I’ve been talking about some thoughts that have arisen in the process of reading what others have said about taxation issues.
August 12, 2018: Recent Thoughts on Taxes: In Praise of “Regressive” Taxes
August 19, 2018: Recent Thoughts on Taxes #2: Is the Payroll Tax the Best Income Tax?
One of the tax principles of the nineteenth century was “uniformity.” Everyone would be taxed the same. In practice, this meant a single rate, on every dollar earned. The first British peacetime income tax, from 1843, was structured on this principle. Everyone paid the flat rate of 3%, on the first and last dollar (or pound).
For Good and Evil: The Impact of Taxes on the Course of Civilizations (1993), by Charles Adams, has an extensive discussion about the principle of “uniformity” in taxation. Unfortunately, this tradition is not very well appreciated today.
The idea of “uniformity” grew out of the Liberal thinkers of the eighteenth century. They found that whoever held power in government would, not surprisingly, find a way not to be taxed. This meant very high taxes on those who remained. In monarchies and aristocracies, the peasant classes tended to be taxed heavily, while the aristocrats or nobility, and often the churches, were tax-free. This was particularly true in France before the Revolution. Actually, the aristocratic classes themselves — they were the ones reading Voltaire and Rousseau — thought this was quite a horrible situation. But, there wasn’t much they could do about it. Low, uniform taxes on everybody might be tolerable to all. But, the aristocrats would do anything to avoid being taxed at the excessive and destructive rates common to the peasantry at the time. Despite the horrible injustice, France was probably better off if at least some of the population had low taxes (the wealthy), rather than if everyone had oppressive taxes. Much the same thing happened in Spain during the sixteenth and seventeenth centuries. Once one group of politically powerful is imposing oppressive taxes on another, it is a short step to start confiscating property outright, either by the government or by government cronies. This makes all investment impossible, since who would invest when the fruits of one’s labor will be stolen?
Something like this is the theme of Why Nations Fail: The Origins of Power, Prosperity, and Poverty (2012), by Daron Acemoglu and James Robinson. In Britain, the Magna Carta of 1215 established the principle that taxation could only be imposed with the consent of the taxed. This formed the beginnings of Britain’s Parliament. Similar charters, constitutions and assemblies became common in Europe after 1300, including the Cortez in Spain or the Golden Bull in Hungary. In 1789, a new constitution was formed for France. In Article 9, it said:
Pecuniary privileges, personal or real, in the payment of taxes are abolished forever. Taxes shall be collected from all the citizens, and from all property, in the same manner and the same form. Plans shall be considered by which the taxes shall be paid proportionately by all, even for the last six months of the current year.
That same year, a Constitution was written for the United States. Article I, Section 8 describes the Federal government’s taxation powers:
The Congress shall have 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; but all Duties, Imposts and Excises shall be uniform throughout the United States;
The Framers didn’t have much to say about taxes, except that they must be uniform. As we can see from the French constitution, this basically meant “proportional,” or, the same rate (percentage). In a monarchy, the nobility would tend to use their political power to avoid taxation. But, in a democratic republic, the majority would tend to overtax the minority. Since wealthy people are always a minority, and since they have the money, there would be a tendency to overtax the wealthy. Here is James Madison, in Federalist No. 10.
The apportionment of taxes on the various descriptions of property is an act which seems to require the most exact impartiality; yet there is, perhaps, no legislative act in which greater opportunity and temptation are given to a predominant party to trample on the rules of justice. Every shilling with which they overburden the inferior number, is a shilling saved to their own pockets.
Madison was talking about a time when the Federal government was explicitly restricted to the “general Welfare,” as opposed to individual welfare. In other words, benefits enjoyed by all (such as military protection, or a functional judicial system), not individual beneficiaries, including all forms of welfare, cartelism and corporate subsidy. Once you begin to add individual beneficiaries of government spending, it becomes not only a matter of avoiding the expense of providing for the common good, but actually taxing others to provide direct benefits to oneself.
Britain’s first peacetime income tax, introduced in 1843, was designed as a single flat-rate tax (of 3%), on the first and last dollar earned. Thus, it was similar to today’s payroll tax, but with no upper limit on income. Like today’s payroll tax, it was structured as essentially an indirect tax, something like a sales tax on employment income. There was no “tax return.” This design reflected the principle of “uniformity” that was widely held at the time. As an example of how people thought about it then, this is from Taxation and the Funding System (1845), by the British writer J. R. McCullough:
The moment you abandon the cardinal principle of exacting from all individuals the same proportion of their income or of their profits you are at a sea without a rudder or compass and there is no amount of injustice and folly you may not commit.
