The late Justice Antonin Scalia once remarked that federal judges should have a rubber stamp that’s says “Stupid But Constitutional.” The Constitution, in other words, does not allow judges to strike down a law merely because it is burdensome, foolish, or offensive. Yet the inverse is also true – the wisdom of a policy is no guarantee of its constitutionality. Indeed, even in the pursuit of sensible and praiseworthy ends, Congress sometimes enacts smart laws that violate the Constitution. This case, which concerns the Corporate Transparency Act, illustrates that principal.[1]
On March 1, 2024, the United States District Court of the Northern District of Alabama held the recently enacted Corporate Transparency Act (“CTA”) was unconstitutional “because it cannot be justified as an exercise of Congress’ enumerated powers.” Judicial challenge of the CTA was expected, and in just two months since its enactment, the challengers to the CTA have found success. While the District Court’s holding only bars enforcement of the CTA against the named plaintiffs, this case may very likely end up at the Supreme Court and lays the foundation of coming challenges to the CTA.
The CTA
As written about previously by my colleagues[2] and me[3], the CTA was enacted in 2020 to combat money laundering, terrorist financing, corruption, tax fraud, and other illicit activity. Going into effect on January 1, 2024, the CTA now requires most entities formed after such date to report beneficial ownership information to the Financial Crimes Enforcement Network (“FinCen”) within ninety days after the entity’s creation and requires entities created before January 1, 2024, to file beneficial ownership information by January 1, 2025. Failure to file within such dates results in stiff penalties, as discussed more thoroughly in the aforementioned articles.
The Case
National Small Business Association (“NSBA”), a non-profit corporation that represents and protects the rights of small business owners, and one of its members, Isaac Winkles, a small business owner, brought suit against the United States Treasury Department, Treasury Secretary Janet Yellen, and Acting Director of FINCEN Himamauli Das, alleging the CTA’s disclosure requirements exceeded Congress’ authority under Article I of the Constitution and violated the First, Fouth, Ninth, and Tenth Amendments. The District Court, concluding the CTA is unconstitutional because it was not a justifiable exercise of Congress’ powers under Article I of the Constitution, did not decide on the issue as to if the CTA violates the aforementioned Amendments.
The Government’s Argument
The government’s argument set forth three sources of Congress’ constitutional authority in enacting the CTA, as follows:
- Congress had authority to enact the CTA under its foreign affairs powers due to Congress’ motivating interest in curbing foreign money laundering and other malicious foreign influences.
- Congress had authority to enact the CTA under the Commerce Clause, because state entities engage in activities that affect commerce, and the act of corporate formation is in itself to invoke Congress’ power under the Commerce Clause.
- Congress had authority to enact the CTA because it is a necessary and proper exercise of Congress’ taxing power, since one purpose of the reporting requirements established under the CTA is to assist in efficient tax administration.
The Holding
The District Court found all three of the government’s arguments unpersuasive. Regarding the government’s first argument, according to the District Court, the operative question was whether Congress’ foreign affairs powers justify the CTA’s regulation of business entities “which are ordinarily within the sovereign purview of the States.” The District Court found that it did not, rejecting the government’s argument that the regulation of state formed entities was necessary and proper to effectuate Congress’ foreign affairs powers if enough foreign actors participated in those internal affairs to illicit ends. The District Court found that the CTA’s congressional findings, introduced by the government in support of their argument, were “not enough to conclude that a regulation in the purely domestic arena of incorporation as an exercise of authority “derivative of, and in service to” Congress’ foreign affairs powers.
With regards to the government’s second argument, that enactment of the CTA was proper under the Commerce Clause, the Supreme Court has identified three categories of activity that Congress may regulate under its commerce power,[4] (1) the channels of interstate and foreign commerce, (2) the instrumentalities of, and things and persons in, interstate and foreign commerce, and (3) activities that have a substantial effect on interstate and foreign commerce. The District Court quickly dispensed with authority under the first two categories, finding that “channels” include “highways, railroads, navigable waters, and airspace, as well as telecommunications networks,[5]” and “instrumentalities” include “the people and things themselves moving in commerce,[6]” and the plain text of the CTA did not regulate channels and instrumentalities of commerce, and therefore could not be justified as a valid regulation of such.
The District Court then turned to the government’s argument on the third activity that Congress may regulate under the Commerce Clause “the ability of certain legal entities to withhold beneficial ownership and applicant information, taken in the aggregate, [that] substantially affects interstate commerce.” The District Court found the turning question was whether “Congress have the authority under the Commerce Clause to regulate non-commercial, intrastate activity when certain entities, which have availed themselves of States’ incorporation laws, use channels of commerce, and their anonymous operations substantially affect interstate and foreign commerce?” Again, the District Court found against the government, finding the lack of any reference to the regulation of interstate and foreign commerce in the CTA itself to be particularly damning.
Lastly, the government argued that the enactment of the CTA is a valid exercise of Congress’ taxing power and the Necessary and Proper Clause. The government conceded that the civil penalties under the CTA are not a tax, and instead argued that “the collection of beneficial ownership information is necessary and proper to ensure taxable income is appropriately reported,” or as the District Court rephrased, “the CTA’s regulations are constitutional because they are sufficiently “incidental” to the taxing power.” Again, the Court rejecting the government’s argument, found that FINCEN providing the IRS access to the CTA’s database for tax administration purposes is not a sufficiently close relationship to the taxing power, and “[i]t would be a substantial expansion of federal authority to permit Congress to bring its taxing power to bear just by collecting “useful” data and allowing [the IRS] to access that data.”
Conclusion
I encourage everyone to read the District Court’s 53-page opinion. This article only grazes the surface of the landmark ruling, which expressed serious concern as to the potential vastness of Congress’ powers should the government’s arguments be applied. I want to particularly note again that the District Court’s ruling only applies to the named plaintiffs. While the ruling should provide optimism to the opponents of the reporting requirements of the CTA, this ruling was the start, not the end, of challenges to the CTA. In fact, the Department of Justice already appealed the District Court’s Judgment to the Eleventh Circuit on March 11, 2024.[7] Until the Supreme Court rules on this case or another, everyone should continue to comply with reporting requirements of the CTA, as FINCEN has stated they will continue to enforce such.
[1] National Small Business United v. Yellen, Case No. 5:22-cv-1448-LCB (N.D. AL 2024). Judge Liles C. Burke in his opening paragraph of the ruling, which can be found here in its entirety. https://www.moneylaunderingnews.com/wp-content/uploads/sites/12/2024/03/CTA-Opinion.pdf
[2] https://esapllc.com/corporate-transparency-act-ndaa2021/; https://esapllc.com/cta-proposed-regs-dec-2021/
[3] See my previous article on the CTA here: https://esapllc.com/cta-do-not-be-caught-unaware-2023/
[4] United States v. Morrison, 529 U.S. 598, 609 (2000).
[5] United States v. Ballinger, 395 F.3d 1218, 1225 (11th Cir. 2005).
[6] Id. At 1226.
[7] https://www.fincen.gov/sites/default/files/shared/54_Notice_of_Appeal.pdf
