CHAPTER I THE EVOLUTION OF THE STATE INCOME TAX IN the second decade of the twentieth century personal incomes became an important source of public revenue With the extraordinary demands upon government treasuries during the period of the European War and the enlarged financial needs in time of peace it became necessary to reach sources which were almost untouched before the present era of great expenditures. In modern industrial countries, in which the majority of incomes are in the form of money and instruments of credit, such resources may be found and utilized easily and quickly. The productivity and elasticity of taxes on individual incomes made possible the extension of existing systems of income taxation as well as successful experiments with new income taxes. In the United States the state governments as well as the federal took advantage of the elasticity of income taxes in revising their tax systems to meet the changing needs of this period. The result, from a critical and historical point of view, is an aggregation of examples of possible income tax methods rather than the development of an American income tax policy, for no two state income taxes are alike, even in their essentials. Moreover, many of the precedents of method and of administrative devices have been drawn from European countries instead of the American experience of nearly three centuries of colonial and state taxation. In spite of the tendency of the states to abandon the older legislation and to ignore its lessons, both constructive and negative, the influences of the traditional tax systems persist, playing an almost unrecognized part in shaping the revenue systems of today. The obvious and contemporary explanations of the present period of income tax development are satisfying only when they are illuminated by the long history of the successes and failures of the attempts of the states to tax income and property. 1. Early faculty taxes 1 The earliest examples of taxes which may be said to be the forerunners of the state income taxes of today are the "ability" or "faculty faculty" taxes used in the American colonies. The first reference to taxpaying ability appears in an act passed in the Massachusetts Bay Colony in 1634, providing for the assessment of each resident “according to his estate and with consideration of all other his abilityes whatsoever," but this provision appears to have been interpreted as applying to property only. Seven years later, in New Plymouth, “faculties and personal abilities” were distinguished from visible property for the purposes of taxation, a distinction which was apparently maintained in the actual assessment of the taxes. In 1646 a definition of faculty appeared for the first time, in the order of the Massachusetts Bay Company that artisans and tradesmen should be assessed for their "returns and gains" in the same proportion as property-holders were assessed for "the produce of their estates." From this time forward the principle of taxation according to faculty made steady headway in the New 1 The principal sources of information used in summarizing the history of income taxes up to 1900 are Edwin R. A. Seligman, The Income Tax (Revised ed., New York, 1914), and Delos O. Kinsman, The Income Tax in the Commonwealths of the United States (New York, England colonies. Connecticut followed in 1650, Rhode Island in 1673, New Hampshire in 1719, and Vermont in 1788. In Rhode Island alone the tax dropped out of existence before the outbreak of the Revolution. In Massachusetts, on the other hand, the faculty taxes were utilized during the Revolution for the purpose of reaching war profits as well as ordinary income. Outside of New England the growth of faculty taxes was slower. In New York the tax failed to appear at all. The first indication of an attempt in the middle or southern colonies to apportion taxes according to faculty came in New Jersey in 1684, nearly half a century after the beginning in New England. In the course of the eighteenth century five other colonies, Pennsylvania, Delaware, Maryland, Virginia, and South Carolina, undertook taxation according to income or profits. Few of these taxes survived the economic changes of the early national era. The only tax which continued with an unbroken record down to the modern period was that of Massachusetts, which gave way to a new income tax in 1916. Although the early statutes contain many references to "income," the colonial faculty taxes are not to be confused with the income taxes of the present day. The colonial taxes were rarely based on income actually received, but represented assessments of certain fixed amounts which were determined in most instances by the nature of the taxpayer's employment. For this reason the faculty taxes soon came to bear little relation to the earnings of the person assessed, and to become unequal and unjust in their burden. As taxes on property developed the faculty taxes appeared increasingly arbitrary, and they tended to give place to income taxes or to drop out of existence. 2. State income taxes in the nineteenth century The financial troubles of 1837 and the following years brought about a fresh development in the taxation of incomes. It was not long before the effects of the great crisis made themseves felt in the revenues of the states, which soon set about the business of increasing their tax receipts. As a result the country entered upon a second phase of the state taxation of incomes, in which the taxes were levied upon income actually received instead of upon the assumed income or profits of certain classes of taxpayers. New England, which was less seriously affected by the financial disturbances of the time, had no share in the new income tax movement, but six middle and southern states, Pennsylvania, Maryland, Virginia, North Carolina. Florida, and Alabama, tried to raise funds through income taxes at this time. If the Civil War had not brought new financial emergencies, particularly in the affairs of the southern states, the income taxes adopted during the forties would probably have been abandoned. Only six, the faculty taxes of Massachusetts and South Carolina, and the newer income taxes of Pennsylvania, Virginia, North Carolina, and Alabama, were in existence when the war broke out. In the years of the war and the following period of reconstruction the states turned again to the income tax as a means of relief and a source of additional revenue in a time of great financial need. The tax was developed almost wholly in the southern states, where the demand for funds was most pressing. The Massachusetts and Pennsylvania laws were undisturbed. Four of the southern states, Virginia, North Carolina, South Carolina, and Alabama, made use of the income tax systems already in existence for the production of additional revenue. Several other states were induced to make the experiment. Georgia, Missouri, Texas, Louisiana, West Virginia, and Kentucky tried income taxes in various forms, but all of the taxes soon disappeared with the exception of that of Louisiana, which was continued with negligible success until the end of the century. Meanwhile the northern states, which, in spite of their heavy burden, were in far less serious straits, neglected the tax. State income taxes seemed to bear the marks of a last resort for an over-burdened government. The lowest ebb in the history of state income taxes was reached in the period 1884 to 1897. The only income taxes in force during this time were those of Massachusetts, Virginia, North Carolina, and Louisiana. In Massachusetts and Louisiana the assessment of personal incomes had almost disappeared, and in Virginia and North Carolina the yield was extremely small. In fact, the whole history of state income taxes from the close of the Civil War to the introduction of a new plan of taxation by Wisconsin in 1911 is almost entirely a record of failure. With almost no exceptions the administration of the laws was poor, the yield small, and the taxes generally unpopular. The reenactment of an income tax law by South Carolina in 1897 meant simply a repetition of the old story. In 1908 a sixth state, Oklahoma, inaugurated a tax along the old lines from which the yield proved to be less than $5,000 a year. Meanwhile the Louisiana tax had disappeared. An almost unanswerable argument against an unwieldy and unpopular revenue measure is produced when it can be shown that it yields to the state treasury only a few thousands of dollars annually, hardly more than the cost of its collection if administrative machinery of any importance is required. Such an amount becomes almost microscopic when it is placed on the ten- and hundred-million dollar scale to which state business has grown during the last few years. Students of taxation became extremely sceptical |