Justice Souter, delivered the opinion of the Court.
In this case we decide whether North Carolina's "intangibles tax" on a fraction of the value of corporate stock owned by North Carolina residents inversely proportional to the corporation's exposure to the State's income tax violates the Commerce Clause. We hold that it does.
During the period in question here, North Carolina levied an "intangibles tax" on the fair market value of corporate stock owned by North Carolina residents or having a "business, commercial, or taxable situs" in the State. N. C. Gen. Stat. § 105-203 (1992).
Thus, a corporation doing all of its business within the State would pay corporate income tax on 100% of its income, and the taxable percentage deduction allowed to resident owners of that corporation's stock under the intangibles tax would likewise be 100%. Stock in a corporation doing no business in North Carolina, on the other hand, would be taxable on 100% of its value. For the intermediate cases, holders of stock were able to look up the taxable percentage for a large number of corporations as determined and published annually by the North Carolina Secretary of Revenue (Secretary). In 1990, for example, the Secretary determined the appropriate taxable percentage of IBM stock to be 95%, meaning that IBM did 5% of its business in North Carolina, with its stock held by North Carolina residents being taxable on 95% of its value. N. C. Dept. of Revenue, Stock and Bond Values as of December 31, 1990, p. 39.
Petitioner Fulton Corporation is a North Carolina company owning stock in other corporations that do business out of state. In the 1990 tax year, at issue in this case, Fulton owned shares in six corporations, five of which did no business or earned no income in North Carolina and therefore were not subject to the State's corporate income tax. Fulton's stock in these corporations was accordingly subject to the intangibles tax on 100% of its value. Fulton also owned stock in Food Lion, Inc., which did 46% of its business in North Carolina, with the result that its stock was subject to the intangibles tax on 54% of its value. App. 11.
On appeal, North Carolina's Court of Appeals reversed, holding that the taxable percentage deduction violated the Commerce Clause. Fulton Corp. v. Justus, 110 N.C. App. 493, 430 S.E.2d 494 (1993). The Court of Appeals saw a facial discrimination against shareholders in out-of-state corporations in forcing them to pay tax on a higher percentage of share value than shareholders of corporations operating solely in North Carolina. Id., at 499, 430 S. E. 2d, at 498. The court rejected the Secretary's contention that the intangibles tax amounted to a valid "compensating tax" designed to place a burden on interstate commerce equal to what intrastate commerce already carried under the corporate income tax. Id., at 499-501, 430 S. E. 2d, at 498-499. Finally, the Court of Appeals distinguished this Court's decision in Darnell v. Indiana, 226 U.S. 390 (1912), which held that Indiana could tax the stock of foreign corporations to the extent that those corporations were not subject to the State's tax on in-state property. Because the tax regime in Darnell was constructed to avoid the double taxation of corporate property values, a result not accomplished by North Carolina's intangibles tax, the Court of Appeals did not view Darnell as being on point. 110 N. C. App., at 501-504, 430 S. E. 2d, at 499-501. The court refused Fulton any retrospective relief, however, and held the proper remedy to be elimination
Both parties appealed to the Supreme Court of North Carolina, which reversed. Fulton Corp. v. Justus, 338 N.C. 472, 450 S.E.2d 728 (1994). Without addressing whether the intangibles tax was facially discriminatory, the court read Darnell to compel a conclusion that the scheme here imposed a valid compensating tax, 338 N. C., at 477-480, 450 S. E. 2d, at 731-734, and it rejected Fulton's contention that Darnell had been overruled implicitly by this Court's more recent decisions on interstate taxation. 338 N. C., at 480— 482, 450 S. E. 2d, at 734-735. The court reasoned, moreover, that corporate income is generally related to the value of corporate stock, and that in practice, the burden on interstate commerce imposed by the intangibles tax was less than that placed on intrastate commerce by the corporate income tax. Id., at 479-480, 450 S. E. 2d, at 733-734.
We granted certiorari, 514 U.S. 1062 (1995), and now reverse.
