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Justin Owen discusses the problematic “crack tax” imposed by the Tennessee Department of Revenue. This article originally appeared in the Federalist Society’s State Court Docket Watch. Tennessee’s Unauthorized Substances Tax is currently facing its first major constitutional challenge. Since 2005, the Tennessee Department of Revenue (“Department”) has attempted to collect an excise tax on all “unauthorized substances,” defined by state law as controlled substances, low-street-value drugs, and certain illicit alcoholic beverages.1 The Tennessee Supreme Court recently heard Waters v. Chumley to determine the constitutionality of this drug tax, as it is commonly known, and should issue its opinion in the coming weeks.2 The Department has two modes of enforcement. The owner of unauthorized substances may purchase a tax stamp and then affix the stamp to the substances’ container.3 Although the taxpayer may buy the tax stamp anonymously, such purchases do not shelter drug offenders from criminal prosecution.4 As of August 2008, just over one thousand stamps had been purchased from the Department, the vast majority of which appear to be by stamp collectors rather than drug dealers (though the true ratio is unascertainable).5 The second enforcement method is used far more often. Once a taxpayer is found to be in possession of any unstamped substance that falls under the law, the Department immediately assesses the individual’s tax liability, tacks on a myriad of fines for failure to satisfy the tax obligation, and then seizes the person’s property if the tax liability is not satisfied within forty-eight hours of arrest.6 In late April 2005, Steven Waters was arrested for the unlawful possession of cocaine after purportedly purchasing one thousand grams from a police informant for $12,000. Shortly thereafter, the Department of Revenue assessed Waters’ tax liability at $55,316.84, more than 4.5 times the cocaine’s street value, for possessing the cocaine without a tax stamp. This figure included the tax itself, nearly $5,000 in penalties, and interest. Just over a week later, the Department filed a notice of tax lien against Waters’ real property and later seized the money from his bank account. Waters filed for a declaratory judgment on the drug tax statute and also sought injunctive relief.7 The chancery court entered judgment in favor of Waters, holding that the tax violated his constitutional rights of due process, as well as his protections against self-incrimination and double jeopardy.8 The court of appeals affirmed, but on different grounds. The appellate court ruled that the drug tax “seeks to tax as a privilege, activity that prior legislation has designated as criminal,” making it “arbitrary, capricious, and unreasonable and, therefore, invalid under the Tennessee Constitution.”9 Under the Tennessee Constitution, the state legislature is granted the power “to tax merchants, peddlers, and privileges, in such a manner as they may from time to time direct.”10 Case law interpreting this clause has made no distinction between a privilege tax and an excise tax. Hence, the drug tax, categorized as an “excise tax” by statute, is nothing more than a privilege tax. More specifically, the appellate court stated, the tax is “an excise upon a particular privilege, assessed according to the quantity of substance possessed in enjoyment of such privilege.”11 Existing Tennessee Supreme Court precedent states that “the Legislature can name any privilege a taxable privilege and tax it by means other than an income tax, but the Legislature cannot name something to be a taxable privilege unless it is first a privilege.”12 The only other limitation imposed by the Tennessee Constitution is that the privilege tax not be arbitrary, capricious, or wholly unreasonable.13 As the intermediate court noted, taxing a substance that one has no privilege to possess falls outside the parameters of the privilege tax clause. In accordance with supreme court precedent, the tax was deemed unconstitutional. It is worth analyzing the tax against the appellate court’s “arbitrary, capricious, and unreasonable” standard. The petitioner could argue that, as written, the law disproportionately affects minorities and the indigent. For example, the tax for one gram of powder cocaine is $50, while the tax on the same amount of a “low-street-value drug,” such as crack cocaine or methamphetamine, is $200.14 Although this imbalance is not the direct issue on appeal, it could impact the supreme court’s determination as to whether the tax is indeed arbitrary and capricious as applied. Further, monetary incentives for law enforcement agencies are built into the statutory scheme. Under state law, the agency that investigates and arrests the errant taxpayer receives seventy-five percent of the tax proceeds collected on the unauthorized substances.15 This could create a mighty incentive for law enforcement agencies to inflate the quantity of drugs seized. Thus, taxpayers found to be in possession of unlawful substances may be criminally charged with a greater quantity than they actually possessed and may also face an exaggerated tax bill. Possession of illegal drugs is a crime, but this law sets up a parallel civil proceeding that uses the same evidence, yet lacks the safeguards built into a criminal prosecution, such as probable cause requirements to search and seize evidence. Here, officers who have weak evidence may be tempted to invoke search and seizure anyway. Even if the criminal charges are later dropped due to a lack of probable cause, the police department will still receive its share of the tax proceeds. There is a question of whether Tennessee’s Unauthorized Substance Tax violates the Tennessee Constitution. The court of appeals addressed this issue and sent a strong message to the state legislature and Department of Revenue. It remains to be seen whether the Tennessee Supreme Court agrees. Justin Owen is the director of legal policy at the Tennessee Center for Policy Research. Endnotes 1 Tenn. Code Ann. § 67-4-2802(10) (2008). 2 Waters v. Chumley, E2006-02225-SCR11-CV, 2008 Tenn. Lexis 23 (Tenn. 2008). 3 Tennessee Department of Revenue, Unauthorized Substances Tax, at http://www.tennessee.gov/revenue/faqs/unauthsubfaq.htm#unauth5 (last visited Aug. 4, 2008). 4 In reality, the transaction is pseudo-anonymous because the stamps must be purchased in person at the Department of Revenue’s Nashville headquarters. 5 Of the stamps purchased, nearly ninety percent were marijuana stamps that cost either $.40 or $3.50. The remaining (more expensive) stamps comprise just more than ten percent of those purchased. 6 Tenn. Code Ann. § 67-4-2807 (2008). 7 Waters v. Chumley, No. E2006-02225-COA-R3-CV, 2007 Tenn. App. Lexis 570 (Tenn. App. 2007). 8 Id. at 4. 9 Id. at 2. 10 Tenn. Const. art. II, § 28 (emphasis added). 11 Waters, 2007 Tenn. App. at 6. 12 Jack Cole Co. v. MacFarland, 337 S.W.2d 453, 455 (Tenn. 1960) (emphasis added). 13 Hooten v. Carson, 209 S.W.2d 273, 274 (Tenn. 1948). 14 Tenn. Code Ann. § 67-4-2803(a)(4) and (5) (2008). 15 Tenn. Code Ann. § 67-4-2809(b)(2) (2008).