As long as the principle of uniformity held, no segment of society could raise taxes on another without also raising taxes upon themselves, in equal proportion. The result was that, between 1843 and 1910, the tax rate never rose above 6%. In 1910, socialistic influences had reached the point in Britain that “progressive” income taxation, at “graduated” rates, was introduced for the first time. The top rate rose from 5% to 8.3%. In a few years, after the outbreak of World War I, the top rate in Britain rose above 60%, and stayed there until the 1980s; it has never fallen below 40%.
Direct taxation — that is, taxing people rather than things (such as a tariff, excise or sales tax) or acts (such as a transaction) — was effectively prohibited in the United States by several clauses including:
Article I, Section 2, Clause 3:
Representatives and direct taxes shall be apportioned among the several States which may be included within this Union, according to their respective Numbers…
Article I, Section 8, Clause 1:
The Congress shall have 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; but all Duties, Imposts and Excises shall be uniform throughout the United States.
Article I, Section 9, Clause 4:
No Capitation, or other direct, Tax shall be laid, unless in proportion to the Census or Enumeration herein before directed to be taken.
The Constitution was obviously written some decades before the effective invention of the income tax in Britain in the 1840s. Britain had some history of income taxes during wartime before then, but they were rare and intermittent, especially before 1790. A Direct Tax in those days tended to mean a “capitation” tax or poll tax — a fixed payment for each person. Obviously, this can quickly become oppressive, because there are always a large number of people who aren’t really able to pay very much, or really anything at all; and what are you going to do with them, throw them in prison?
In 1894, a Federal income tax was attempted, which was struck down by the Supreme Court. In Pollock vs. Farmers’ Loan and Trust Company (1895), Supreme Court Justice Stephen J. Field found:
If the Court sanctions the power of discriminating taxation and nullifies the uniformity mandate of the Constitution … It will mark the hour when the sure decadence of our government will commence.
The Sixteenth Amendment of 1913 basically allowed an income tax in the U.S. It reads as follows:
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.
This addresses the issues related to “apportionment” and “census,” which refers to capitation taxes, and explicitly allows taxation of income. However, it does not explicitly abrogate the “uniformity clause.”
Thus, we find that immediately after the passage of income tax legislation following the Sixteenth Amendment, with “graduated” rates as had become common by then, there was a Supreme Court challenge that the graduated rates of the income tax violated the “uniformity clause.”
Unfortunately, the Supreme Court threw out the claim without hearing it, which, at the time, was considered one of the Supreme Court’s many miscarriages of law and justice. The Yale Law Review concluded at that time:
In the opinion of a great many lawyers this feature of the income tax violates that principle of equality which requires that all taxable income, so far as the amount is concerned, be treated alike.
Despite this slap-down, the idea of “uniformity” continued up into the 1950s. The Yale Law Journal found that:
The principle of equality in taxation is in itself so just and so reasonable, and so generally has it been acquiesced in, that no argument is needed to sustain the position that the legislature in delibarately violating this principle does nothing else than convert what purports to be a statute law into an exercise in arbitrary power, which in reality is no law at all. When the question is put, does a graduated tax conform to the rule of equality, but one answer can be returned.
We could spend a lot of time considering the principle of “uniformity” today, especially since it seems like nobody has done so since about 1960. This is one reason why I have been getting interested in the idea of a Federal income tax structured much like the original 1843 British income tax, as something like a payroll tax with a uniform rate on the first and last dollar earned (self-employed, sole proprietors, etc. would file separately under a “business tax” with the same rate).
However, I think this comes into conflict with the other principle we discussed, which is basically regressivitiy: or, to put it another way, that all social welfare (health, public pensions, welfare) be grouped into something like a unified program paid for by a unified payroll tax, with an upper limit on income — structured something like a basked of private-market services that are “purchased”, just as is the case for Social Security today, and as is common practice today with most governments. Practically speaking, the “uniformity” principle is probably best when revenue/GDP is tolerably low, below 20% of GDP at the Federal level; we will ignore State and Local governments mostly funded with sales and property taxes for now. When government (and government benefits) become very large, as in European examples with revenue/GDP of 30%+ or even 40%+, then the “regressive” principle becomes more relevant.
