Published: Feb. 13, 2024 By

The definition of income—what it is and how it’s taxed—is a core issue of a Supreme Court case that could have far-reaching effects for taxpayers.

Moore v. United States, argued before the court in December, concerns the taxation of unrealized income. A finding on whether the plaintiffs, Charles and Kathleen Moore, must pay taxes on their profits as partial owners of a multinational corporation, could lead future courts to strike down other parts of the U.S. tax code. A ruling is expected this spring or summer.

Sloan Speck, associate professor of law specializing in taxation and tax policy, offers his take on the potential repercussions of the Moore v. U.S. ruling.

Sloan Speck

Associate Professor Sloan Speck

What’s at stake in this case?

First is a structural threat to the entire income tax system as we know it. Moore is setting a stage for future litigation that may have concrete stakes for ordinary taxpayers.

Second, Congress historically has defined income by statute. Congress generally taxes only realized income—where something has happened, such as a sale, to fix and identify that income. This statutory realization requirement has had a simplifying effect on how the income tax system has operated.

In Moore, the question is whether there is a realization requirement under the U.S. Constitution. If the court says there is a constitutional realization requirement or leaves that question open, which I think is extraordinarily likely, that raises a question about how the realization requirement actually operates. Is it a clear rule, or is it more like a legal standard—something that is fuzzy, hard to apply, and requires being resolved after the fact through litigation?

I think it’s a standard, and one that would, to some extent, flip income tax on its head by giving certain taxpayers a new weapon they could use to invalidate different provisions of the income tax law. And the narrow facts in Moore really give no sense of how far taxpayers could take a constitutional realization requirement.

The final stakes for Moore are with respect to wealth taxes. It's well-known that the Biden administration proposed a billionaire tax early on that has not gone anywhere, but it would have explicitly taxed unrealized gains each year and imposed a 20% minimum tax for all people with a net worth in excess of $100 million. Moore is a proxy fight about whether that provision works, and it's an effort to foreclose billionaire taxes before they are enacted and prevent future litigation over those instruments.

What are realized gains?

Realization hasn't ever been clearly defined, but it's fairly intuitive. So the basic case is: I own a piece of property that I sell to another person and get cash back. I can pay the tax that's due on that sale, and I recognize that income as the difference between the cash I have in my pocket and what I paid for the asset to begin with. It works for shares of stock and personal-use property like automobiles and your home.

But there are lots of harder questions about realization. The Moores are taxpayers who own a significant stake in a foreign corporation that's incorporated in India, and the U.S. doesn't tax foreign corporations. While the Moores owned the company, it earned money. Like a lot of corporations, it reinvested that money back into the business and never paid out any of its earnings in dividends. The Moores never got cash in their pockets with respect to their stock, but they’re better off—they’ve made money—because they own part of a successful company.

Their argument is that there was never realization. And that’s the question we're concerned with: Has there been realization because the corporation earned money, or do the Moores actually have to receive those earnings as cash in their pockets?

What would a winning verdict for the Moores mean?

It could undermine big chunks of the Internal Revenue Code. The best example that came up in Supreme Court oral arguments are the partnership tax rules. A lot of people, from high earners down, are partners in a partnership. A lot of small businesses and real estate ventures are partnerships. And the way the partnership tax rules work today is that, if the partnership earns income, the partners pay tax on that income whether they get cash or not.

And for many partners, they don’t get cash. Instead, these partners reinvest their earnings back into the business. That’s the business deal. If there is a constitutional realization requirement, then it could be unclear what rules apply to these very common business arrangements. There would be a lot of uncertainty about how to file taxes for a bunch of small businesses.

In Moore, the government essentially argues that none of this partnership income would be taxable, which is hard on federal revenues but easier on small businesses. Another possibility, however, is that these partnerships could become taxable like corporations, where there would be two levels of tax paid by the partnership and then the partners. 

That would be really bad for all of these businesses. It would dislocate the entire sector because everybody's made their business deals on the assumption you can plow your earnings back in and your partners pay the tax. If suddenly the partnership is paying tax, that's going to materially change what partnership businesses look like, and it will be extremely hard on those business operators and owners.

Finally, there are a bunch of other provisions that are effectively anti-abuse rules that operate on non-realization principles. If those anti-abuse rules were to fall, high earners would be able to avoid paying taxes even more so than they already do. And if the government needs revenue, it will need to look to middle earners. That could cause a shift and who pays what and how much.

What is the most likely ruling?

It doesn't really matter whether the Moores win or lose—that's not the important thing to watch. The outcome of this case is much less significant than the rationale the court provides and the language of the opinions, which is going to shape what happens going forward.

Like the overwhelming majority of Supreme Court decisions, this decision is likely to be bipartisan. So we should expect the opinion to be a heavy compromise between what the liberal and conservative justices want.

It’s been clear for a while that there would be litigation supported by conservative advocacy groups that would target different aspects of income tax. And the Moores were chosen. They stepped forward as a vehicle for advancing questions that have been raised among conservative commentators and advocacy groups for more than a decade.

This is not a surprising case, and its outcome is just one point on a larger arc. It’s the first step and what will probably be a long and difficult path for the government in defending current income tax law.

Even if the decision itself is not destabilizing, it will affect what Congress and the Treasury Department do because they know they will need to defend rules on this basis going forward. And that will shape the income tax law, probably in a way that shifts the burden of the income tax toward middle-income households and away from higher earners.