Is the Pennsylvania Personal Property Tax Constitutional?
By Daniel B. Evans
Copyright © 1996-1998 Daniel B. Evans.
All rights reserved.
[First published 4/10/96; last revised 10/10/98]
Is the Pennsylvania personal property tax constitutional?
No, according to Judge Smyth of the Court of Common Pleas of Montgomery
County, but his recently published conclusions of fact and law,
Interim Report, Annenberg v.
Com. of Pennsylvania, Montg. C.P. No. 98-08615, Sup.Ct. Misc.
Nos. 003 and 004 of 1997 (Oct. 7, 1998), may not provide any
relief to any taxpayers in Pennsylvania.
The issue of the constitutionality of the personal property tax arose
out of the decision of the United States Supreme Court in
Fulton Corp. v.
Faulkner, 516 U.S. 324 (1996), in which the Supreme Court found that a
similar tax in North Carolina was unconstitutional as a violation of the Commerce Clause of
the U.S. Constitution because it discriminated between the stock of corporations
that did business in North Carolina (and paid North Carolina taxes) and
corporations that did no business, the tax falling on the stock of the
out-of-state corporations. Shortly afterwards, several residents of
Pennsylvania (including Walter H. Annenberg) sued for refunds of the
Pennsylvania personal property tax, relying on a
statute in Pennsylvania allowing actions for refunds on taxes paid to
counties (and other political subdivisions) within the preceding three years
if the county was not "legally entitled" to the tax.
In an order issued April 7, 1998, the Pennsylvania Supreme Court
agreed that the personal property tax is facially discriminatory, and
remanded the issue to a trial court for hearings and a determination on whether the tax was
"compensatory" and constitutional, or unconstitutional and,
if unconstitutional, what remedy is appropriate for taxpayers who have
paid the tax or have been billed for the tax.
Annenberg v. Commonwealth, et al.,
Slip Opinion J-109-1997 (Pa. Supreme Court, 4/7/98). The hearings
were held in Montgomery County before President Judge Joseph A. Smyth,
who determined that the tax is not "compensatory" but that
the exclusion for stock of Pennsylvania corporations could be
severed from the rest of the tax, and that it was the exclusion that
was unconstitutional, not the tax itself.
If adopted by the Pennsylvania Supreme Court, Judge Smyth's determinations
will probably mean that there will be no refunds for taxpayers, and that the
counties may collect a personal property tax on all stocks, both of
Pennsylvania corporations and of corporations operating outside of Pennsylvania.
What is the Pennsylvania Personal Property Tax?
The "personal property tax" is a tax on various forms of intangible personal
property, such as stocks, bonds, and certain other forms of indebtedness. There are a number
of exemptions, including an exemption for the stock of corporations which are subject to the
Pennsylvania capital stock tax or franchise tax. Act of June 17, 1913, P.L. 507, §1. It
is that exemption that causes the constitutional problem.
What is the Commerce Clause?
Article I, Section 8, clause 3, of the Constitution of the United States gives Congress the
power to "regulate Commerce ... among the several States...." That provision has
long been interpreted as both giving power to Congress and restricting the power of the states.
Congress has the power to regulate businesses and business activities that affect more than
one state, and states are prohibited from enacting legislation that restricts or burdens
commerce that crosses their borders from another states. As a result, a state cannot impose a
tax that falls more heavily on businesses from another state than on businesses within the
The Fulton Decision
In Fulton Corp. v.
Faulkner, 516 U.S. 324 (1996), the U.S. Supreme Court was asked to
review the constitutionality of the North Carolina personal property tax. Like Pennsylvania,
North Carolina taxed corporate stock, and distinguished between corporations already paying
taxes to the state and those not paying any taxes. Under the North Carolina system, a
corporation paid corporate income tax on that portion of it's income attributable to operations
in North Carolina. The stock of the corporation was then subject to personal property tax in
the hands of the shareholders in the same percentage that the income of the corporation was
not subject to income tax in the state. So the stock of corporation which operated entirely
within North Carolina was not subject to the personal property tax, while the stock of a
corporation which did not earn any income at all in North Carolina was entirely subject to the
personal property tax. If a corporation earned 5% of its income in North Carolina, then 95%
of the value of the stock was subject to personal property tax.
The Supreme Court recognized that the tax discriminated between corporations that
operated within the state and corporations that did not operate within the state. However, it
also recognized that a tax may be applied to interstate commerce if the tax is
"compensatory" and simply makes interstate commerce bear a tax burden already
borne by commerce within the state. The classic example of a "compensatory"
tax is a "use" tax imposed on personal property purchased outside of the state and
brought into the state to be used there. A use tax that is equal to the sales tax already
imposed by the state has been held to be constitutional because the consumer pays the same
tax in each case, either at the time of purchase within the state or at the time the property is
brought into the state from another state.
Based on earlier decisions, the Supreme Court declared that there were three conditions
that a discriminatory tax must satisfy in order to be constitutional:
Applying those tests to the North Carolina tax, the court unanimously found that the tax failed
all three tests.
