact: the Amendment did not delegate to Congress the power to tax wages and other income. According to the courts, it always had that power. See Is the Income Tax Unconstitutional?)
Horrified by having part of the tax coded stricken, the Bush administration asked for a rehearing by the entire court, but before that request was ruled on, the original three judges volunteered to reconsider their decision — an unusual procedure. The case was reargued last spring. According to Bloomberg News, Legal experts had said the original ruling was a significant threat to the ability of the I.R.S. to collect taxes and would have opened the door for constitutional challenges to other parts of the tax code.
On Tuesday the judges issued as a formal ruling the handwriting they had already chalked on the wall. They reversed themselves. What they thought was unconstitutional in August they now think is constitutional. The government most certainly can tax compensatory damages for nonphysical inflictions. If Congress had wanted to exclude nonphysical along with physical injuries it would have done so. In fact, when it amended the tax code in 1996, it named physical injuries only. The government can include in the definition of gross income pretty much what it wants, the judges said. And besides, even if the damage award is not income, the government can still tax it because the government's power to tax is a plenary power.
As Chief Judge Douglas H. Ginsburg wrote on behalf of Judges Janice Rogers Brown and Judith Ann Wilson Rogers, Murphy’s award, even if it is not income within the meaning of the Sixteenth Amendment, is within the reach of the congressional power to tax under Article I, Section 8 of the Constitution. He accepted the government's argument that there is no constitutional impediment to taxing it because a tax on the award is not a direct tax and is imposed uniformly. (See the new opinion here [pdf].)
The court took the same broad view of the taxing power that past courts have taken. Judge Ginsburg gave an example of how sweeping this power is.
Principles of statutory interpretation could show sect; 61(a) [the section of law defining gross income] includes Murphy’s award in her gross income regardless whether it was an “accession to wealth,” as Glenshaw Glass requires. For example, if sect; 61(a) were amended specifically to include in gross income “$100,000 in addition to all other gross income,” then that additional sum would be a part of gross income under sect; 61 even though no actual gain was associated with it. In other words, although the “Congress cannot make a thing income which is not so in fact,” [citation omitted], it can label a thing income and tax it, so long as it acts within its constitutional authority, which includes not only the Sixteenth Amendment but also Article I, Sections 8 and 9. See Penn Mut. Indem. Co. v. Comm’r, 277 F.2d 16, 20 (3d Cir. 1960) (“Congress has the power to impose taxes generally, and if the particular imposition does not run afoul of any constitutional restrictions then the tax is lawful, call it what you will”) (footnote omitted). Accordingly, rather than ask whether Murphy’s award was an accession to her wealth, we go to the heart of the matter, which is whether her award is properly included within the definition of gross income in sect; 61(a), to wit, “all income from whatever source derived.”
The court said it is properly included. Compare that with this from the first opinion: At the outset, we reject the Government’s breathtakingly expansive claim of congressional power under the Sixteenth Amendment….
Income Taxes Are Indirect Taxes
The ruling also reaffirms other important matters that perplex those who deny there is even an income-tax law on the books. For example, Judge Ginsburg reiterated a long-held court view, namely, that a tax on wages is an indirect excise tax and thus not in need of apportionment by state population. He wrote:
Over the years, courts have considered numerous claims that one or another nonapportioned tax is a direct tax and therefore unconstitutional. Although these cases have not definitively marked the boundary between taxes that must be apportioned and taxes that need not be … some characteristics of each may be discerned. Only three taxes are definitely known to be direct: (1) a capitation … (2) a tax upon real property, and (3) a tax upon personal property…. Such direct taxes are laid upon one’s “general ownership of property,” [citations omitted], as contrasted with excise taxes laid “upon a particular use or enjoyment of property or the shifting from one to another of any power or privilege incidental to the ownership or enjoyment of property.” hellip; More specifically, excise taxes include, in addition to taxes upon consumable items, hellip; income from employment…. [Emphasis added.]
In holding the income tax to be an indirect tax, Judge Ginsburg is simply agreeing with what U.S. courts have said about taxes on wages since 1895, when the Supreme Court, in the Pollock case, gave its blessing to such taxes while striking down a tax on property income.
The tax on compensatory damages, the court said, is similarly an indirect tax — an excise tax — and thus not in need of apportionment. How can a tax on compensatory damages be an excise tax? Murphy argued that the damage award simply made her whole after the defendant had deprived her of her human capital, and that a tax on her human capital is like a direct tax on property, making it a direct tax in need of apportionment. But the court rejected that view, explaining, Even if we assume one’s human capital should be treated as personal property, it does not appear that this tax is upon ownership; rather, as the Government points out, Murphy is taxed only after she receives a compensatory award, which makes the tax seem to be laid upon a transactionhellip;. Murphy’s situation seems akin to an involuntary conversion of assets; she was forced to surrender some part of her mental health and reputation in return for monetary damages.
This seems rather odd. The court is saying that when someone compensates you after destroying something you own (such as your peace of mind or reputation), the award is simply payment in a forced sale and therefore taxable. It's property involuntarily converted into money. Under this view, the court said, even a gift tax is an excise tax on a transaction. How so? A gift is the functional equivalent of a below-market sale, the court said.
Odd, indeed — but nevertheless it qualifies as positive (as opposed to natural) law. The ruling, which may be appealed, is another blow to those who insist that the government never really enacted a tax on wages and salaries earned in the 50 states. (Would that it were so!) The show me the law movement uses the word law in an idiosyncratic way. After all, there is a part of the U.S. Code (Title 26) that impose[s] a tax on taxable income, which is defined in terms of gross income minus specified deductions. Gross income has its own section with an open-ended definition. The title includes tax tables and penalties for not filing and nonpayment. The Congress passed and amended this law according to its normal procedures, and presidents signed each of the bills. No Supreme Court has declared any significant part of this legislation unconstitutional.
By the standard definition of (positive) law, there is indeed an income tax. Libertarians properly don't like it and wish it weren't so. It's plunder, but it's legal plunder. Wishing won't make it go away. There's no shortcut to liberty.
As I wrote last time: We really have no reason to be shocked by the government's extravagant claim because we were warned 220 years ago. In 1787 the Anti-federalist Robert Yates ('Brutus'), objecting to Congress's power to tax under the proposed Constitution, wrote, '[T]his power therefore is neither more nor less, than a power to lay and collect taxes, imposts, and excises at their pleasure; not only the power to lay taxes unlimited, as to the amount they may require, but it is perfect and absolute to raise them in any mode they please.'