Court Opinion

ID: 6452918
Source: CourtListenerOpinion
Date Created: 2022-06-25 12:36:01.702833+00
Date Added: 2024-06-11T15:51:34.162364
License: Public Domain

Spina, J.
The plaintiffs (taxpayers) commenced an action in the county court, alleging that § 32 of the Revenue Enhancement Act of 2002 (Act), St. 2002, c. 186, which establishes an effective date of May 1, 2002, for the Act’s provision changing the taxation rate of long-term capital gains (gains from the sale or exchange of capital assets held more than one year), violates art. 44 of the Amendments to the Massachusetts Constitution because it imposes different rates of taxation during the 2002 calendar year on income derived from the same class of *421property. The parties submitted a statement of agreed facts, and a single justice reserved and reported the case without decision for determination by the full court.
Background. Section 6 of the Act amended G. L. c. 62, § 2 {b) (3), to provide that “Part C gross income shall be capital gain income which equals the gains from the sale or exchange of capital assets held for more than 1 year.” Section 14 of the Act amended G. L. c. 62, § 4 (c), to provide that “Part C taxable income shall be taxed at the same rate as provided for in paragraph (b),” referring to Part B income. General Laws c. 62, § 4 (b), as amended through St. 2003, c. 186, § 13, states: “Part B income [ordinary income] shall be taxed at the rate of 5.3 per cent for tax years beginning on or after January 1, 2002.” Section 32 of the Act made these and other sections of the Act relating to long-term capital gains “effective for tax years beginning on or after May 1, 2002, and for the portion that begins on May 1, 2002 of any taxable year beginning on or after January 1, 2002, and before May 2, 2002.”
Prior to the enactment of the Act, long-term capital gains were divided into six classes based on the length of time that the capital asset had been kept prior to sale or exchange. Capital gains taxes ranged from five per cent for capital assets held more than one year and up to two years, four per cent if held more than two years and up to three, and so on, with no tax on the gain from the sale or exchange of capital assets held more than six years. See G. L. c. 62, § 2 (b) (3), as amended through St. 1994, c. 195, § 10, and G. L. c. 62, § 4, as amended through St. 1994, c. 195, § 20. As a result of the enactment of the Act, long-term capital gains realized in calendar year 2002 before May 1 are taxed pursuant to the formula inserted by St. 1994, c. 195, §§ 10 and 20, whereas long-term capital gains realized in calendar year 2002 on or after May 1 are taxed as ordinary income at 5.3 per cent. After allowable deductions and adjustments, the tax rate on long-term capital gains realized on or after May 1 is higher than the tax rate on the same gain realized earlier in the year.
All the taxpayers realized income from long-term capital gains in the calendar year after May 1, 2002, and consequently they are liable for a higher tax than if the same income had *422been realized in the portion of the 2002 calendar year prior to May 1.
Discussion. The taxpayers argue that § 32 of the Act violates art. 442 because it imposes different rates of taxation on income derived from the same class of property. The commissioner contends that long-term capital gain income is not income derived from property, but from unique, investor-specific factors such as business judgment, and therefore not subject to the uniformity requirement of art. 44. The commissioner argues that, even if capital gain income is subject to the uniformity requirement of art. 44, the Act does not preclude the Legislature from enacting a general rate change resulting in the application of a higher tax rate to all long-term capital gains realized after the effective date of the rate change.
“In addressing a constitutional challenge to a tax measure, we begin with the premise that the tax is endowed with a presumption of validity and is not to be found void unless its invalidity is established beyond a rational doubt.” Andover Sav. Bank v. Commissioner of Revenue, 387 Mass. 229, 235 (1982). Legislation that creates a classification of property for purposes of taxation does not violate art. 44 if there is “any reasonable ground” to support the classification or if it is not “arbitrary.” Tax Comm’r v. Putnam, 227 Mass. 522, 531 (1917), quoting Nichols v. Ames, 173 U.S. 509, 521 (1899). “A classification will not be declared void as unreasonable ‘unless it was plainly and grossly oppressive and unequal, or contrary to common right.’ ” Id., quoting Oliver v. Washington Mills, 11 Allen 268, 279 (1865). To be reasonable, the classification must reflect “actual underlying differences in the property.” Barnes v. State Tax Comm’n, 363 Mass. 589, 594 (1973). Moreover, to be valid under art. 44, a classification must be based on the “sources of *423income,” and not the “owners of property.” Opinion of the Justices, 266 Mass. 583, 586-587 (1929).
Both parties rely on Tax Comm’r v. Putnam, supra, as primary support for their conflicting views concerning the nature and source of capital gains income. The commissioner contends that the court in Putnam recognized that capital gains income did not derive from a specific class of property when it explained that “[t]he tax upon interest and dividends is levied upon a return which comes to the owner of the principal security without further effort on his part. The tax upon excess of gains over losses in the purchases and sales of intangible personal property is levied, not upon income derived from a specific property, but from the net result of the combination of several factors, including the capital investment and the exercise of good judgment and some measure of business sagacity in making purchases and sales. Gain derived in this way, to express it in ‘summary and comprehensive form,’ ‘is the creation of capital, industry, and skill.’ Wilcox v. County Comm’rs, 103 Mass. 544 (1870). It is not the production of capital alone and does not arise solely from a simple investment.” Tax Comm’r v. Putnam, supra at 531. The commissioner misconstrues the point the court was making. The court was demonstrating the difference between the source of interest and dividend income on the one hand, and capital gain income on the other, and thereby explained the legislative basis for treating them as being derived from different classes of property. Contrary to the commissioner’s assertion, the court did not say that the capital gain income did not derive from property, but that unlike interest and dividend income, it did not derive solely from property. The court made a similar observation in Salhanick v. Commissioner of Revenue, 391 Mass. 658, 663 (1984), when it referred to both capital gains income and interest and dividend income as derived from property, describing the former as income from “a contract for the sale of a security,” and the latter as income “from the security itself” and “justifiably classified differently.”
