U.S. Supreme Court Reverses And Remands 'Davis' Case

Originally published May 21, 2008

The U.S. Supreme Court announced on Monday, May 19, that it

had reversed and remanded Department of Revenue of Kentucky

et al. v. Davis et ux, 197 S.W.3d 557 (Ky. Ct. App. 2006)

("Davis"), holding that Kentucky's differential

tax scheme with respect to municipal bond interest does not

offend the Commerce Clause. Department of Revenue of

Kentucky et al. v. Davis et ux, 553 U.S. ___ (2008).

Background on the Case

Kentucky exempts from state income tax interest earned with

respect to bonds issued by Kentucky or its political

subdivisions, but does not exempt interest earned on bonds

issued by other states and their subdivisions. In 2003, George

and Catherine Davis filed a class action complaint in Kentucky

Circuit Court alleging that Kentucky's taxing scheme

violates the dormant Commerce Clause and the Due Process Clause

of the U.S. Constitution. The trial court granted the Kentucky

Department of Revenue's motion for summary judgment on the

constitutionality of the taxing scheme. The Kentucky Court of

Appeals disagreed, holding that Kentucky's bond taxation

system did violate the dormant Commerce Clause because it

discriminated against interstate commerce. The U.S. Supreme

Court granted certiorari and heard oral argument in

Davis in 2007 to decide the constitutionality of the

differential bond taxing scheme which exists in Kentucky and a

majority of states. In a case generating various concurrences

as well as two dissents, the Supreme Court concluded that the

scheme withstood constitutional challenge.

Majority Relies on United Haulers

The majority opinion, authored by Justice David H. Souter,

opens by acknowledging that states are prohibited by the

dormant Commerce Clause from engaging in "economic

protectionism," by imposing burdens on commerce that are

designed to benefit in-state economic interests while burdening

out-of-state competitors. Further, Commerce Clause analysis

asks whether a challenged law discriminates against interstate

commerce. In the latter case, discriminatory laws may only

survive if they advance a legitimate local purpose that cannot

be adequately served by reasonable nondiscriminatory

alternatives, or if a judicial exception to the prohibition

against discrimination, such as the market participant

doctrine, applies.

The majority cites with approval, Hughes v. Alexandria

Scrap Corp., 426 U.S. 794 (1976) (holding state law

authorizing state payments to processors of automobile hulks

validly burdened out-of-state processors with more onerous

documentation requirements than their in-state counterparts)

and Reeves Inc. v. Stake, 447 U.S. 429 (1980) (holding

South Dakota's policy of giving in-state customers first

priority access to cement...