In Fairbanks v. United States (1938), the U.S Supreme Court ruled that a federal income tax on salaries of employees of an instrumentality corporation wholly owned by a state was constitutional. The case involved Alaska Railroad, which was owned and operated by the U.S government but incorporated under Alaskan laws. An employee, Mr. Fairbanks, argued that his salary should not be subject to federal income tax because he worked for a state entity; thus it would violate intergovernmental tax immunity principles if taxed federally. The court disagreed with this argument stating that while states cannot be taxed directly by the Federal Government without consent or cession of jurisdiction, individuals who derive their income from such instrumentalities are not immune from non-discriminatory taxation imposed by Congress under its constitutional power to levy taxes on incomes "from whatever source derived". Therefore, even though Alaska Railroad is an instrumentality of the State in some respects due to its incorporation under Alaskan law and operation within Alaska's borders, it does not render its employees' wages exempt from federal taxation.

In the dissenting opinion for Fairbanks v. United States, it was argued that the majority's decision to uphold a tax on Mr. Fairbanks' estate contradicted previous court rulings and misinterpreted relevant statutes. The dissenting justices believed that the money received by Mr. Fairbanks from his life insurance policy should not be considered part of his gross estate because he had no control over or access to these funds during his lifetime; therefore, they could not be subject to an inheritance tax upon his death. They also pointed out inconsistencies in how similar cases were handled in lower courts and suggested that this lack of uniformity indicated confusion about how such laws should be applied - confusion which their interpretation would resolve.