The commissioner also argues that in order for income to be “derived from property” it must be received or payable while the property is held, as distinguished from sold. Article 44 creates no such requirement and recognizes no such distinction. *424The Putnam case specifically recognized that capital gains income, income from the sale or exchange of a capital asset, is derived from property. The court noted that capital gains income “derived from the application of sagacity to the use of capital in making purchases and resales at an advance. The transactions could not be carried out except by the use of capital, and the profit is derived directly from the capital in combination with skill in selecting the time for purchase and for sale” (emphasis added). Tax Comm’r v. Putnam, supra at 529. Similarly, the court in Salhanick v. Commissioner of Revenue, supra, said that “a contract for the sale of a security [a source of capital gains income] is ‘property’ and is justifiably classified differently from the security itself [a source of interest and dividend income].” We conclude that income from the sale or exchange of a capital asset is income derived from property within the meaning of art. 44.3
We turn to the taxpayers’ argument that the May 1, 2002, effective date for the change in the long-term capital gains tax rate results in two separate tax rates on long-term capital gains realized in calendar year 2002, in contravention of the uniformity requirement of art. 44. The commissioner contends that art. 44 does not preclude the Legislature from enacting a general rate change resulting in the application of a higher tax rate to all long-term capital gain income from transactions occurring on or after the legislation’s effective date, and that art. 44 is only concerned with the effect of a tax rate as it affects “similarly situated taxpayers on any given date” (emphasis added).
Article 44 empowers the Legislature “to impose and levy a tax on income ... at a uniform rate throughout the commonwealth upon incomes derived from the same class of property.” The components of the income tax under art. 44 are “income” and tax “rates.” Under art. 44 the Legislature has the power to fix the tax rates on income derived from different *425classes of property and to change those rates from time to time, provided income derived from the same class of property is taxed at a uniform rate. See Knights v. Treasurer & Receiver Gen., 237 Mass. 493, 495 (1921), aff’d sub nom. Knights v. Jackson, 260 U.S. 12 (1922). The Legislature has the power to define different classes of property from which income is derived, provided the classification is reasonable. See Tax Comm’r v. Putnam, supra at 531. The Legislature also may determine the period of time over which income will be measured for purposes of imposing the income tax. While time is not specifically referred to in art. 44, it is a component of income. Historically, in Massachusetts the tax period has been one year.4 P. Nichols, Taxation in Massachusetts 110-111 n.l (3d ed. 1938). The taxable year corresponds with the calendar year, unless the taxpayer has obtained permission from the commissioner to use a different fiscal year. See G. L. c. 62, §§ 1 (h), 62.
Article 44 does not define the term “income.” The concept of income had been widely debated at the time of the adoption of the Sixteenth Amendment to the United States Constitution from 1909 to 1913, and this court has noted that that debate also informed legislators and voters at the time art. 44 was approved and ratified in 1915. See Tax Comm’r v. Putnam, supra at 528. In that case, the court said “ ‘income’ is the amount of actual wealth which comes to a person during a given period of time. At any single moment a person scarcely can be said to have income. The word in most, if not all, connections involves time as an essential element in its measurement or definition. It thus is differentiated from capital or investment, which commonly means the amount of wealth which a person has on a fixed date. . . . The decisive word in the Forty-fourth Amendment is ‘income.’ That is a word which not only had been much discussed by legislators and in the press in connection with taxation, but which also is in everyday use. The common meanings attached to it by lexicographers, therefore, have weight in *426determining what the people may be supposed to have thought its signification to have been when voting for the amendment. It is defined as . . . ‘The amount of money coming to a person or corporation within a specified time, whether as payment for services, interest, or profit from investment’ ” (emphasis added). Tax Comm’r v. Putnam, supra at 526-527. Indeed, “[t]he relation of the income concept to the specified time interval is fundamental” to the taxation of income (emphasis added). H.C. Simons, Personal Income Taxation 50 (1938). See Bittker, A “Comprehensive Tax Base” as a Goal of Income Tax Reform, 80 Harv. L. Rev. 925, 961 (1967) (“Income must be measured chronologically”). Time is thus a component of income. Income, once measured by a taxable period determined by the Legislature, becomes a unit of property subject to a uniform rate of taxation. See Opinion of the Justices, 266 Mass. 583, 588 (1929) (power to tax income as property). As previously noted, income has always been determined annually in Massachusetts for purposes of taxation.5 In addition, from at least 1738 until the adoption of art. 44, income in Massachusetts had been determined annually and taxed at a fixed rate. See P. Nichols, Taxation in Massachusetts, supra. This case asks us to decide if the uniformity requirement of art. 44 prohibits more than one tax rate from being applied to taxable income.
