New York v. Yellen

• Decision Date: 05 October 2021
• Docket Number: Docket No. 19-3962-cv,August Term, 2020
• Citation: 15 F.4th 569
• Parties: State of NEW YORK, State of Connecticut, State of Maryland, State of New Jersey, Plaintiffs-Appellants, v. Janet YELLEN, in Her Official Capacity as Secretary of the United States Department of Treasury, United States Department of Treasury, Charles P. Rettig, in His Official Capacity as Commissioner of the United States Internal Revenue Service, United States Internal Revenue Service, and United States of America, Defendants-Appellees.
• Court: U.S. Court of Appeals — Second Circuit

15 F.4th 569

State of NEW YORK, State of Connecticut, State of Maryland, State of New Jersey, Plaintiffs-Appellants,

v.Janet YELLEN, in Her Official Capacity as Secretary of the United States Department of Treasury, United States Department of Treasury, Charles P. Rettig, in His Official Capacity as Commissioner of the United States Internal Revenue Service, United States Internal Revenue Service, and United States of America, Defendants-Appellees.^*

Docket No. 19-3962-cv

August Term, 2020

United States Court of Appeals, Second Circuit.

Argued: December 3, 2020

Decided: October 5, 2021

Caroline A. Olsen, Assistant Solicitor General (Barbara D. Underwood, Solicitor General, Steven C. Wu, Deputy Solicitor General, on the brief), for Letitia James, Attorney General for the State of New York, New York, NY, for Plaintiff-Appellant State of New York.

Mark F. Kohler, Assistant Attorney General, for William Tong, Attorney General for the State of Connecticut, Hartford, CT, for Plaintiff-Appellant State of Connecticut.

Steven M. Sullivan, Solicitor General, for Brian E. Frosh, Attorney General for the State of Maryland, Baltimore, MD, for Plaintiff-Appellant State of Maryland.

Jeremy Feigenbaum, Counsel to the Attorney General, for Gurbir S. Grewal, Attorney General for the State of New Jersey, Trenton, NJ, for Plaintiff-Appellant State of New Jersey.

Jean-David Barnea, Assistant United States Attorney (Rebecca S. Tinio, Benjamin H. Torrance, Assistant United States Attorneys, on the brief), for Audrey Strauss, Acting United States Attorney for the Southern District of New York, New York, NY, for Defendants-Appellees.

Before: SACK, CHIN, and LOHIER, Circuit Judges.

LOHIER, Circuit Judge:

The federal tax code's state and local tax ("SALT") deduction has long permitted taxpayers to deduct from their taxable income all the money they paid in state and local income and property taxes. In 2017, however, Congress passed the Tax Cuts and Jobs Act (the "2017 Tax Act" or the "Act"), Pub. L. No. 115-97, 131 Stat. 2054, which imposed a $10,000 cap on the SALT deduction. The immediate impact of the new cap was felt most acutely in States where the state and local tax liability of residents often exceeds the $10,000 maximum. Four of the States most affected—New York, Connecticut, New Jersey, and Maryland, the plaintiffs here—sued the federal Government,¹ asserting that Congress's new cap on the SALT deduction either is unconstitutional on its face or unconstitutionally coerces them to abandon their preferred fiscal policies. The Government responded that the United States District Court for the Southern District of New York (Oetken, J. ) lacked subject matter jurisdiction to consider the States’ claims, and also defended the cap on the merits.

The District Court rejected the Government's jurisdictional defense but dismissed the complaint for failure to state a claim. On appeal, the Plaintiff States argue that the District Court erred on the merits, while the Government continues to maintain that the District Court lacked jurisdiction and otherwise defends the District Court's judgment. Finding no error in the District Court's conclusions, we AFFIRM.

BACKGROUND

I.

We start with a quick bit of history. The United States has not always levied a federal income tax. In its first decades, the federal Government remained small enough that it could fund itself almost entirely through customs duties and tariffs. See Aaron T. Knapp, The New Jersey Plan and the Structure of the American Union, 15 Geo. J.L. & Pub. Pol'y 615, 643–44 (2017). The cost of waging the Civil War made that approach impossible. Congress, prodded by the need to tap new sources of revenue to pay for the war, enacted the first federal income tax in 1861. See Act of Aug. 5, 1861, ch. 45, § 49, 12 Stat. 292, 309. Even then, as the Government scrounged for funds first to pay for and then to recover from the war, Congress created a nearly unlimited SALT deduction. "[I]n estimating [federally taxable] income," Congress determined, "all national, state, or local taxes assessed upon the property, from which the income is derived, shall be first deducted." Id.; see Act of July 1, 1862, ch. 119, § 91, 12 Stat. 432, 473–74; Act of June 30, 1864, ch. 173, § 117, 13 Stat. 223, 281; Act of Mar. 3, 1865, ch. 78, 13 Stat. 469, 479; Act of Mar. 2, 1867, ch. 169, § 13, 14 Stat. 471, 478; Act of July 14, 1870, ch. 255, § 9, 16 Stat. 256, 258. The tax expired in 1872, but Congress revived it in 1894, along with the SALT deduction. See Act of July 14, 1870, § 10, 16 Stat. at 158; Act of Aug. 27, 1894, ch. 349, § 28, 28 Stat. 509, 553. A year later, in 1895, the Supreme Court struck down the 1894 tax, holding that it violated the constitutional prohibition against direct taxes not apportioned among the States in proportion to their relative populations. See Pollock v. Farmers’ Loan & Tr. Co., 158 U.S. 601, 637, 15 S.Ct. 912, 39 L.Ed. 1108 (1895) ; see also U.S. Const. art. I, § 9, cl. 4.

