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decided: March 11, 1935.



Hughes, Van Devanter, McReynolds, Brandeis, Sutherland, Butler, Stone, Roberts, Cardozo

Author: Roberts

[ 294 U.S. Page 552]

 MR. JUSTICE ROBERTS delivered the opinion of the Court.

These are four suits heard by a specially constituted District Court in Kentucky, to enjoin state officers from enforcing an act of that Commonwealth imposing a gross sales tax. The plaintiffs are, respectively, a domestic corporation conducting a department store in Louisville, a partnership operating a similar store in the same city, a Delaware corporation having 21 department stores in Kentucky, and an Ohio corporation maintaining 289 grocery stores within the Commonwealth. Nineteen individuals, partnerships and corporations, proprietors of one or more stores selling various lines of merchandise, intervened as plaintiffs. Interlocutory injunctions issued, but the district court of three judges dismissed the bills for want of equity, being of opinion there was an adequate remedy at law. Upon appeal this court reversed the decrees and remanded the causes.*fn1 At final hearing the district court found the remedy at law inadequate, but sustained the act and dismissed the bills.*fn2 The present appeals are upon the merits.

[ 294 U.S. Page 553]

     The statute became a law March 17, 1930. The title and certain sections are copied in the margin; other sections are there summarized.*fn3 The tax imposed upon the first

[ 294 U.S. Page 554]

     $400,000 of annual gross sales is 1/20th of one per cent. The rate increases on each additional $100,000 of sales between $400,000 and $1,000,000, inclusive, being 17/20ths of one per cent. in the last bracket. On sales over $1,000,000 the rate is one per cent. The increased rates are applicable, however, only in respect of sales in each successive bracket, and therefore the tax burden attributable to $1,100,000 of sales is not one per cent., but a composite ascertained by adding the total tax for the sales falling within the various brackets, and dividing by the dollar-value of all sales. Thus the act requires the merchant to pay in the total .05 per cent. on $400,000 of sales, .305 per cent. on $1,000,000 of sales and .96 per cent. on $15,000,000 of sales.

The appellants charge that the statute violates several sections of the Constitution of Kentucky and several provisions of the Federal Constitution. We shall not stop to enumerate these, since we must sustain the claim that the classification made by ยง 2 denies the appellants the equal protection of the laws assured by the Fourteenth Amendment.

[ 294 U.S. Page 555]

     The trial court's relevant findings are: The act is essentially a revenue measure. The tax is on gross sales, not on gross collections from vendees. Sales made by merchants taxed under any of the brackets of the act are made in competition with like sales of the same character of merchandise by those who are taxed under other brackets. As a general proposition increased volume of sales results in increased profits and increased ability to pay the tax. The rate of profit from retail sales generally varies with the character of the goods sold. The management of a store or stores is one of the fundamental factors in determining whether or not a profit is realized and the amount of profit. As a general proposition those merchants doing the largest amount of trade are enabled to secure the highest type of management.

In the light of these findings, does the act tax sales in an unequal and arbitrary way, classifying them for the imposition of different rates without reference to any real or substantial distinction, as appellants insist; or does it impose an excise upon the conduct of retail business, reasonably adjusted in amount with regard to substantial differences in the nature of the privilege exercised, as appellees contend?

In resolving the issue we are not concluded by the name or description of the tax as found in the act; our duty is to ascertain its nature and effect.*fn4 "The substance and not the shadow determines the validity of the exercise of the power."*fn5 The act does not impose an income or profits tax, or a license tax, is not an inspection measure, or a police regulation. The tax is not confined to a particular

[ 294 U.S. Page 556]

     method of merchandising. All retailers, individual and corporate, selling every description of commodities, in whatever form their enterprises are conducted, make up the taxable class. And the excise is laid in respect of the same activity of each of them -- the making of a sale. Although no difference is suggested, so far as concerns the transaction which is the occasion of the tax, between the taxpayer's first sale of the year and his thousandth, different rates may apply to them. The statute operates to take as the tax a percentage of each dollar due or paid upon every sale, but increases the percentage if the sale which is the occasion of the tax succeeds the consummation of other sales of a specified aggregate amount. As found by the court below, the act of making a sale, which with all others made in the taxable year represents a total sales price of $400,000 or less, results in the imposition of a tax of 1/20th of one per cent. upon the price, whereas the making of the same sale by one who has theretofore sold $400,000 but less than $500,000 worth of goods entails a tax of 2/20ths of one per cent., or by one whose prior sales aggregate $900,000, a tax of 17/20ths of one per cent.