The constitutional provision of power "[t]o regulate Commerce . . . among the several States," U. S. Const., Art. I, § 8, cl. 3, has long been seen as a limitation on state regulatory powers, as well as an affirmative grant of congressional authority. See, e. g., Oklahoma Tax Comm'n v. Jefferson Lines, Inc., 514 U.S. 175, 179-180 (1995); Gibbons v. Ogden, 9 Wheat. 1 (1824) (Marshall, C. J.) (dictum). In its negative aspect, the Commerce Clause "prohibits economic protectionism—that is, `regulatory measures designed to benefit instate economic interests by burdening out-of-state competitors.' " Associated Industries of Mo. v. Lohman, 511 U.S. 641, 647 (1994) (quoting New Energy Co. of Ind. v. Limbach, 486 U.S. 269, 273-274 (1988)). This reading effectuates the Framers' purpose to "preven[t] a State from retreating into economic isolation or jeopardizing the welfare of the Nation
In evaluating state regulatory measures under the dormant Commerce Clause, we have held that "the first step . . . is to determine whether it `regulates evenhandedly with only "incidental" effects on interstate commerce, or discriminates against interstate commerce.' " Oregon Waste Systems, Inc. v. Department of Environmental Quality of Ore., 511 U.S. 93, 99 (1994) (quoting Hughes v. Oklahoma, 441 U.S. 322, 336 (1979)). With respect to state taxation, one element of the protocol summarized in Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977), treats a law as discriminatory if it "`tax[es] a transaction or incident more heavily when it crosses state lines than when it occurs entirely within the State.' " Chemical Waste Management, Inc. v. Hunt, 504 U.S. 334, 342 (1992) (quoting Armco Inc. v. Hardesty, 467 U.S. 638, 642 (1984)); see also Boston Stock Exchange v. State Tax Comm'n, 429 U.S. 318, 332, n. 12 (1977) (noting that a State "may not discriminate between transactions on the basis of some interstate element"). State laws discriminating against interstate commerce on their face are "virtually per se invalid." Oregon Waste, supra, at 99; see also Philadelphia v. New Jersey, 437 U.S. 617, 624 (1978).
We have also recognized, however, that a facially discriminatory tax may still survive Commerce Clause scrutiny if it is a truly "`compensatory tax' designed simply to make interstate commerce bear a burden already borne by intrastate commerce." Associated Industries, supra, at 647.
Since Silas Mason, our cases have distilled three conditions necessary for a valid compensatory tax. First, "a State must, as a threshold matter, `identif[y] . . . the [intrastate tax] burden for which the State is attempting to compensate.' " Oregon Waste, supra, at 103 (quoting Maryland v. Louisiana, 451 U.S. 725, 758 (1981)). Second, "the tax on interstate commerce must be shown roughly to approximate—but not exceed—the amount of the tax on intrastate
There is no doubt that the intangibles tax facially discriminates against interstate commerce. A regime that taxes stock only to the degree that its issuing corporation participates in interstate commerce favors domestic corporations over their foreign competitors in raising capital among North Carolina residents and tends, at least, to discourage domestic corporations from plying their trades in interstate commerce. The Secretary practically concedes as much, and relies instead on the compensatory tax defense.
As we have said, a State that invokes the compensatory tax defense must identify the intrastate tax for which it seeks to compensate, see supra, at 332, and it should go without saying that this intrastate tax must serve some purpose for which the State may otherwise impose a burden on interstate commerce. In Maryland v. Louisiana, 451 U.S. 725 (1981), for example, we rejected Louisiana's argument that, because it imposed a severance tax on natural resources extracted from its own soil, it could impose a compensating "first use" tax on resources produced out of state but used within Louisiana. Because "Louisiana has no sovereign interest in being compensated for the severance of resources from the federally owned [Outer Continental Shelf] land," we held that "[t]he two events are not comparable in the same fashion as a use tax complements a sales tax." Id., at 759.
