Youngstrom v Kosrae [1991] FMSC 12; 5 FSM Intrm. 073 (Kos. 1991) (14 May 1991)

5 FSM Intrm. 73 (Kos. 1991)

FEDERATED STATES OF MICRONESIA
SUPREME COURT TRIAL DIVISION

FSM CIVIL ACTION NO. 1990-2001

VERNON YOUNGSTROM AND THEODORE SIGRAH
Plaintiffs

V

KOSRAE STATE GOVERNMENT
Defendant

OPINION and JUDGMENT: Issued: May 14, 1991

BEFORE: Edward C. King, Chief Justice

APPEARANCES: For the Plaintiffs: Delson Ehmes;
For the Defendant: Richard M. Kaminski, Assistant Attorney General, Kosrae State

HEADNOTES

Jurisdiction - National Law; Taxation
The power of the national government under article IX, section 2(e) of the Constitution, "to impose taxes on income," is an exclusive national power that may not be exercised by the states. Youngstrom v. Kosrae, 5 FSM Intrm. 73, 74 (Kos. 1991).

Taxation
A sales tax is oriented toward individual transactions, not total income, and is tied to the price of the goods sold, rather than to the overall success of the taxpayers. Youngstrom v. Kosrae, 5 FSM Intrm. 73, 76 (Kos. 1991).

Taxation
An income tax typically applies to practically all income, with rates payable based on the total income of the taxpayer, after giving allowance to certain exemptions, and normally extends to all forms of income, including wages and salaries, interest, royalties, fees and returns on capital, as well as income realized through the sale of goods. Youngstrom v. Kosrae, 5 FSM Intrm. 73, 76 (Kos. 1991).

Taxation; Jurisdiction - National Law
The Kosrae transaction tax of KCS 9.301 is a selective tax rather than an income tax and is not an encroachment upon the national government's exclusive power to tax income. Youngstrom v. Kosrae, 5 FSM Intrm. 73, 76 (Kos. 1991).

COURT'S OPINION

EDWARD C. KING, Chief Justice:

The Kosrae State transaction tax, KCS 9.301, imposes a five per cent tax on leases of offices or dwelling places, provisions of lodging or meals, and rental of vehicles or tapes and films.

One of the plaintiffs in this case, Theodore Sigrah, leases homes. The other, Vernon Youngstrom, is in the office rental business. Both have been threatened with prosecution for failure to pay the tax on these activities. In response, they have filed this challenge to the transaction tax, their principal contention being that the tax is actually an income tax and therefore is an unlawful attempt by the state to exercise the power "to impose taxes on income" vested in the national government under the Constitution of the Federated States of Micronesia. FSM Const. art. IX, § 2(e).

The case is now before the Court on cross motions for summary judgment. The state's motion seeks dismissal of the plaintiffs' complaint with prejudice. Plaintiffs request partial summary judgment, asking the Court to declare that the Kosrae transaction tax is unconstitutional but to retain jurisdiction in order to require repayment by the state of any transaction tax payments already made by the plaintiffs.

I.

In Innocenti v. Wainit, [1986] FMSC 3; 2 FSM Intrm. 173, 181 (App. 1986), this Court's appellate division held that "the national power to impose taxes based on imports is exclusive, not to be shared by the states." That conclusion was based upon a more general review of the national Constitution's allocation of powers between the national and state governments. The Court reviewed the nature of the powers expressly delegated to the national government and concluded that "most, if not all, of those powers were intended to be exclusive with the national government." 2 FSM Intrm. at 182. However, the decision left open the possibility that the presumption of exclusivity could be rebutted for a particular power by showing "specific constitutional language which either introduces ambiguity or clearly indicates that the particular power is concurrent." Id.

As to import taxes, the appellate division decided that another constitutional provision, FSM Const. art. IX, § 5, "calling for uniformity and assuring that the states will benefit from the existence and exercise of the national government's taxing powers, confirms that the states are not to duplicate those powers." 2 FSM Intrm. at 182.^[1] The Court specifically noted the view of the framers, as indicated in the journals of the Micronesian Constitutional Convention of 1975, that the state and national taxing powers were to be "mutually exclusive". 2 FSM Intrm. at 182.

While only the power to tax imports, and not the national power to tax income, was before the appellate division in Innocenti v. Wainit, the reasoning in that case applies to the taxation of income as well. This Court therefore concludes that the power of the national government under article IX, section 2(e) of the Constitution, "to impose taxes on income," is an exclusive national power that may not be exercised by the states.

