On June 21, 2018, the Supreme Court held in Wisconsin Central Ltd. v. United States that railroad stock options are not taxable compensation under the Railroad Retirement Tax Act of 1937 (the “RRTA”). This ruling represents a significant win for railroad companies.
The Court began its analysis with an examination of the history underlying the RRTA, which federalized private railroad pension plans. Under the RRTA’s terms, private railroads and their employees pay a tax on employees’ incomes. In return, the federal government provides the covered employees with a pension. Notably, at the time of the RRTA’s adoption, railroads compensated employees with money, as well as other benefits such as food, lodging, railroad tickets, and so forth. Railroads did not typically consider these other benefits when calculating an employee’s pension on retirement, nor did Congress seek to tax these benefits. Instead, levies were limited to “compensation,” defined to capture only “money remuneration.”
Within this historical context, the Court analyzed whether stock option plans qualify as a form of “compensation” subject to taxation under the RRTA. The government argued that stock options qualify as a form of “compensation” as they can easily be converted into money. The railroad countered that stock options are not “money remuneration,” arguing that when Congress passed the RRTA it sought to mimic existing industry pension practices that generally took no notice of in-kind benefits. The Court found the railroad’s argument more persuasive.
The Court reasoned that when the RRTA was adopted in 1937, “money” was understood as currency issued by a recognized authority as a medium of exchange. Stock options are not “money” under this definition because they are not a medium of exchange. Indeed, few people value goods and services in terms of stock, or buy groceries or pay rent with stock. As Justice Gorsuch (who authored the majority opinion) stated: “Good luck, too, trying to convince the IRS to treat your stock options as a medium of exchange at tax time.”
The Court also examined the broader statutory context in reaching its conclusion. In 1939, the Internal Revenue Code treated “money” and “stock” as different things and a companion statute enacted by the same Congress taxed “all remuneration” including “benefits paid in any medium other than cash.” The Court reasoned that the Congress knew well the difference between “money” and “all” forms of remuneration and its choice to use the narrower term in the context of railroad pensions alone required deference. Further, shortly after the RRTA’s enactment, the IRS issued a regulation explaining that it taxed “all remuneration in money, or in something which may be used in lieu of money (scrip and merchandise orders, for example).” The regulation said the RRTA covered things like salaries, wages, commissions, fees, and bonuses but did not suggest that stock was taxable.
Justice Breyer dissented (along with Justices Ginsburg, Sotomayor, and Kagan), arguing, among other things, that the term “medium of exchange” is ambiguous. Justice Breyer argued by analogy that a railroad employee cannot use her paycheck as a “medium of exchange” by handing it over to a cashier at a grocery store, but must first deposit it. According to the dissenters, the same is true of stock, which must be converted into cash and deposited in the employee’s account before she can enjoy its monetary value.
Based on the Court’s majority opinion and interpretation of the RRTA, railroads may now have opportunities to structure compensation in tax advantaged ways through the use of stock options or stock grants, and other forms of compensation that are not money compensation.