The Income Tax And How It Grew


The rates established in the 1913 act ranged from one per cent of the first twenty thousand dollars in excess of three thousand dollars for singles and four thousand dollars for married couples with a surtax rising to an additional 6 per cent for those with taxable income above $500,000. This percentage, the professor of public finance at Harvard warned, approached a dangerous limit for direct taxation on large incomes. Many people today will be startled to learn that capital gains were taxed as ordinary income through 1921, which included a period of high wartime rates, with no allowance for capital losses until after 1916. The theoretical ground for this conception of income was that any form of realized wealth increased one’s power to satisfy his wants. The Sixteenth Amendment permits this. It confers upon Congress the power “to lay and collect taxes on incomes, from whatever source derived ” (emphasis added). Since 1921 capital gains have been subject to lower rates than ordinary income, and since 1923 capital losses have been offset against ordinary income, with varying limitations. The current theory seems to be that appreciation of principal is an exceptionally virtuous way to get rich.

Gently ascending though these schedules seem to us now, a new era had indubitably opened in the history of American finance. “It is probable,” wrote E. R. A. Seligman, the Columbia University economist, in 1914, “that the income tax has come to stay” and “will play its important part in bringing about greater justice in American taxation.” The liberal historian Charles A. Beard, also of Columbia, who interpreted American history in terms of economic forces and who did not believe the Rockefellers had become billionaires through the operation of some inexorable law of nature, also welcomed the social consequences of an attempt to redistribute the burden of taxation—which recalls an anecdote regarding Nicholas Murray Butler, Columbia’s president, a tough old Hamiltonian strayed into the twentieth century:

“Have you read Beard’s last book?” an associate asked.

“I hope so,” Butler replied.

Now that the Sixteenth Amendment had sanctified what a bare majority of the Supreme Court of 1895 had said the Constitution condemned, those hostile to the tax could no longer call upon the Constitution as a friend in time of need. It was freely predicted that men of talent, energy, and capital would cease to exert themselves, that the national wealth would be dissipated, that even such oddball types as artists and writers would desert their studios to go to work for the government or enter the ministry. These melancholy forecasts were not fulfilled. But evidence to that effect was not available when American taxpayers faced their first Form 1040. The last gasp of constitutional objection to the tax occurred in 1916 after the Supreme Court sustained the Sixteenth Amendment in Brushaber v. Union Pacific Railroad Company , a decision that made the principle of graduation forever immune from attack on constitutional grounds.

“Don’t get excited,” the New York Times said helpfully when the time for filing approached. “Look blank 1040 squarely in the face. … Read carefully the Instructions on Page 4.” The numbered lines provided a guide to line 7 on page 1, “which is the fateful entry of your taxable income.”

Though the first Internal Revenue Code ran to about fifteen pages, as against today’s twelve hundred, the collection of the tax generated a good deal of taxpayer irritation. The law was not explicit on many points. There were no administrative rulings to fall back on, and the implicit levelling social philosophy made the calculating and the paying especially detestable to those who held the belief that the good things of life trickled down to the lower levels when the affluent were secure and happy. Many individuals, it turned out when tax time came to America, had not kept their accounts so as to show net income. Intimidating financial problems often arose, with philosophic overtones. What was gross income? What was net? What constitutes property? Mr. Hull, the architect of the act, an Undersecretary of the Treasury once reminisced, “must have had some idea in his own mind of what he regarded as income.” It became evident, but only gradually and over a long period of time, that income is whatever the Supreme Court at a particular point in history thinks it is. But the question was hard to resolve in those first, disordered days of the 1040. One congressman, not oversympathetic with the law, noted with amusement that some of the income tax’s staunchest friends in Congress gave up in despair on filling out their own returns and had the sergeant at arms do the job for them. That functionary thus became a pioneer among a host of income-tax preparers “other than taxpayer,” as the modern 1040 puts it.