The ratification of the Sixteenth Amendment in 1913 empowered Congress to "lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States." U.S. Const. amend. XVI. Immediately after the Amendment was ratified, Congress reinstated the federal income tax and reintroduced the SALT deduction for "all national, State, county, school, and municipal taxes paid within the year, not including those assessed against local benefits." Act of Oct. 3, 1913, ch. 16, § II(B), 38 Stat. 114, 167.

And "from then to now, some form of [SALT] deduction ... has been a mainstay of the federal Tax Code." New York v. Mnuchin, 408 F. Supp. 3d 399, 404 (S.D.N.Y. 2019). But amendments to the Tax Code have over time also made the deduction more difficult or less attractive for taxpayers to claim. In 1944, for example, Congress introduced the standard deduction, which is a predetermined sum that taxpayers can choose to deduct instead of deducting their identifiable itemized expenses. See Individual Income Tax Act of 1944, Pub. L. No. 78-315, § 9, 58 Stat. 231, 236–38. As the District Court noted, the emergence of the standard deduction "meant that, in practice, the SALT deduction remained relevant for only those taxpayers who chose to itemize their deductions." Mnuchin, 408 F. Supp. 3d at 404. Twenty years later, in 1964, Congress altered the SALT deduction directly: it provided that only certain enumerated types of state and local taxes were deductible and disallowed deductions for any other state and local taxes. See Act of Feb. 26, 1964, Pub. L. No. 88-272, § 207, 78 Stat. 19, 40–42; see also Gladriel Shobe, Disaggregating the State and Local Tax Deduction, 35 Va. Tax Rev. 327, 338 (2016). In effect, the 1964 amendment inverted the traditional legislative approach to the SALT deduction under which "all state and local taxes were deductible unless specifically disallowed." See Shobe, supra, at 338 (emphasis added).

Since 1964, legislation has only further limited the availability of the deduction. In 1986, in the wake of a debate about repealing the deduction, Congress enacted a comprehensive alternative minimum tax ("AMT") scheme, providing taxpayers with an additional method to calculate their tax liability without resorting to the deduction. See Tax Reform Act of 1986, Pub. L. No. 99-514, § 134, 100 Stat. 2085, 2320–45. The AMT requires high-income taxpayers to calculate their tax liability using both traditional and alternative methodologies, and to pay the greater amount. If the alternative methodology results in a greater tax liability, the taxpayer is prevented from claiming the SALT deduction. See id. at 2321. At the same time, Congress removed sales taxes from the list of deductible state and local taxes. See id. § 134, 100 Stat. at 2116. Not long thereafter, in 1990, Congress enacted the so-called "Pease limitation," under which taxpayers with adjusted gross incomes exceeding certain specified thresholds were required to reduce the overall amount claimed in itemized deductions, including SALT deductions, by up to eighty percent. See Omnibus Budget Reconciliation Act, Pub. L. No. 101-508, § 11,103, 104 Stat. 1388, 1388-406 (1990) (codified at 26 U.S.C. § 68(a) ). Finally, in 2004 Congress reinstated the deduction for state and local sales taxes but forced taxpayers to choose between deducting state and local sales taxes and deducting state and local income taxes, thereby reducing the number of taxpayers claiming the latter. See American Jobs Creation Act of 2004, Pub. L. No. 108-357, § 501, 118 Stat. 1418, 1520–21.

The SALT deduction nevertheless remained durable until 2017. Eligible taxpayers could, subject to the standard deduction, the AMT, and the Pease limitation, always elect to deduct all state and local real and personal property taxes as well as either all state and local income taxes or all state and local sales taxes. See 26 U.S.C. § 164(a)(1)–(3), (b)(5) (effective Dec. 18, 2015 to Dec. 21, 2017).

In 2017, however, Congress took a sharp turn by passing the Act. As relevant here and as noted above, the Act prohibits taxpayers from claiming a SALT deduction of more than $10,000 — a cap that exists regardless of a taxpayer's state and local tax burden. See 2017 Tax Act § 11,042, 131 Stat. at 2085–86 (codified at 26 U.S.C. § 164(b)(6) ).² Congressional and executive branch proponents of the new cap on the SALT deduction openly proclaimed that it would adversely impact States with higher overall state and local taxes significantly more than other States. According to then-Speaker of the House Paul Ryan, for example, the SALT deduction had created a disparity in which "[p]eople in states that have balanced budgets, whose state governments have done their job and kept their books balanced and don't have massive pension liabilities, they're effectively paying for states that don't." Joint App'x 575; see also id. at 612 ("[W]e're propping up profligate, big government states and we're having...