The changes, seriously affecting, as they often do, transactions already entered into in good faith by taxpayers under the assumption that a given policy is definitely adopted,1 give rise to uncertainties, to risks and to losses. Rates may be easily adjusted from time to time-annually, if desirable-without disturbing the statute otherwise. The authorities should be brought to a realization that, to propose a new revenue act is a serious responsibility. The gain in prospect must cover the cost and leave something beside. Yield of the income tax.-During the fiscal year ended June 30, 1924, the income tax 2 produced slightly less than two billions of dollars, about one-half as much as in the peak year, 1920. The exact figures for the past six years are as follows: In the 1924 figures are included the first two installments of the 1923 tax, so that part of the effect of the 25 per cent reduction in tax on 1923 incomes is reflected therein. In spite of this fact the total is higher than the corresponding amount for 1923. Distribution of income.-The following table is made up from statistics published by the Commissioner of Internal Revenue.3 The figures for 1922, the most recent available, show an interesting reversal in several trends. Whereas the number of returns field in every surtax group above the $25,000 line shows a general decrease throughout the period from 1917 to 1921, the 1922 figures show gains instead of declines. The number of returns increased also in 1922 in every group except the $2,000 to $3,000 class. Several explanations of this phenomenon suggest themselves but it is probable that one of the most influential factors was the capital gains provision which became effective in 1922. See, for example, the retroactive effect of the 1924 changes with reference to the basis for determining gain or loss, depreciation and depletion in cases of reorganizations, page 25. Including certain payments under the excess profits tax. The annual documents are entitled Statistics of Income. Number of Personal Returns, Calendar YEARS 1917- Cost of administration.-The cost of collecting the internal revenue taxes was increased from 55 cents per $100 of tax in 1920 to $1.39 in 1923. In 1924 it dropped to $1.22. These higher costs are not to be interpreted as an occasion for alarm. As a matter of fact, they are still relatively low. In earlier years the Treasury did not assume a proper share of the burden of administration. A thoroughly competent administrative force, adequate in size to the task it is called upon to perform, diminishes the burdens involved in complying with the law to an extent which fully justifies its cost. Taxpayers will cheerfully pay the cost of efficient and intelligent administration. Income Taxation in the United States The existing income tax statute can be more intelligently interpreted if one knows something of its history. Indeed, the great number of unsettled questions of law and procedure arising under acts in force in earlier years renders a knowledge of these acts almost indispensable to most persons who use this book. Consequently it is deemed desirable to trace the development of the statute, giving sufficient information to enable the reader, with the aid of the notes on "Former Procedure," to gain a clear conception of the evolution through which it has passed. The present federal income tax is not the only income tax being 'Internal Revenue Collections, 1923. These figures do not include the expenditures for the enforcement of the prohibition and narcotic laws. For a full discussion of the history of the income tax, see Edwin R. A. Seligman, The Income Tax (2nd edition, New York, 1914). For a detailed description of modern income tax systems, see K. K. Kennan, Income Taxation (Milwaukee, 1910). administered within the country at present, for many states utilize this source of revenue concurrently with the federal government. In fact, important as it is to the federal system, the taxation of incomes is of scarcely less interest to the several states, for it is now ac-. cepted as perhaps the most promising means of bringing about state tax reform. State income taxation.-Because of the unhappy history of early attempts, state income taxes were viewed askance until Wisconsin, with a law introduced in 1911, demonstrated the practicability of such taxes.6 The Wisconsin precedent was quickly followed by a number of other states, including Connecticut, which began to tax corporations on this basis in 1915, and Massachusetts, which passed a law of limited application in 1916.8 Another important convert to the plan was made when the state of New York in 1917 imposed a franchise tax of 3 per cent on manufacturing and mercantile corporations and in 1919 a personal income tax. The New York franchise tax law was amended in 1919 to make it more general in its scope and to increase the rate to 42 per cent. The net income of corporations subject to tax is substantially that reported to the Treasury for federal tax purposes. The tax is in lieu of all personal property taxes on those corporations. Its success paved the way for the state income tax of 1919, which imposes progressive rates on the incomes of individuals. The procedure under the New York statutes imposing income taxes on individuals and corporations is treated by the author in a separate volume entitled New York State Income Tax Procedure, 1921. 