- The state must identify the tax burden within the state for which the state is attempting
- The tax on interstate commerce must roughly approximate the tax on commerce within
the state; and
- The taxable events must be "substantially equivalent" for the interstate and
Applying Fulton to Pennsylvania
The similarities between the North Carolina personal property tax and the Pennsylvania
personal property tax suggest that the Supreme Court would hold that the Pennsylvania tax is
unconstitutional as well. A review of the opinion of the court, and the discussions of why the
North Carolina tax failed the three part test described above, shows that the Pennsylvania tax
is no more constitutional than the North Carolina tax, and may be less constitutional.
There is, therefore, no reason to believe that Pennsylvania's personal property tax is
distinguishable from the North Carolina tax (at least not in ways that are helpful to
Pennsylvania), and every reason to believe that Pennsylvania's personal property tax is
- When comparing the intrastate tax for which the interstate tax is supposed to
compensate, the court held that the intrastate tax must serve a purpose for which the state
may impose a burden on interstate commerce. North Carolina claimed that the tax on the
value of corporate stock compensated the state for the income tax it could not collect on out-
of-state income. However, the court held that North Carolina had no right to tax incomes
earned outside of the state. Pennsylvania personal property tax appears to be linked to the
capital stock tax or franchise tax. The capital stock tax is a property tax on domestic entities,
and the franchise tax is a privilege tax on foreign organizations doing business in
Pennsylvania. However, both taxes are calculated in the same way, based on a series of
formulas that calculate stock values from net worth and net income, then apportion the value
between activities in Pennsylvania and activities outside of Pennsylvania. Like North
Carolina, Pennsylvania has no right to tax property outside of Pennsylvania or the privilege of
doing business outside of Pennsylvania, so the personal property tax on the stock of
corporations doing business outside of Pennsylvania does not serve a purpose for which the
state may impose a burden on interstate commerce.
North Carolina attempted to justify the personal property tax on the grounds that the tax
was a payment for the privilege of access to the capital markets of the state, which other
corporations supported through payment of the corporate income tax, but Supreme Court
rejected that argument, quoting from Oregon Waste Systems, Inc. v. Department of
Environmental Quality of Ore., 511 U.S. ___ , ___ (slip opinion at 13, n. 8), (1994),
holding that "(p)ermitting discriminatory taxes on interstate commerce to compensate for
charges purportedly included in general forms of intrastate taxation would allow a state to tax
interstate commerce more heavily than in-state commerce anytime the entities involved in
interstate commerce happened to use facilities supported by general tax funds." There is
no reason to believe that Pennsylvania could distinguish itself from North Carolina on this
issue, or advance a more convincing argument.
- The Supreme Court also held that North Carolina had failed to show that the tax on
interstate commerce be shown "roughly to approximate" the tax on intrastate
commerce. Although North Carolina attempted to show that the personal property tax burden
might be similar to the corporate income tax burden, the Supreme Court rejected the argument
as a comparison of "apples to oranges," because a corporate income tax supports
a wide range of government services, while the personal property tax was supposedly imposed
to support capital markets in North Carolina, and the court held that North Carolina could not
carry its burden of proving what proportion of the corporate income tax goes to support the
capital market, or whether that proportion represents a burden greater than the one imposed on
interstate commerce by the intangibles tax. Pennsylvania would have an even greater burden
of proof, because the North Carolina personal property tax was at least proportionate to the
income of the corporation outside of the state, while the stock of a corporation that is
"subject" to the capital stock or franchise tax to Pennsylvania is wholly
exempt from the Pennsylvania personal property tax even though the corporation pays
little or no tax to Pennsylvania. For example, a foreign corporation that conducts a small
percentage of its business in Pennsylvania will pay a franchise tax on a small percentage of
its income and net worth, yet its stock will be entirely exempt from Pennsylvania personal
property tax. However, the personal property tax will apply in full to the stock of an
otherwise identical corporation with no operations in Pennsylvania. Within this statutory
framework, it will be impossible for Pennsylvania to show any equivalence between the
capital stock/franchise tax burden and the personal property tax burden.
- Finally, the Supreme Court held that the North Carolina personal property tax and
corporate income tax did not fall on events that were "substantially equivalent,"
despite evidence that net income and stock values were closely related, because the taxes
were "apparently different in a number of obvious respects, including the parties
ostensibly taxed." North Carolina tried to argue that a tax on shareholders could be
equivalent to a tax on a corporation, but the court was not convinced, and expressed doubt
that any such showing could ever be made outside the limited confines of sales and use taxes.
Pennsylvania would have the same difficulties in claiming that the personal property tax and
the capital stock/franchise tax are "substantially equivalent" because, like North
Carolina's taxes, the two taxes fall on different taxpayers. There are other differences
between Pennsylvania's taxes that could cause even greater problems. For example, there is a
manufacturing exemption for the capital stock/franchise tax in Pennsylvania, but no equivalent
exemption for the personal property tax. A corporation that derives all of its income from
manufacturing in Pennsylvania would pay no capital stock/franchise tax in Pennsylvania, and
its shareholders would pay no personal property tax. However, the personal property tax
would apply to the shareholders of a corporation with the same manufacturing operations
entirely outside of Pennsylvania. The capital stock/franchise tax and the personal property tax
are simply too different to be considered "substantially equivalent."
