How the Income Tax Created the Modern Fiscal State
One hundred years ago this week, U.S. Secretary of State Philander C. Knox presided over an important step in the creation of the modern federal income tax.
By applying the Great Seal of the United States to the 16th Amendment to the Constitution, Knox certified that the requisite number of states had provided Congress with the “power to lay and collect taxes on incomes from whatever source derived, without apportionment among the several States and without regard to any census or enumeration.”
The drive to enshrine the income tax in the Constitution grew out of a protracted legal and political battle that should help illuminate the budget showdowns now roiling Washington.
Almost two decades before the amendment was ratified, the Supreme Court had struck down the 1894 law that instituted the first peacetime national income tax. In a decision that shocked most legal experts and social reformers, a slim majority of the court in Pollock v. Farmers’ Loan & Trust Co. ruled that taxing income violated the “direct tax clause.”
According to the Constitution, direct taxes needed to be apportioned among the states based on population -- meaning that a state’s population determined how much it owed in direct taxes. Reversing almost a century of legal precedent, the court ruled that because the 1894 tax wasn’t apportioned by population it was unconstitutional.
Many conservatives applauded the decision. For them, an income tax was the first step toward class warfare and “creeping socialism.” In his concurrence in Pollock, Justice Stephen J. Field expressed the anxieties of many elites at the time. “The present assault on capital is but the beginning,” he warned. “It will be but the stepping-stone to others, larger and more sweeping, till our political contests will become a war of the poor against the rich; a war constantly growing in intensity and bitterness.”
Field’s remarks came amid tremendous labor strife. And his allusions to a war between the rich and poor fueled fears that an income tax would hurl American society down the slippery slope of socialist revolution. Yet progressive reformers turned to an income tax not to radically redistribute wealth but to pay for a modern industrial state in a fair and effective manner.
Before the income tax, the two main sources of federal revenue were tariffs and excise taxes, both of which fell disproportionately on the backs of ordinary Americans, and neither of which could meet the growing demand for government revenue. Reformers embraced a progressive income tax because it solved both these problems.
To achieve their goals, progressives knew they had to debunk the claims of creeping socialism. The Columbia University political economist Edwin R.A. Seligman, a tax expert and a leading public intellectual, took on the accusations. “The cry of Socialism has always been the last refuge of those who wish to clog the wheels of social progress or to prevent the abolition of long-continued abuses,” he wrote. “The Factory Laws were in their time dubbed socialistic. Compulsory education and the public post office system were called socialistic. There is scarcely a single tax which has ever been introduced, which has not somewhere or other met with the same objection.” Yet despite the pervasiveness and frequency of these claims, Seligman said, “the argument nowhere carried any weight.”
The specter of socialism hanging over the income tax gradually dissolved. The dramatic social dislocations wrought by modern industrialism convinced many Americans of the need for an activist state -- one that required increasing revenue. The economic inequalities of the time likewise underscored the regressive and ineffective nature of the existing tariff and excise-tax regime. And when the Panic of 1907 triggered a deep recession, reformers began calling once again for an income tax to challenge the court’s ruling in Pollock.
Eager to avert a showdown, the newly elected Republican president, William Howard Taft, attempted to broker a peace by proposing a constitutional amendment. With Southern and Western states leading the way, support for the amendment gained momentum. Within four years, the requisite number of states, including several in the affluent Northeast, had ratified the amendment, much to the surprise and chagrin of conservative lawmakers who had given it little chance of success.
Congress soon began drafting a graduated income tax. Southern and Western lawmakers led the way enacting a “class tax,” with relatively high exemption levels and moderately graduated rates, aimed squarely at the country’s wealthiest citizens.
As Tennessee Representative Cordell Hull, one of the chief architects of the new law, explained, the goal of the 1913 income tax was to ensure that the rich were paying their fair share of increasing government expenses. “I have no disposition to tax wealth unnecessarily or unjustly,” Hull said on the floor of Congress, “but I do believe that the wealth of the country should bear its just share of the burden of taxation and that it should not be permitted to shirk that duty.” Hull intended the income tax to counterbalance the regressive elements of the existing regime. “Something is needed to restore the equilibrium,” he said, “and that something can scarcely take any form except that of an income tax.”
As we commemorate the centennial of the 16th Amendment and look ahead to looming budgetary battles, we ought to keep in mind that the foundations of our modern fiscal state are rooted not in efforts to radically redistribute wealth, but in attempts to balance fiscal duties and civic responsibilities. The progressives who bequeathed this state to us certainly knew the difference.
(Ajay K. Mehrotra is a professor of law and history at the Maurer School of Law at Indiana University, Bloomington. He is the author of “Sharing the Burden: Law, Politics, and the Making of the Modern American Fiscal State, 1880-1930,” to be published by Cambridge University Press. The opinions expressed are his own.)
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