In this case, the Secretary suggests that the intangibles tax, with its taxable percentage deduction, compensates for the burden of the general corporate income tax paid by corporations doing business in North Carolina. But because North Carolina has no general sovereign interest in taxing income earned out of state, Maryland v. Louisiana teaches that the Secretary must identify some in-state activity or benefit in order to justify the compensatory levy. Indeed, we have repeatedly held that "no state tax may be sustained unless the tax . . . has a substantial nexus with the State . . . [and] is fairly related to the services provided by the State." Id., at 754; see also Jefferson Lines, 514 U. S., at 183-184; Complete Auto Transit, Inc. v. Brady, 430 U. S., at 279. The Secretary does not disagree, but rather insists that North Carolina may impose a compensatory tax upon foreign corporations
The Secretary's theory is that one of the services provided by the State, and supported through its general corporate income tax, is the maintenance of a capital market for corporations wishing to sell stock to North Carolina residents. Since those corporations escape North Carolina's income tax to the extent those corporations do business in other States, the Secretary says, the State may require those companies to pay for the privilege of access to the State's capital markets by a tax on the value of the shares sold. So, the Secretary concludes, the intangibles tax "rests squarely on `the settled principle that interstate commerce may be made to pay its way.' " Brief for Respondent 18 (quoting Oregon Waste, 511 U. S., at 102).
The argument is unconvincing, and we rejected a counterpart of it in Oregon Waste, where we held that Oregon could not charge an increased fee for disposal of waste generated out of state on the theory that in-state waste generators supported the cost of waste disposal facilities through general income taxes. Although we relied primarily upon the conclusion that earning income and disposing of waste are not "substantially equivalent taxable events," id., at 105, we also spoke of the danger of treating general revenue measures as relevant intrastate burdens for purposes of the compensatory tax doctrine. "[P]ermitting discriminatory taxes on interstate commerce to compensate for charges purportedly included in general forms of intrastate taxation would allow a state to tax interstate commerce more heavily than in-state commerce anytime the entities involved in interstate commerce happened to use facilities supported by general state tax funds." Id., at 105, n. 8 (internal quotation marks and citation omitted). We declined then, as we do now, "to open such an expansive loophole in our carefully confined compensatory tax jurisprudence." Ibid.
If the corporate income tax does not support the maintenance of North Carolina's capital market, then the State has not justified imposition of a compensating levy on the ownership of shares in corporations not subject to the income tax. While we need not hold that a State may never justify a compensatory tax by an intrastate burden included in a general form of taxation, the linkage in this case between the intrastate burden and the benefit shared by out-of-staters is far too tenuous to overcome the risk posed by recognizing a general levy as a complementary twin.
The second prong of our analysis requires that "the tax on interstate commerce . . . be shown roughly to approximate— but not exceed—the amount of the tax on intrastate commerce." Oregon Waste, supra, at 103. The Secretary argues
The math is fine, but even leaving aside the issue of who is really paying the taxes, the example compares apples to oranges. When a corporation doing business in a State pays its general corporate income tax, it pays for a wide range of things: construction and maintenance of a transportation network, institutions that educate the work force, local police and fire protection, and so on. The Secretary's justification for the intangibles tax, however, rests on only one of the many services funded by the corporate income tax, the maintenance of a capital market for the shares of both foreign and domestic corporations. To the extent that corporations do their business outside North Carolina, after all, they get little else from the State. Even, then, if we suppressed our suspicion that North Carolina actually funds its capital market through its blue sky fees, not its general corporate taxation, the relevant comparison for our analysis has to be between the size of the intangibles tax and that of the corporate
That comparison, of course, is for the present practical purpose impossible. The corporate income tax is a general form of taxation, not assessed according to the taxpayer's use of particular services, and before its revenues are earmarked for particular purposes they have been commingled with funds from other sources. As a result, the Secretary cannot tell us what proportion of the corporate income tax goes to support the capital market, or whether that proportion represents a burden greater than the one imposed on interstate commerce by the intangibles tax. True, it is not inconceivable, however unlikely, that a capital markets component of the corporate income tax exceeds the intangibles tax in magnitude, but the Secretary cannot carry her burden of demonstrating this on the record in front of us.
This difficulty simply confirms our general unwillingness to "permi[t] discriminatory taxes on interstate commerce to compensate for charges purportedly included in general forms of intrastate taxation." Oregon Waste, 511 U. S., at 105, n. 8. Where general forms of taxation are involved, we ordinarily cannot even begin to make the sorts of quantitative assessments that the compensatory tax doctrine requires. See infra, at 341-343.