10 At present fourteen states impose personal income taxes and eight of these and Laws of 1911, Chapter 658. 9 "Acts of Conn., 1915, Ch. 292; Bulletin of the National Tax Association, February, 1916, page 8. Acts of Mass., 1916, Ch. 269; Chas. E. Bullock, The Massachusetts Income Tax (Boston, 1916); E. E. Wakefield, Jr., Massachusetts Tax Procedure (Boston, 1923). Modified in certain particulars. 10 Those interested in the progress of the movement toward the taxation of income by the states will find the following articles valuable: Harley L. Lutz, "The Progress of State Income Tax Since 1911," The American Economic Review, March, 1920; and Alzada Comstock, "Fiscal Aspects of State Income Taxes," in the same journal for June, 1920. A more comprehensive treatment of the subject will be found in Miss Comstock's State Taxation of Personal Incomes (New York, 1921). four more in addition impose corporation income taxes, making eighteen states in all.11 Evolution of the federal income tax law. The present federal income tax is a recent development. Income taxes were imposed by the national government during the Civil War, when they were considered to be indirect in their nature and consequently beyond the constitutional prohibition.12 One was imposed also in 1894; but a year later, when tested, it was declared unconstitutional by the Supreme Court, in the famous case of Pollock v. Farmers' Loan & Trust Company, 13 on the ground that it was a direct tax and as such could only be imposed if apportioned according to population. Such an apportionment would have led to such monstrous economic consequences as to render a general income tax entirely unavailable as a federal financial resource. Hence a constitutional amendment had to be secured. The sixteenth amendment was passed eighteen years later. It provides that: The Congress shall have 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 necessary number of states had ratified by February 25, 1913, but as a matter of convenience, March 1, 1913, is referred to as the date since which Congress has had the power to tax incomes without apportionment. But even before the acquisition of this definite authority, Congress had passed the corporation excise tax of 1909, which was an income tax in fact although not in form. The evolution of the present statute dates from that act. The 1913 law widened the application of the tax to include individuals, and the laws of 1916, 1917, 1918, 1921, and 1924 represented definite developments and refinements, the more significant details of which are briefly described in the paragraphs which follow. In general there is evident a distinct trend toward elimination of arbitrary limitations on deductions, acceptance of established business customs and institutions, and recognition of the accountant's definition of profit and income. "From information supplied by the National Industrial Conference Board. 12 Seligman, The Income Tax, page 430, et seq. 157 U. S. 429, 39 L. Ed. 759, 15 Sup. Ct. 673; 158 U. S. 601, 39 L. Ed. 1108, 15 Sup. Ct. 912 THE CORPORATION SPECIAL EXCISE TAX OF 1909.-The act of August 5, 1909 14 (hereinafter referred to as "the 1909 law") provided that every corporation 15 should "be subject to pay annually a special excise tax with respect to the carrying on or doing business by such corporation . . . equivalent to one per centum upon the entire net income over and above five thousand dollars received by it from all sources during such year. . . ." This law was declared constitutional by the Supreme Court of the United States 16 on the ground that it was an excise and not an income tax within the meaning of the federal Constitution, which, by clause four of article I, section 9, declares that: No capitation, or other direct, tax shall be laid, unless in proportion to the census or enumeration hereinbefore directed to be taken. To all intents and purposes, except that of overcoming the constitutional difficulty, this was, of course, an income tax. The law directed that "net income" should be ascertained by deducting from gross income received certain costs, expenses paid, and losses, but in the administration of the law its requirements as to income received and expenses paid were ignored, and corporations generally paid a tax based on net income as ascertained by business practice, i.e., by deducting expenses accrued (whether paid or not) from income earned (whether received or not). The Treasury forms and regulations were designed for and applied to net income, not net receipts. The statute was brief and general in character, leaving to the administration much latitude in interpretation. However, one important specific restriction was imposed: that upon deductions for interest paid a feature which persisted in altered form in several later laws. The corporation could deduct interest actually paid on indebtedness only "to an amount of such bonded or other indebtedness not exceeding the paid-up capital stock of such corporation ... outstanding at the close of the year." 17 . Although passed late in the year, the law applied to the incomes of corporations as of the beginning of the calendar year 1909. 15 14 36 Stat. at L., C. 6, page 112; Comp. St. 1901, Supp. 1911, page 946. "Every corporation, joint-stock company or association, organized for profit and having a capital stock represented by shares, and every insurance company." 16 Flint v. Stone-Tracy Co., 220 U. S. 107, 55 L. Ed. 389, 31 Sup. Ct. 342. 1909 law, section 38, second. 17 |