II.

The question posed in this case is whether the tax at issue here, although called the Kosrae transaction tax, is actually an income tax in disguise and therefore an unconstitutional effort by the state of Kosrae to exercise powers unavailable to the states.

This Court has previously had occasion to consider whether a particular tax is an income tax or something else. In Ponape Federation of Cooperative Associations v. Federated States of Micronesia, [1985] FMSC 21; 2 FSM Intrm. 124 (Pon. 1985), the taxpayer challenged the constitutionality of the national gross revenue tax established by the FSM Income Tax Law, 54 F.S.M.C. §§ 141-44. The taxpayer argued that the tax is a sales tax, and therefore the exercise of taxing powers which have been ceded to the states. In rejecting that claim, the Court distinguished between income taxes and sales taxes by identifying characteristics of each form of taxation.

A key distinction noted by the Court is that a sales tax is "oriented toward individual transactions, not total income and is tied to the price of the goods sold, rather than overall success of the taxpayers." 2 FSM Intrm. at 127. An income tax, the Court said, is more likely to be applied to practically all income, with rates payable "based on the total income of the taxpayer, after giving allowance to certain exemptions." Id. Application of this standard suggests that the Kosrae transaction tax, which applies only to specific transactions and is unaffected by the overall economic success of the business activities being taxed, is indeed something other than an income tax.

The Court also noted that an income tax is distinguishable from a sales tax in that the income tax extends to all forms of income, including wages and salaries, interest, royalties, fees, and returns on capital, as well as income realized through the sale of goods. In that respect, the Kosrae tax clearly is distinguishable from an income tax in that the transaction tax is not comprehensively imposed upon all or even many forms of income, but is limited to income from just a few types of transactions.

There is of course some similarity between the Kosrae transaction tax and an income tax. For example, in Ponape Federation, the Court saw the fact that the national gross revenue tax is imposed directly on the business, not upon customers, as an indication that the tax is an income, rather than a sales, tax. However, of the various criteria identified in Ponape Federation, this test is surely the most elusive and slippery. See generally 68 Am. Jur. 2d Sales and Use Taxes § 5 (1973). Thus, the fact that the Kosrae transaction tax is imposed on the transaction, and is payable by the business rather than by the customer is insufficient to overcome the persuasive impact of the other criteria mentioned.

Constitutional history also furnishes criteria, in addition to those identified in the Ponape Federation decision, helpful in determining whether a particular form of state taxation should be seen as violating the exclusive national government power to impose taxes on income. The Constitutional Convention's Committee on Public Finance and Taxation, in proposing the division of state and national powers, gave several reasons why the state and national taxing powers should be mutually exclusive.

In particular, the committee pointed to the need to "avoid the conflicts and tangles of overlapping tax jurisdiction, the duplication of collection agencies, and clashes of fiscal policy." SCREP No. 38, 2 J. of Micro. Con. Con. 863. The committee also emphasized the need to minimize "overlapping taxation by two levels of government" to reduce administrative costs and to avoid "future legal disputes" between national and state governments as to the "'reach' of their respective taxing authorities." Id. at 865.

The Kosrae transaction tax is a selective tax, apparently too narrow in application to cause significant conflicts and tangles of overlapping tax jurisdiction or clashes of fiscal policy. The collection of such a tax would not seem to call for "duplication" of the national government's collection agencies and it does not appear that this tax, enacted in 1985, has led to legal disputes between the national government and the Kosrae state government. The transaction tax does apply to revenue which also is subject to the national gross revenue tax but the overlapping does not appear so substantial as to cause concern.

Thus reflection upon the concerns of the framers of the Constitution, as well as application of the Ponape Federation criteria, lead to the conclusion that the Kosrae transaction tax is a selective sales tax rather than an income tax and does not violate the Constitution of the Federated States of Micronesia.

III.

The Kosrae transaction tax is not an income tax and is not an encroachment upon the national government's exclusive power to tax income.

Therefore, the state's motion for summary judgment is granted and plaintiffs' complaint is dismissed.

ENDNOTE:

¹Article IX, section 5 of the Constitution says, "National taxes shall be imposed uniformly. Not less than fifty percent of the revenues shall be paid into the treasury of the state where collected."

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^[1]Article IX, section 5 of the Constitution says, "National taxes shall be imposed uniformly. Not less than fifty percent of the revenues shall be paid into the treasury of the state where collected."