The tax, finally, fails even the third prong of compensatory tax analysis, which requires the compensating taxes to fall on substantially equivalent events. Although we found such equivalence in the sales/use tax combination at issue in Silas Mason, our more recent cases have shown extreme reluctance to recognize new compensatory categories. In Oregon Waste, we even pointed out that "use taxes on products purchased out of state are the only taxes we have upheld in recent memory under the compensatory tax doctrine." 511 U. S., at 105. On the other hand, we have rejected equivalence arguments for pairing taxes upon the earning of income
In the face of this trend, the Secretary argues that North Carolina has assured substantial equivalence by employing the same apportionment formula to tie the percentage of share value subject to the intangibles tax directly to the percentage of income earned within the State. See N. C. Gen. Stat. § 105-130.4(i) (1992). The Secretary further contends that the intangibles tax and the corporate income tax fall on substantially equivalent "events" because they fall on economically equivalent "values": the value of a corporation's stock and the value of a corporation's income, respectively. Even assuming the truth of both these assertions, however, we find that the intangibles tax is not functionally equivalent to the corporate income tax.
By equivalence of value, the Secretary means that the value reached by the intangibles tax reflects that targeted by the income tax to a substantial degree because of the influence of corporate earnings on the price of stock. While that may be true enough,
But there is a problem with this line of argument, and it lies in the frequently extreme complexity of economic incidence analysis. The actual incidence of a tax may depend on elasticities of supply and demand, the ability of producers and consumers to substitute one product for another, the structure of the relevant market, the time frame over which the tax is imposed and evaluated, and so on. See, e. g., Commonwealth Edison Co. v. Montana, 453 U.S. 609, 619, n. 8 (1981) (determining "whether the tax burden is shifted out of State, rather than borne by in-state producers and consumers, would require complex factual inquiries about such issues as elasticity of demand for the product and alternative sources of supply").
In this case, not only has the State failed to proffer any analysis addressing the complexity of its burden, but we have particular reason to doubt the Secretary's suggestion that domestic corporate income taxes are so reflected in the stock values of corporations doing business in state as to offset the effects of the intangibles tax. Because corporations operating in North Carolina do not exhaust the market for investment opportunities, investors are free to look elsewhere if North Carolina's corporate income tax has the effect of depressing the value of shares in corporations doing business in the State. Hence, the impact of the income tax will be reflected in the purchase price of these shares, investors will presumably earn a market return on a lower outlay, and the actual burden of the tax will be borne by other parties, such as the consumers of the corporations' products. See McClure, supra, at 82; see also McClure, The Elusive Incidence of the Corporate Income Tax: The State Case, 9 Pub. Finance Q. 395, 401 (1981). But because North Carolina investors make up a relatively small proportion of the participants in national capital markets, it is unlikely that the stock price of corporations doing business outside the State will reflect the impact of the intangibles tax. The economic incidence of this tax is thus likely to fall squarely on the shareholder. All other things being equal, then, a North Carolina investor will probably favor investment in corporations doing business within the State, and the intangibles tax will have worked an impermissible result. See Halliburton, 373 U. S., at 72 (States may not impose discriminatory taxes on interstate commerce in the hopes of encouraging firms to do business within the State); Dean Milk Co. v. Madison, 340 U.S. 349, 356 (1951) (observing that the creation of "preferential trade areas" is "destructive of the very purpose of the Commerce Clause").
