Income Tax Hits 100
February 1, 2013
“The difference between death and taxes is death doesn't get worse every time Congress meets.” – Will Rogers
On February 3, 2013, the 16th Amendment – authorizing the federal income tax – will celebrate its 100th birthday. Talk of tax reform has increased in recent years, and there is hope that this centennial could finally be the year our tax code is made simpler, flatter, and easier.
Brief History of the U.S. Tax System
The Articles of Confederation
The Articles of Confederation made no provision for enforcing the national government’s ability to collect revenue. The states were supposed to provide revenue to the Confederation Congress based on each state’s land value, but there was no way to force states to comply with this requirement. This was one of the limitations of the Articles that led to the Constitutional Convention.
Before the Civil War
The Constitution corrected this limitation by giving Congress the power to tax, including “duties, imposts, and excises.” Most of the taxing powers available to the federal government were consumption taxes, and they were viewed as a check on the power of the federal government. If tax rates were set too high, consumption would decline and the federal government would actually lose revenue. For this reason, Alexander Hamilton said in Federalist 21 that consumption taxes are “a complete barrier against any material oppression of the citizens.”
The Civil War Income Tax
Congress passed the nation’s first income tax to fund the Civil War effort. The tax rate was set at three percent of annual incomes between $600 and $10,000. Incomes above $10,000 were subject to a five percent tax rate. The first income tax also came with the first tax expenditures: interest on government bonds was taxed at a lower rate, and a deduction was included for rent expenses. The act also included a stamp tax and a licensure tax that required people to pay a federal license fee in order to practice 33 listed professions including: doctors, lawyers, photographers, auctioneers, hotels, theaters, tobacconists, circuses, jugglers, confectioners, horse-dealers, soapmakers, petroleum distillers, and peddlers.
Income Tax Declared Unconstitutional
After the Civil War, the federal government overwhelmingly relied on other sources of revenue – the IRS reports that between 1868 and 1913, 90 percent of all revenue was raised from excise taxes on liquor, beer, wine and tobacco. Although the Supreme Court first held that an income tax was constitutional (Springer v. United States, 1881), they later reversed position and ruled that a new income tax passed in 1894 was unconstitutional (Pollock v. Farmers’ Loan and Trust Company, 1895).
The 16th Amendment
In 1909, President William Howard Taft supported a constitutional amendment giving Congress the power to impose an income tax. Congress passed the amendment that same year, and the necessary states ratified it on February 3, 1913. After ratification, Congress passed the Revenue Act of 1913 that established a one percent tax rate on income above $3,000 and six percent surtax on income over $500,000. Less than one percent of Americans paid the first income tax.
The Tax Code Has Gotten More Complex, Costs Billions
The current tax code is incredibly complex. The number of pages in the tax code has increased greatly. The first tax code ran to 400 pages. Today it is over 73,000 pages long. The tendency for complexity to creep into the income tax code showed right away when the 1913 income tax was passed – in just the first decade under the 1913 income tax, 27 tax expenditures were created. The 1986 tax reform eliminated many tax expenditures, but in the years since that reform, over 150 new tax expenditures were created. Our complicated system has been abused. Higher taxes are not the answer; we just need a better tax system.
“Simplicity Dividend” Would Greatly Benefit U.S. Economy
Much like the “peace dividend” that followed the end of the Cold War, the U.S. could experience a “simplicity dividend” by reforming today’s absurd tax code. Americans devote 6.1 billion hours to preparing their taxes and complying with tax laws every year. It’s been estimated that complying with the current tax code costs Americans between $168 billion and $431 billion a year. This complexity is a boon for special interests, accountants, and tax lawyers, but that money could be put to far more productive uses.
If the cost of compliance could be cut substantially through revenue-neutral tax reform, hard working taxpayers would have tens -- perhaps hundreds -- of billions of extra dollars to spend on productive pursuits each year. This would be a path to a healthy economy that the United States should not pass up.