Judge Smyth's Determinations
In the hearing before Judge Smyth, the counties of Pennsylvania that had
been imposing the personal property tax attempted to prove that the tax
was "compensatory," meaning that the tax on the stock of
corporations not doing business in Pennsylvania was
roughly equivalent to the capital stock or franchise tax paid by corporations
doing business in Pennsylvania. In his recently published
Judge Smyth concluded that the Pennsylvania personal property tax was not
"compensatory," because the capital stock and franchise was
not part of a comprehensive scheme of taxing corporations, it does not
roughly approximate the personal property tax, and imposes a tax based
on "events" that are not similar to the personal property tax.
In its 4/7/98 opinion and order, the Pennsylvania Supreme Court concluded that
the personal property tax was discriminatory and unconstitutional unless
it was "compensatory," and Judge Smyth concluded
that the tax was not "compensatory." However, Judge Smyth also
concluded that it was not the tax that was unconstitutional,
but the exclusion from tax of the stock of corporations not
doing business in Pennsylvania. There is a general law that declares
that the provisions of statutes in Pennsylvania are "severable."
See 1 Pa.C.S. § 1925. This means that, if a provision of a statute is
invalid for any reason, only that one provision should be invalid, and not
the entire statute, unless the entire statute cannot (or was not intended to)
exist without the invalid provision. In this case, Judge Smyth found
that the personal property tax existed in Pennsylvania for more than 50
years without the exemption for the stock of corporations that are
subject to the capital stock or franchise tax (i.e., corporations doing
business in Pennsylvania), and so the tax could exist without the exemption.
Judge Smyth also concluded that the Pennsylvania legislature would have
enacted the tax without the exemption if it had known that the exemption
was invalid. (Interim Report, page 25.)
What does Judge Smyth's Decision Mean?
If the personal property tax itself is constitutional and only the exclusion
is constitutional, does that mean that the counties not only don't need to
refund any money, but can now go back and collect additional taxes on the
value of stocks of Pennsylvania corporations and corporations doing business
in Pennsylvania? Not according to Judge Smyth, who said the ruling should
operate "prospectively only," and that the counties can collect
a personal property tax on stock of domestic corporations only after adopting
new tax resolutions or ordinances.
This portion of Judge Smyth's report, dealing with the remedies of
taxpayers and the powers of the counties, is the most troubling. Judge
Smyth concludes that "Since the exclusions are unconstitutional, leaving
a valid tax, counties should be permitted to retain and collect the
personal property tax on stock that is not subject to the capital stock or
franchise taxes." (Interim Report, page 26.)
In other words, counties can keep the money already
collected and can even continue to collect the tax. By why? Why are the
counties allowed to retain monies collected under a tax system that is
admittedly unconstitutional? Even more puzzling is why counties can
continue to collect a tax imposed under an unconstitutional system. The only
explanation provided by Judge Smyth is that counties and taxpayers "have
planned their financial affairs" on the assumption that the tax was
constitutional. (Interim Report, page 26.)
Is that it? The fact that the Constitution has been violated, and continues
to be violated, is all right because the counties had relied on it?
Despite the legal and logical flaws in Judge Smyth's opinion, it is quite likely
that the report will be adopted by the Supreme Court of Pennsylvania, and quite
likely that the Supreme Court of the United States will not hear any appeal on
What Should You Do?
Although it is likely that there will be no refunds of Pennsylvania
personal property tax, taxpayers who want to preserve the possibility
of a refund must find a claim for a refund, because the present action by
Walter H. Annenberg, even if ultimately successful, will not eliminate the
need for each taxpayer to file a separate refund claim, and will not stop
the statute of limitations from running on refund claims.
In order to obtain a refund of personal property tax to which a county or other political
subdivision is not entitled, the taxpayer must file a written claim for refund within three years
after the tax is paid. Act of May 21, 1943, P.L. 349, § 1, as amended, 72 P.S. § 5566b.
Therefore, if you have paid any
personal property tax within the last three years, you can file a refund claim before
the end of the three year period.
Taxpayers who did not pay the personal property tax and are now facing
collection efforts by the counties also face a difficult choice. It is possible
that the Pennsylvania Supreme Court might distinguish between refund claims for
past taxes and collection actions, holding that the counties do not need to pay
refunds but cannot force a taxpayer to pay a tax that is admittedly unconstitutional,
but it is more likely that the Supreme Court will follow the lead of Judge Smyth
and agree that the counties may continue to collect the tax for past years. In
that case, continuing to delay payment may result in nothing more than additional
interest (and possible penalties).
Daniel B. Evans, Attorney at Law
P.O. Box 27370
Philadelphia, PA 19118
Telephone: (215) 233-0988
Telecopier: (215) 233-1887
Copyright 1996-1998 Daniel B. Evans.
All rights reserved. Not legal advice.