The Supreme Court Says Tax Expenditures Aren’t Government Spending

By :: April 7th, 2011

Ever since Stanley Surrey popularized the concept of tax expenditures nearly half a century back, economists have argued that many tax breaks are equivalent to government spending. Virtually any spending program can be transformed into a tax expenditure that directs money in the same way.

This week the Supreme Court rejected that equivalence, ruling that an Arizona tax credit differed enough from a comparable direct spending program to deny taxpayers the right to sue on the basis that the credit represented an unconstitutional government activity. The Court’s decision suggests that while the majority in this decision may be great lawyers, they are lousy economists.

Some background: In 1968, the Court ruled that citizens may sue to stop the government from spending that violates the Constitution, in the specific case supporting religious activity (Flast v. Cohen). Citizens had standing to sue, the Court concluded, because the challenged spending directly affected taxpayers who fund government programs.

The current case, Arizona Christian School Tuition Organization v. Winn et al., involves not direct government spending on an unconstitutional activity but rather a tax credit that serves the same purpose as a spending program. Arizona allows taxpayers to claim a non-refundable credit of $500 a year ($1,000 for couples) for donations to qualified school tuition organizations (STOs), which then use the funds to support tuition payments to private schools. The original suit claimed that STOs violated the First Amendment’s prohibition of government activities promoting the “establishment of religion” because tuition payments could go to parochial schools.

In a 5-4 decision, the Court ruled that the challenged tax credit was not government spending and therefore the claimants lacked the standing to sue allowed in Flast. Unlike spending, the majority argued, tax expenditures do not necessarily affect the tax bills of others; that is, the government won’t necessarily raise taxes to cover the revenue cost of a tax credit. In fact, the opinion claimed, “the purpose of many governmental … tax benefits is ‘to spur economic activity, which in turn increases government revenues.’” And further, private school tuition assistance might induce some students to switch from public to private schools, thus reducing government costs. Since tax expenditures thus don’t necessarily harm taxpayers, they have no right to sue.

Of course, the same could be said of spending programs. In a concurring opinion, Justices Scalia and Thomas argued that the Court should reverse Flast and deny standing to anyone objecting to either federal spending or tax expenditures.

The minority, led by Justice Kagan in her first dissent, took the economist’s view: “Cash grants and targeted tax breaks are means of accomplishing the same government objective—to provide financial support to select individuals or organizations.” Because they do the same thing, the Court should treat them the same way. She further observed that “because appropriations and tax breaks can achieve identical objectives, the government can easily substitute one for the other.”

Much of the discussion of the Court’s decision has focused on the religious issue: Did the Court approve of government activity promoting religion? But the majority view that spending and tax expenditures are not inherently equivalent speaks directly to a major flaw in how we oversee the federal budget. Congress regularly reviews discretionary spending programs but tax expenditures rarely receive comparable oversight.

Since the 1986 tax reform, politicians have increasingly used the tax code to serve social purposes. Political reality clearly favors tax expenditures (read “tax cuts”) over spending programs and we have consequently littered the code with spending programs masked as tax preferences. As yesterday’s Tax Policy Center discussion of tax expenditures clearly showed, that’s no way to design and run a tax system.


  1. Michael Bindner  ::  5:06 pm on April 7th, 2011:

    This was simply their way of dodging the question of repealing the Blaine amendments on equal protection grounds. The Catholics on the court are naturally skittish about this, since there are 6 of them and the Catholic School system would be the natural beneficiaries of such an action.

  2. Sid F  ::  9:39 pm on April 7th, 2011:

    The plain and simple truth of this decision is that the so-called Conservative bloc of the Court feels it is absolutely appropriate for government to support and fund religious activity and this was simply a way for them to allow that. The question of whether or not this was an “expenditure” since it clearly was is simply not germane to a set of justices who are outcome oriented rather than adhering to law and logic.

    The fact that two justices wanted to deny standing for anyone going forward is just further proof that these two men do not believe that citizens have the right to challenge government action, and that they alone decide things. If they want Bush elected, they overrule the clear intention of the Constitution that states, not the federal government control the state electoral process. If they want corporate money in the election process to support Republicans, they rule that Corportions are people. If they are anti-gay, they rule that free speech allows hate groups to inflict emotional damage in order to advance an anti-gay agenda. If they want capital punishment, they rule that a death row inmate has no right to another day in court even if new evidence exonerates him.

    Thomas Jefferson must be weeping.

  3. GT  ::  1:11 am on April 8th, 2011:

    A major concern of the majority is increasing constitutional challenges from citizens that’s sole standing is as a taxpayer in this country. In this sense the majority is right but it is also wrong. Yes, allowing anyone to sue anytime they believe the federal government has taken action that is unconstitutional would lead to a flood of litigation. However, so what? If the federal government isn’t violating the constitution then those complaints will be dismissed, and, if frivolous, the lawyers will be sanctioned. This would not lead to a shift in the separation of powers between the three branches as no Article III court would be required to entertain any action brought that lacked substance. Thus, they would only be entertaining actions where indeed the federal government could reasonably be argued to have violated the constitution. I fail to see how that harms our democracy.

    As far as this opinion goes: Kagan’s right, at least Scalia stuck to his guns, and Kennedy once again exemplifies how difficult it is to find footing in the mushy middle ground. Kagan is right because there is absolutely no difference between the practical effect of a tax credit and a subsidy in this situation. If it was a tax deduction Kennedy’s arguments may hold water. A deduction in this instance would be no different than a deduction for any other donation to a 501(c)(3) entity. However, because it’s a dollar-for-dollar tax credit, there is no difference. How many times have the federal courts in tax cases over the years cautioned not to “exalt form over substance?”

    The only logical way to get around the synonymous nature of the tax credits and subsidies is to ignore or overrule Flast. This is what Scalia and Thomas were willing to do. If you’re unwilling to go that far you end up in the untenable situation of attempting to distinguish between two things that are indistinguishable in their practical effect.

  4. BW  ::  10:29 am on April 8th, 2011:

    The bigger victory here is that the Supreme Court ruled that money citizens pay in taxes is their own and some is taken for the purpose of supporting government through taxes. If allowing anyone to keep their own money is called spending then the underlying assumption is that all the money belongs to the government by default.

    This is not how a government should be set up. The money we earn is our own and some is taken through taxes. But letting an individual keep a portion of what they earned for themselves IS NOT the same as taking anything away from the government.

    Taking a person’s money through taxes and spending it somewhere is one thing; but allowing an individual to keep more of what is already theirs is entirely different. This court case affirms this and it should always be kept in mind. Then entire idea and assumptions behind a “tax expenditure” are very dangerous and even statist.

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