On May 18, 2015, the U.S. Supreme Court held in a 5-4 decision in Comptroller of the Treasury of Maryland v. Wynne Et. Ux that Maryland’s county income tax on individuals violated the dormant commerce clause. The decision affirmed the Maryland Court of Appeals decision that concluded that the Maryland tax at issue discriminated against interstate commerce because if Maryland’s statutes were adopted by every state, interstate commerce would be taxed at a higher rate than intrastate commerce.
Maryland resident individuals are subject to state income tax on 100 percent of their income and a county tax based on their county of residence. Maryland residents who have income from sources outside of the state receive an income tax credit for taxes paid to other states against the state income tax, but no credit is available for the county tax. Nonresident individuals pay state income tax based on the amount of income earned in Maryland and a special nonresident tax in lieu of the county income tax. Nonresident individuals pay the special nonresident tax only on the portion of their income earned in Maryland.
The taxpayers in Wynne were Maryland residents and shareholders of a multistate S corporation. Maryland, like the majority of states, conforms to the federal tax treatment of S corporations, allowing an S corporation to pass through all items of income and losses to its shareholders. As a result, the state income tax burden falls on the S-corporation shareholders. The taxpayers challenged the constitutionality of Maryland’s denial of a credit for taxes paid to other states for the county tax.
The concepts addressed by the court are summarized in the following example. Assume every state imposed the following taxes, which are similar to Maryland’s county and special nonresident taxes:
- A 1.25 percent tax on income that residents earn in the state
- A 1.25 percent tax on income that residents earn in other jurisdictions
- A 1.25 percent tax on income that nonresidents earn in the state
Two taxpayers, A and B, both live in state X. Taxpayer A earns all his income in state X, and Taxpayer B earns all of his income in state Y. In this situation, Taxpayer A will have to pay a 1.25 percent tax only once to state X. Taxpayer B will have to pay 2.5 percent tax on the income earned in state Y: 1.25 percent once to state Y where the income is earned and 1.25 percent to state X where Taxpayer B resides because state X does not give a credit for taxes paid to state Y.
The Maryland Court of Appeals held that the credit for taxes paid to other states must be extended to the special nonresident tax. Maryland resident individuals should file refund claims for all open years as a result of the Supreme Court’s ruling upholding the Maryland Court of Appeals’ decision.
Other states, including Indiana, New York, Pennsylvania, Ohio, and Michigan, impose local taxes on individuals that could be considered unconstitutional in light of the Supreme Court’s decision in Wynne. Affected individuals in these states should consider filing refund claims as a result of the Supreme Court’s decision.