Unlike the “uniformity” provision of art. 1, § 8, cl. 1, of the United States Constitution, which has been construed to mean geographical uniformity, see Billings v. United States, 232 U.S. 261, 282 (1914), the meaning of “uniformity” in art. 44 is broader. “The words of [art.] 44 exact also geographical uniformity, but permit variation from intrinsic uniformity as to rates only with respect to reasonable classifications of property *427as to sources of income ... to the extent that income not derived from property may be taxed at a lower rate than income derived from property, and to the extent also that reasonable exemptions may be made. Thus permissible differences in rates of taxation on incomes are mentioned. Except in these particulars the tax must be ‘at a uniform rate throughout the commonwealth’ ” (emphasis added). Opinion of the Justices, 266 Mass, at 586. Contrary to the commissioner’s contention, after nearly ninety years of experience with art. 44, there can be no doubt that the tax on income must be calculated by applying a single, flat rate percentage to a particular class of income. See Opinion of the Justices, 383 Mass. 940, 941 (1981) (“A State income tax based on a flat rate percentage of the taxpayer’s Federal income tax would result effectively in a graduated State income tax . . . [in violation of] the uniformity requirements for income taxes imposed by art. 44”); Daley v. State Tax Comm’n, 376 Mass. 861, 862 (1978) (art. 44 “commands a single rate of tax on income from any given ‘class’ of property” [emphasis added]); Opinion of the Justices, 266 Mass, at 586, 588 (requirement of intrinsic uniformity precludes graduated income tax).
The commissioner points out that the rate change brought about by § 32 of the Act satisfies art. 44 because it applies uniformly to all capital gain income realized after May 1, 2002. This argument fails to recognize that the tax is owed on capital gains income for the period measured by the entire 2002 calendar year. Whether different tax rates apply uniformly to different layers of income over the entire tax period, as in the case of the graduated income tax, or whether different tax rates apply to all income within different segments of the tax period, as under § 32 of the Act, the resulting tax is not “levied at a uniform rate . . . upon incomes derived from the same class of property.” For purposes of the uniformity requirement of art. 44, it does not matter how much income derived from a particular class of property is received during the tax period, and it does not matter when during the tax period income is received. Income measured by a legislatively determined tax period becomes a unit of property subject to “a uniform rate” of taxation for purposes of determining the tax owed.
*428The only permissible differences in tax rates under art. 44 are those that flow from the differences in classes of property from which income is derived. If other differences had been intended, it would have been simple to express such authority in art. 44. See Opinion of the Justices, 266 Mass, at 586-587. The “intrinsic uniformity” of tax rates required by art. 44, id., means “a single rate of tax on income from any given ‘class’ of property.”6 Daley v. State Tax Comm’n, supra at 862. A law that “result[s] in the imposition of different rates of taxation on income derived from the same class of property [is] in contravention of art. 44.” Salhanick v. Commissioner of Revenue, 391 Mass. 658, 665 (1984).
The commissioner’s contention that we must look to the rate of taxation “on any given date” blurs the distinction between income and capital, and it ignores a fundamental aspect of income, namely, the change in wealth over time. Under the commissioner’s analysis the taxable year could be broken into segments having different tax rates, thereby creating a form of graduated income tax, which is prohibited by art. 44. See Opinion of the Justices, 383 Mass, at 941; Opinion of the Justices, 266 Mass, at 588. Money realized on “any given date” does not determine which rate will apply, but the year in which it will be taxed as income. See Tax Comm’r v. Putnam, supra at 536.
The commissioner’s reliance on Salhanick v. Commissioner of Revenue, supra, and Daley v. State Tax Comm’n, supra, is misplaced. In the Salhanick case, the court held unconstitutional under art. 44 a statute that imposed different rates of taxation on royalty income paid to owners of trust certificates in an iron ore mining operation, based on whether the owners held their certificates for more than six months. The court reasoned that *429the tax was invalid because there was “[no] difference in kind between iron ore that is owned for one period of time and the same iron ore that is owned for another period of time.” Id. at 664. The court held the statute unconstitutional as applied “because it resulted in the imposition of different rates of taxation on income derived from the same class of property.” Id. at 665. Here, § 32 of the Act also results in the imposition of different rates of taxation on income derived from the same class of income.
In Daley v. State Tax Comm’n, supra at 862, 865, the court held that certain distinctions under the Internal Revenue Code for taxation of portions of lump sum payments to employees under an employer’s pension plan based on when the employer made contributions to the plan, imported into the Massachusetts tax system, violated art. 44 because income from the same class of property must be taxed at a single rate.
Implicit in both the Salhanick and the Daley cases is the principle that a single tax rate must be applied to income from the same class of property received during the period specified by the Legislature for measuring income. That period in this case is calendar year 2002. Only one tax rate may be applied to all long-term capital gains realized in calendar year 2002. There cannot be, consistent with art. 44, more than one long-term capital gains tax rate on income for the taxable year 2002. We hold that § 32 of the Act violates art. 44.
We are left with the question whether the effective date of the rate change is January 1, 2002, or January 1, 2003. General Laws c. 62, § 54, states: “If any part, subdivision or section of this chapter shall be declared unconstitutional, the validity of its remaining provisions shall not be affected thereby.” There is no dispute that § 14 of the Act is effective for the tax year beginning January 1, 2003. However, it is not clear that, after the May 1, 2002, effective date is struck as unconstitutional, § 14 could not possibly be effective as of January 1, 2002. The record is not sufficiently developed for a determination of this issue. We remand the case to the county court for further proceedings on the question of the applicability of § 14 of the Act as of January 1, 2002.

