WASHINGTON – The Supreme Court’s justices appear divided over a Maryland law designed to protect the “piggyback tax,” city or county income taxes the state collects on behalf of local jurisdictions.
Unlike the state income tax, piggyback taxes cannot be offset by taxes a Maryland resident has paid to other states on money earned there. Maxim Healthcare Services Inc. founder Brian Wynne and his wife, Karen, called the law unconstitutional.
At oral argument in the Supreme Court Wednesday, Chief Justice John G. Roberts Jr. and Justice Stephen G. Breyer seemed inclined to agree.
Maryland’s taxation of income already taxed is “unfair” and akin to an unconstitutional “tariff” on money earned in another state, Roberts said.
Justice Antonin Scalia, however, questioned whether allowing the deduction is fair to residents who work inside the state. Justices Ruth Bader Ginsburg and Anthony M. Kennedy said that allowing a deduction for taxes paid elsewhere could result in residents paying no income tax to their home jurisdiction, even though they and their families avail themselves of its school, police and fire protection.
“This man is getting a free ride,” Kennedy said.
The Supreme Court is reviewing a decision by Maryland’s top court, which ruled in the Wynnes’ favor in January 2013.
The Maryland Court of Appeals said the ban on deducting income earned out of state violates the federal Constitution’s Commerce Clause by discouraging Marylanders from earning money outside the state. Such regulation is the province of Congress, not state legislatures, the 5-2 Court of Appeals held.
The Maryland court has stayed its ruling in the case pending resolution by the Supreme Court.
Acting Maryland Solicitor General William F. Brockman told the justices that states have “broad power” to impose income taxes on their residents, which extends to income they earned outside of the state.
“There is no reason a state should have to subordinate its taxing power” because a resident earned income elsewhere, Brockman said.
The Obama administration supports the state’s position that the current tax structure is constitutional, Assistant U.S. Solicitor General Eric J. Feigin told the justices.
But the Wynnes’ attorney, Dominic F. Perella, said Maryland’s refusal to extend credit to income taxes paid outside the state results in “double taxation” that unconstitutionally discourages residents from working outside the state.
“The Commerce Clause forces [states] to tax in a way that does not result in double taxation,” said Perella, of Hogan Lovells US LLP in Washington.
Collected along with the state income tax, the piggyback taxes for 2014 range from a low of 1.25 percent of taxable income in Worcester County to a high of 3.2 percent in Baltimore city and Howard, Montgomery, Prince George’s and Queen Anne’s counties, according to the Maryland comptroller’s office.
In the Court of Appeals, the Wynnes successfully argued that they should be allowed to deduct from their Howard County tax bill the $84,550 they paid to other states in 2006.
If the Supreme Court affirms the Court of Appeals’ ruling for the Wynnes, it could cost the state’s local jurisdictions between $45 million and $50 million each year, Maryland Attorney General Douglas F. Gansler has estimated. The state might also have to refund up to $120 million in piggyback taxes already collected, Gansler said.
Hot dogs and fire trucks
During Wednesday’s arguments, Breyer questioned the constitutionality of Maryland’s law by invoking a hypothetical California resident who makes a lot of money from a hot dog stand he owns and operates in Hawaii and who must pay income taxes on that stand in both states.
“What California [is saying] is ‘open your hot dog stand in California,’” Breyer said, in voicing concern about the double taxation’s potential restraint on interstate commerce.
Scalia then brought the courtroom to laughter by saying the Californian could “move to Hawaii … A lot of people do that.”
Brockman, in response to Breyer, said the Constitution permits California to collect income tax from the Californian “regardless of where the hot dog stand is.”
A state has “sovereign taxing power over its own residents” without regard to what taxes they paid to other states, he said, noting the tax revenue is needed to pay for services they or their family members use when at home.
“You don’t get 18 percent of a fire truck because you earned 82 percent elsewhere,” Brockman said.
The statute at issue, Maryland Tax-General Article Section 10-703(a), allows state residents to deduct the income taxes they pay to other states from their Maryland tax. However, the state says the provision does not apply to the “piggyback” tax.
The Wynnes’ out-of-state income was derived from Brian’s ownership share in Maxim, a Columbia company that operates nationwide.
The Maryland Tax Court, an administrative agency, ruled for the comptroller but was overturned in 2011 by a judge in Howard County Circuit Court.
The Court of Appeals took the case, heard argument in May 2012 and issued its holding for the Wynnes on Jan. 28, 2013.
Without the tax credit, “a taxpayer with income sources in more than one state will consistently owe more in combined state income taxes than a taxpayer with the same income sources in just the taxpayer’s home state,” Judge Robert N. McDonald wrote for the five-judge majority. “This may discourage Maryland residents from engaging in income-earning activity that touches other states.”
In dissent, Judge Clayton Greene Jr. said the state’s denial of an out-of-state tax credit for city and county taxes is not only constitutional, but also ensures fairness among neighbors, not all of whom might have earned income outside of Maryland.
“[I]f the taxpayers were allowed to pay a lesser amount of county income tax, it would have the possible absurd result of the taxpayers paying little or no local tax for services provided by the county while a neighbor with similar income, exemptions and deductions might be paying a substantial local tax to support those services,” Greene wrote.
Maryland then appealed to the Supreme Court, which agreed on May 27 to hear the case.
The Supreme Court is expected to render its decision in Maryland Comptroller v. Wynne, No. 13-485, by the end of June.