On May 19, 2008, the U.S. Supreme Court released its long-awaited decision in Davis v. Kentucky Department of Revenue of the Finance and Administration Cabinet, upholding the

constitutionality of state laws that tax interest on out-of-state municipal bonds while exempting municipal bonds of in-state issuers. The 7-2 decision, which reversed an intermediate Kentucky appellate court’s holding that such laws discriminate against interstate commerce in violation of the U.S. Constitution’s “dormant” Commerce Clause, preserves the existing structure of the municipal bond market and, in particular, the state tax preferences that induce state residents to favor their own state’s municipal bonds and that have promoted the growth of single-state municipal bond funds.

The Decision’s Scope and Effect

The Davis decision ends the current litigation regarding Kentucky’s tax statute, and effectively ends copycat lawsuits brought in various other states to the extent that they challenge state tax preferences for in-state "governmental" municipal bonds such as general obligation bonds and revenue bonds. As foreshadowed by Justice Ginsburg’s comments at the oral argument, the U.S. Supreme Court limited its holding to such governmental municipal bonds, indicating in a footnote that the decision does not address what the Court characterized as “so-called ‘private activity,’ ‘industrial-revenue’ or ‘conduit’ bonds.”

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