In connection with other provisions of the fundamental law, this court has had occasion to analyze similar acts. In Brown v. Maryland, 12 Wheat. 419, a tax on the occupation of an importer was held a tax on imports obnoxious to the commerce clause. Said the court (p. 444): "It is impossible to conceal from ourselves, that this is varying the form, without varying the substance . . . All must perceive, that a tax on the sale of an article, imported only for sale, is a tax on the article itself." In Cook v. Pennsylvania, 97 U.S. 566, a tax on the amount of an auctioneer's sales was declared a tax on the goods sold. In Crew Levick Co. v. Pennsylvania, 245 U.S. 292, a state tax on the business of selling goods in foreign commerce, measured by gross receipts from goods so sold and shipped, was pronounced an impost upon exports. The court said

[ 294 U.S. Page 557]

     (p. 297): ". . . nor is it an occupation tax except as it is imposed upon the very carrying on of the business of exporting merchandise. It operates to lay a direct burden upon every transaction in commerce by withholding, for the use of the State, a part of every dollar received in such transactions." Panhandle Oil Co. v. Knox, 277 U.S. 218, decides a privilege tax imposed on sellers of gasoline, fixed at so many cents per gallon sold, is a tax on sales. At page 222 the court said: "Sale and purchase constitute a transaction by which the tax is measured and on which the burden rests. . . . To use the number of gallons sold . . . as a measure of the privilege tax is in substance and legal effect to tax the sale." And in Indian Motocycle Co. v. United States, 283 U.S. 570, a federal tax upon motorcycles "sold . . . by the manufacturer" was held to be an excise on the sale, and the doctrine of the Panhandle case was reaffirmed.

Thus understood, the operation of the statute is unjustifiably unequal, whimsical and arbitrary, as much so as would be a tax on tangible personal property, say cattle, stepped up in rate on each additional animal owned by the taxpayer, or a tax on land similarly graduated according to the number of parcels owned.

The appellees seek to avoid the arbitrary character of the classification of sales for the purpose of imposing the levy by the claim that the act, properly construed, lays an excise upon the privilege of merchandising at retail and the exaction is made only for this privilege. They insist the amount of tax is merely measured by the volume of sales,*fn6 and in this view the classification is not arbitrary if any reasonable relation can be found between the amount demanded and the privilege enjoyed. They endeavor

[ 294 U.S. Page 558]

     to deduce such a relation from the alleged fact that a merchant's net income and his consequent ability to pay increase as the volume of his sales grows. The argument does not advance the case for the validity of the statute. Even in this aspect the classification is arbitrary, for the claimed relation of gross sales -- the measure of the tax -- to net profits fails to justify the discrimination between taxpayers.

The district court found that "generally speaking" he who sells more is in receipt of a greater profit and hence has larger ability to pay, and upon this basis justified the classification. But it is to be remembered that the act in question taxes gross sales and not net income. As stated in United States Glue Co. v. Town of Oak Creek, 247 U.S. 321, 328:

"The difference in effect between a tax measured by gross receipts and one measured by net income, recognized by our decisions, is manifest and substantial, and it affords a convenient and workable basis of distinction between a direct and immediate burden upon the business affected and a charge that is only indirect and incidental. A tax upon gross receipts affects each transaction in proportion to its magnitude and irrespective of whether it is profitable or otherwise. Conceivably it may be sufficient to make the difference between profit and loss, or to so diminish the profit as to impede or discourage the conduct of the commerce. A tax upon the net profits has not the same deterrent effect, since it does not arise at all unless a gain is shown over and above expenses and losses, and the tax cannot be heavy unless the profits are large."

Argument is not needed, and indeed practical admission was made at the bar, that the gross sales of a merchant do not bear a constant relation to his net profits; that net profits vary from year to year in the same enterprise; that diverse kinds of merchandise yield differing ratios of profit;

[ 294 U.S. Page 559]

     and that gross and net profits vary with the character of the business as well as its volume. The trial court made no finding that the relation between gross sales and net profits, or increase of net worth, was constant, or even that there was a rough uniformity of progression within wide limits of tolerance. Expert witnesses, using data assembled from various reporting agencies, endeavored to establish that net profits or net worth grow with increased sales. But their testimony not only indicated great variations within each class selected for comparison, but also showed that in some of the classes representing the greater amount of sales the net profit or addition to net worth is smaller than in a class having less aggregate sales. The best that can be said for this evidence is that, averaging the results of the concerns making the reports, it is true "generally speaking," as the court below put it, that profits increase with sales. The ratio of increase, however, differs in different lines of activity and even as between concerns carrying on the same business, and so many exceptions and reservations must be made that averages are misleading. The proofs submitted are insufficient to support the appellees' contention that the graduation of the tax was adjusted with reasonable approximation to the net earnings of the taxpayers, and that such minor and incidental inequalities as may be found are those always incident in the application of any valid general rule of classification. We think the graduated rates imposed were not intended to bear any relation to net profits. The argument based upon the asserted analogy to a tax upon net income graduated in accordance with the size of the income is unconvincing, for the exaction here demanded is not of that kind.

We are told that the gross sales tax in question is in truth a rough and ready method of taxing gains under the guise of taxing sales; that it is less complicated and more ...

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