An Income Tax that Doesn’t Tax Income?

By Mark Hall | Leave a Comment

Tim’s detailed analysis of tax provisions in the Constitution that might apply to health reform is the most thorough I know of, but it only begins to map the issues, which are tricky and important enough that they deserve more attention from constitutional tax law experts. As I synthesize Tim’s points, it seems that the cleanest approach would be a tax credit for those who purchase insurance, leaving those without insurance to bear an implicit tax burden, but that could not be afforded without an offsetting tax increase, so it’s not politically feasible.

Directly assessing a tax penalty on those who don’t buy coverage is economically the same as missing out on a tax credit that everyone else receives, but a tax penalty has to be justified differently. If the penalty is assessed as a surcharge on income tax, there would seem to be no constitutional issue. Purists will complain that income taxes should be proportionate to actual income, but we all know that the tax code is riddled with provisions that lower or raise taxes in ways that are unrelated to income.

Challenges to the rationality or constitutionality of such “regulatory tax” provisions are quickly dismissed by the Court, since it would be a mistake to hamstring Congress and the IRS with scrutiny of how the Tax Code is constructed. Justice Rehnquist, for instance, wrote in one unanimous decision that

Legislatures have especially broad latitude in creating classifications and distinctions in tax statutes. . . . “The passage of time has only served to underscore the wisdom of that recognition of the large area of discretion which is needed by a legislature in formulating sound tax policies. . . . It has, because of this, been pointed out that in taxation, even more than in other fields, legislatures possess the greatest freedom in classification. Since the members of a legislature necessarily enjoy a familiarity with local conditions which this Court cannot have, the presumption of constitutionality can be overcome only by the most explicit demonstration that a classification is a hostile and oppressive discrimination against particular persons and classes.  

Regan v. Taxation With Representation of Washington, 461 U.S. 540, 547 (1983) (9-0, per Rehnquist, J.):

If Congress framed the non-coverage penalty as something other than an income tax provision, then it would be more open to challenge, for reasons Tim notes. “Direct” taxes must be uniform for each person. “Excise” taxes must be uniform throughout the U.S. What constitutes uniformity in the context of risk-rated and geographic-rated insurance is an unsettled, and unsettling question that it would be best to avoid.

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