April 15 and the Story Behind Income Taxes

blankEvery April 15 Americans face a day of tax reckoning. (When April 15 is a Sunday as it was this year, then the filing deadline is April 16, and this year the fact that Washington, D.C. is celebrating Emancipation Day as a holiday today has moved the filing deadline to April 17.)

Once the stress of filing is out of the way, one might well wonder when we began paying a tax on income.
From the beginning, the Constitution has given Congress the power “To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States.” (Article 1, Section 8, Clause 1)

Income Taxes Began with the Civil War
Up until the Civil War, our government’s expenses were covered by consumption-based taxes including property taxes, tariffs and duties on goods purchased abroad. Taxing income first began in the 1860s when President Abraham Lincoln and Congress enacted a temporary tax to pay war expenses. The system was modeled on a relatively new tax method begun in Britain. It was tested and upheld by the Supreme Court in 1864 (Springer v. the U.S.).

During the War, the initial rate was 3 percent on income over $800, an income amount for which few qualified. The law was soon modified, and a two-tier system was created. Incomes between $600 and $10,000 were taxed at 3 percent, while higher incomes were taxed at 5 percent. By the end of the war, 10 percent of all Union households paid some form of income tax, and 21 percent of the Union’s war revenue was gained through this method of taxation.

Law Permitting Income Tax Allowed to Expire

After the Civil War, the United States entered a period of expansion (building the railroads, reconstruction, converting war industry to peacetime blankindustry); public funding was required. However in 1872 lawmakers allowed the temporary Civil War income tax to expire.

There was, however, constant political pressure on Congress to restore the income tax; Congress introduced more than sixty bills between 1871 and 1894 to restore the income tax but to no avail.

In 1892 Democratic candidate Grover Cleveland was elected president on a platform promising to reduce tariffs. Tariffs were seen as protective of capitalists so they would not have price competition from foreign imports and harmful to the common person who had to pay higher prices for goods.
Democrats saw that if tariffs came down then government expenses needed to be covered another way so they added to what is known as the Wilson-Gorman Tariff Act of 1894 a 2 percent flat tax on all incomes over $4,000. Fewer than 5 percent of Americans would have been affected, but Republicans and many northern Democrats were furious about both the lower tariffs and the income tax. After the law passed in the House, the Senate gutted the tariff provisions making the rates only slightly lower than they had been previously. As a result, a much weaker tariff law passed but the provision for an income tax remained.

Then things got complicated. Everyone understood that a basic tax on salary was provided for in the Constitution, but the complication concerned income derived from property investment such as collection of rent money or investment income. This type of income was generally classified as a direct tax, and the Constitution specified that direct and indirect taxes were to be handled differently. (Direct taxes must be proportional, across the states.)

In the tariff bill of 1894 the law tried to include income on property as an indirect tax (and therefore not subject to being proportional). It was on this basis that the Supreme Court tossed the law, ruling that it was unconstitutional to consider income from property as an indirect tax. It was a hot button issue, and after a second opportunity to vote on the case because one justice had been out ill for the first vote, the Supreme Court struck down the entire law, choosing to set aside the precedent established in 1864 which deemed to be legal the income tax of the 1860s.

Passage of the 16th Amendment
Finally in 1913 the 16th Amendment was ratified by 42 of the 48 states, giving Congress the “power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states.”

That year, Congress levied a 1 percent tax on incomes of more than $3,000 (about $70,000 today), and a 6 percent tax on incomes of more than $500,000. It also introduced Form 1040, the same basic form that we file today.

As of that date, the first year, no taxes were collected. Citizens were simply required to complete the form and the IRS checked for accuracy. Later as taxes began being collected, there was a growing need for more workers—professional collectors who understood what they were doing rather than “patronage” appointments. It was still tough to manage the work flow however. In 1919, the Bureau was processing returns from 1917.

While the system has been computerized and is much more up-to-date, Americans know there is still a lot of room for improvement. However that’s how the income tax process all began.

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2 thoughts on “April 15 and the Story Behind Income Taxes”

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