So ordered.

Article 44 of the Amendments to the Massachusetts Constitution states, in relevant part: “Full power and authority are hereby given and granted to the general court to impose and levy a tax on income in the manner hereinafter provided. Such tax may be at different rates upon income derived from different classes of property, but shall be levied at a uniform rate throughout the commonwealth upon incomes derived from the same class of property. The general court may tax income not derived from property at a lower rate than income derived from property, and may grant reasonable exemptions and abatements. ...”

Even if income from capital gains were not income derived from property, it is income nevertheless and it is subject to the uniformity requirement of art. 44. See Opinion of the Justices, 383 Mass. 940, 943 n.3 (1981) (“it is generally agreed that the requirement of uniform rates of taxation in art. 44 applies to both earned and unearned income”).

Sedtion 2 of the Act provides that the definitions of long-term capital gains and losses in G. L. c. 62, § 1, shall have the meanings provided by § 1222 of the Internal Revenue Code. Title 26 U.S.C. § 1222 (7) (2000) measures all long-term capital gains and losses according to the taxable year.

The taxpayers argue that we may weigh such factors as habitual practice, custom, or history in determining whether a statute violates art. 44. See Opinion of the Justices, 425 Mass. 1201, 1207 (1997); Daley v. State Tax Comm’n, 376 Mass. 861, 866 (1978). They contend that the income tax laws in Massachusetts have been amended on thirty-two occasions since the tax laws were recodified in 1971, that on no previous occasion has the Legislature ever included a provision changing the taxability of income or of the tax rate for only part of a taxable year, and that on twenty-six such occasions, provisions enacted changes affecting the entire tax year, while the other six measures were unrelated to a tax year. The commissioner does not refute this assertion.

Both dissents essentially contend that the taxpayers have no constitutional right to a particular period of taxation. Post at 431-432 (Marshall, C.J., dissenting); post at 437-438 (Cordy, J., dissenting). They are correct in that limited respect. What the taxpayers are entitled to is “a uniform rate” of taxation applied to their capital gains income for the taxable period that the Legislature has set. The taxpayers do not, and need not, rely on principles of due process or equal protection, post at 442 (Cordy, J., dissenting), because art. 44 affords precisely the relief they seek. The period of taxation measures the income to be taxed, and it serves no other purpose. Once the income is thus determined, the tax rate is applied to the income, not the taxable period.