Our finding that North Carolina has failed to show that its intangibles tax satisfies any of the three requirements for a valid compensatory tax leaves the tax unconstitutional as facially discriminatory under our modern tests. The Secretary argues, however, that our decision in Darnell v. Indiana, 226 U.S. 390 (1912), compels us to sustain the North Carolina statute. The statutory scheme at issue in Darnell taxed all shares in foreign corporations owned by Indiana residents as well as all shares in domestic corporations to the extent that the issuing corporations' property was not subject to Indiana's general property tax. Writing for the Court, Justice Holmes found that "[t]he only difference of
Justice Holmes has been praised for the lucidity of his reasoning, as having been "wrong clearly" even where he erred, see Hart, Positivism and the Separation of Law and Morals, 71 Harv. L. Rev. 593 (1958), but the opinion in Darnell does not exemplify his customary merit. He gives no explanation for the conclusion quoted, commenting only that the discrimination issue "was decided in Kidd v. Alabama, 188 U.S. 730, 732 [(1903)]." 226 U. S., at 398. Kidd, however, was decided under the Equal Protection Clause of the Fourteenth Amendment and emphasized "the large latitude allowed to the States for classification upon any reasonable basis." 188 U. S., at 733 (citations omitted). The exclusive reliance upon Kidd in Darnell thus indicates that the latter case should be viewed primarily as one of equal protection, despite the fact that Indiana's shareholder tax was challenged under both the Equal Protection and Commerce Clauses.
To the extent that Darnell evaluated a discriminatory state tax under the Equal Protection Clause, time simply has passed it by. While we continue to measure the equal protection of economic legislation by a "rational basis" test, see, e. g., FCC v. Beach Communications, Inc., 508 U.S. 307, 313 (1993), we now understand the dormant Commerce Clause to require "justifications for discriminatory restrictions on commerce [to]pass the `strictest scrutiny.' " Oregon Waste, 511 U. S., at 101 (quoting Hughes v. Oklahoma, supra, at 337); see also Chemical Waste Management, Inc.
North Carolina's intangibles tax facially discriminates against interstate commerce, it fails justification as a valid compensatory tax, and, accordingly, it cannot stand. At the same time, of course, it is true that "a State found to have imposed an impermissibly discriminatory tax retains flexibility in responding to this determination." McKesson Corp. v. Division of Alcoholic Beverages and Tobacco, Fla. Dept. of Business Regulation, 496 U.S. 18, 39-40 (1990). In McKesson, for example, we said that a State might refund the additional taxes imposed upon the victims of its discrimination or, to the extent consistent with other constitutional provisions (notably due process), retroactively impose equal burdens on the tax's former beneficiaries. A State may also combine these two approaches. Ibid. These options are available because the Constitution requires only that "the resultant tax actually assessed during the contested tax
In this case, that choice may well be dictated by the severability clause enacted as part of the intangibles tax statute. N. C. Gen. Stat. § 105-215 (1992). That issue, however, as well as the question whether Fulton has properly complied with the procedural requirements of North Carolina's tax refund statute, § 105-267, ought to come before the state courts in the first instance. Cf. Swanson v. State, 335 N.C. 674, 680-681, 441 S.E.2d 537, 541 (noting that "[f]ailure to comply with the requirements in section 105-267 bars a taxpayer's action against the State for a refund of taxes"), cert. denied, 513 U.S. 1056 (1994).
The judgment of the North Carolina Supreme Court is reversed, and the case is remanded for proceedings not inconsistent with this opinion.
It is so ordered.
Darnell v. Indiana, 226 U.S. 390 (1912), required that taxation of interstate transactions be "consistent with substantial equality notwithstanding the technical differences." Id., at 398. Whether or not North Carolina's intangibles tax would satisfy Darnell `s "substantial equality" requirement, I agree that the tax is not consistent with this Court's more recent requirement that there be "substantial equivalence" between an in-state taxable event and the interstate event on which a State levies a compensatory tax. Ante, at 345— 346. I have expressed in dissent my belief that the "substantial equivalence" test deviates from the principle articulated in earlier cases that "`equality for the purposes of competition and the flow of commerce' " should be "`measured in dollars and cents, not legal abstractions,' " Armco Inc. v. Hardesty, 467 U.S. 638, 647 (1984) (quoting Halliburton Oil Well Cementing Co. v. Reily, 373 U.S. 64, 70 (1963)), and it might be argued accordingly that Darnell is more "realistic," 467 U. S., at 648. However, my view has not prevailed, and Darnell simply cannot be reconciled with the compensatory-tax decisions cited in the Court's opinion, ante, at 345-346. I therefore join the opinion of the Court.