Memphis Bank & Trust Co. v. Garner
Headline: Tennessee bank tax struck down for taxing interest on federal bonds while exempting state bonds, blocking Tennessee from including federal interest when calculating banks’ net earnings for local taxes.
Holding: The Court held that Tennessee’s bank tax unlawfully discriminates by including interest from federal obligations while exempting state and local interest, so Tennessee may not tax banks on income from federal bonds.
- Stops Tennessee from taxing banks on interest from U.S. government bonds.
- Protects holders of federal obligations from unequal state tax treatment.
- Could affect federal borrowing costs if many states used similar taxes.
Summary
Background
A Memphis bank sued to recover taxes it paid for 1977 and 1978 under Tennessee’s bank excise tax. The State required banks to pay 3% of their net earnings to local governments. Tennessee’s definition of net earnings included interest from United States obligations and federal instrumentalities, but excluded interest on obligations of Tennessee and its local governments. The parties agreed that the disputed tax amounts were based entirely on interest from federal notes, Treasury bills, and Farm Credit Banks, and that without that interest the bank owed nothing for those years.
Reasoning
The Court asked whether federal bonds and similar obligations are protected from state or local taxation under 31 U.S.C. §742 and by the Constitution. The statute broadly exempts United States obligations and their interest from state taxation except for nondiscriminatory franchise or other nonproperty taxes. The Court concluded Tennessee’s law was discriminatory because it included federal interest in the tax base while excluding comparable state and local interest. Because that difference favored Tennessee obligations over federal ones, the tax could not stand.
Real world impact
The ruling means Tennessee may not count interest on federal obligations when taxing banks’ net earnings, so banks like the plaintiff cannot be taxed on income from U.S. bonds in this way. The decision applies the statutory and constitutional protection for federal obligations and sends the case back to state court for further action consistent with this ruling. The United States warned that similar taxes in all states could raise federal borrowing costs, showing a possible wider financial effect.
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