The Utah Supreme Court upheld the constitutionality of Utah’s taxing scheme, which provides a credit against taxes paid to other states, but not against taxes paid to foreign governments.
The taxpayers – Utah residents who owned interests in a Subchapter S corporation doing business throughout the world – argued that this scheme taxed a disproportionate share of their income compared to the share actually earned from Utah sources. The court determined that this analysis was irrelevant, holding that the US Supreme Court’s decisions only require a credit for taxes paid to other states, not to other nations.
The court noted that the Utah taxing scheme must pass the fair apportionment internal consistency test, which requires a theoretical replication of the Utah tax system by every other state to determine whether it would result in multiple taxation. Shockingly, the court rejected the taxpayer’s position that the taxing scheme must also pass the fair apportionment external consistency test, which instead considers whether the taxing scheme includes extraterritorial value.
The court determined that the US Supreme Court implicitly rejected the external consistency requirement in Comptroller of the Treasury of Maryland v. Wynne, 135 S. Ct. 1787 (2015). In Wynne, the court struck down Maryland’s internally inconsistent taxing scheme, but in doing so, suggested that Maryland’s scheme would not need to satisfy external consistency. The Utah Supreme Court relied on this language to determine that external consistency – at least in the context of residence-based taxation – is dead.
The court also rejected the taxpayer’s claim that the lack of a credit for foreign taxes violated the dormant Foreign Commerce Clause. Because the US Supreme Court has not rendered a decision regarding the application of the Foreign Commerce Clause to a resident’s tax, the Utah Supreme Court declined to do so here. Nevertheless, the court reasoned that the tax did not violate the Foreign Commerce Clause (if it did apply) because the taxpayers received a credit for foreign taxes paid on their federal tax returns. This decision is also noteworthy for its harsh criticism of the Dormant Commerce Clause.