Question

Research and write the history of the United States Federal Income Tax Law.

Answer 1

A Brief History of Taxes in the U.S.

You know the saying—nothing is certain except death and taxes. While that may be true, taxes tend to be more complicated and very inconsistent. And they didn't always exist as they do today. In fact, America's first citizens enjoyed very few taxes. But as time went on, more levies were added—federal income tax, the alternative minimum tax, corporate tax, estate tax, the Federal Insurance Contributions Act (FICA), and so on. Some were increased, while others were repealed—only to be added again. Let's explore the origins of some of the more common taxes we face today.

KEY TAKEAWAYS

• The Constitution gave Congress the power to impose taxes and other levies on the general public.
• While the Civil War led to the creation of the first income tax in the U.S., the federal income tax as we know it was officially enacted in 1913.
• Many of the taxes we pay today were created in the 1920s and 1930s including the estate tax, gift tax, and Social Security taxes.
• Income tax rates applied to everyone based on income regardless of status—single, married, and heads of households.

America Before Income Taxes

Taxes have been around for as long as we can remember—especially income taxes. But that wasn't always the case in the United States. The country was income tax-free in its infancy. That's because there was no federal government established at the time. Instead, colonists had to deal with the British government, which imposed a variety of taxes on the colonists including a head tax, real estate taxes, and the infamous tea tax that led to the Boston Tea Party.

After the Revolutionary War, the Constitution gave Congress the power to impose taxes and other levies on the general public. States were responsible to collect and pass them on to the government. Most of these were excise taxes—taxes imposed on specific goods or services like alcohol and tobacco. The government also tried direct taxation—taxing things an individual owned. That didn't last, and the feds went back to collecting excise taxes.

Income Taxes

The Civil War led to the creation of the country's first income tax and the first version of the Office of the Commissioner of Internal Revenue—the earlier version of what we now call the Internal Revenue Service (IRS). This office took over the responsibility of collecting taxes from individual states. Excise taxes were also added to almost every commodity possible—alcohol, tobacco, gunpowder, tea.

The federal income tax as we know it was officially enacted in 1913, while corporate income taxes were enacted slightly earlier in 1909.

Other Taxes

The first estate tax was enacted in 1797 in order to fund the U.S. Navy. It was repealed but reinstituted over the years, often in response to the need to finance wars. The modern estate tax as we know it was implemented in 1916.

Multiple taxes were created in the 1920s and 1930s:

• The gift tax came about in 1924.2
• Sales taxes were first enacted in West Virginia in 1921. Eleven other states followed suit in 1933. By 1940, 18 more states had a sales tax in place.3 Alaska, Delaware, Montana, New Hampshire, and Oregon are the only states without a sales tax.4
• President Franklin Roosevelt signed the Social Security Act in 1935. The government first collected Social Security taxes in January 1937, although no benefits were paid until January 1940.5

The alternative minimum tax (AMT), a type of federal income tax, wasn't enacted until 1978.6 This parallel system uses a separate set of rules to calculate taxable income after allowed deductions. It was designed to prevent taxpayers from avoiding their fair share of taxes.

Tax Rates, Then and Now

Tax rates tend to change—often for the worse. It's a fact Americans must always consider whenever they are faced with the threat of a new tax. For example, when the federal income tax was implemented to help finance World War I in 1913, the marginal tax rate was 1% on income of $0 to $20,000, 2% on income of $20,000 to $50,000, 3% on income of $50,000 to $75,000, 4% on income of $75,000 to $100,000, 5% on income of $100,000 to $250,000, 6% on income of $250,000 to $500,000, and 7% on income of $500,000 and up.8

Tax rates were the same for everyone and there was no filing status. This meant everyone paid the same rate whether they were single, married, or heads of households. But all that changed over time. Tax rates increased considerably, with the highest marginal tax rate reaching 37%. Modern tax rates also depend on filing status.9

Sin Taxes

Because cigarette and alcohol taxes are built into the prices of these products, many Americans don't even know they're paying them. Federal tobacco taxes were first enacted in 1794, but came and went over the years until 1864. That year, a box of 20 cigarettes was taxed at 0.8 cents.10 In 2020, the rate was $6.96 per pack.11

States also tax cigarettes. In 2019, Missouri taxed them at a low of 17 cents per pack, while New York taxed them at a high of $4.35 per pack.11

Since cigarette and alcohol taxes are built into their prices, many Americans don't realize they're paying them.

Spirits, wine, and beer are each taxed at different rates by both the federal and state governments. In 2020, the top federal excise tax rates were $13.50 per proof gallon of spirits, $1.07 to $3.15 per gallon of wine depending on the wine's alcohol content, and $18 per 31-gallon barrel of beer.12 Each state sets its own tax rates for each type of alcohol.

• The lowest tax rate for spirits in 2019 was $2.00 per gallon in Missouri and the highest rate was $32.52 per gallon in Washington.13
• For wine, the lowest tax rate in 2019 was 20 cents per gallon in California; the highest was $3.26 per gallon in Kentucky.14
• Beer was taxed at a low of 2.0 cents per gallon in Wyoming and a high of $1.29 per gallon in Tennessee.15

The government started taxing cigarettes and alcohol to pay back the debts it incurred during the Revolutionary War. However, social purposes have also long influenced the taxation of these items. The higher the tax, the more likely Americans are to be discouraged from consuming tobacco and alcohol. But because tobacco and alcohol taxes are flat taxes, they fall disproportionately on the poor. In other words, it is mostly the poor who are discouraged from using tobacco and alcohol, because other income groups can afford to pay the higher taxes.

Gasoline

If the government taxes behavior it wants to discourage, why does it tax gasoline? After all, gas taxes were implemented long before the environmental movement kicked in. Federal excise taxes on gasoline were implemented in June 1932 under President Herbert Hoover as part of the Revenue Act of 1932. As its name implies, this act was designed to increase the amount of money the government had at its disposal. The gasoline tax was expected to raise $150 million in new tax revenue for the government.16

In 1932, gas was taxed at a rate of 1 cent per gallon.16 By 2020, the tax rose to 18.4 cents per gallon.17 State gasoline taxes and fees can tack on an additional cost, ranging from a low of 14.35 cents per gallon in Alaska to a high of 60.60 cents per gallon in California.18

Investments

Taxing investment income might seem particularly counterproductive since investment is necessary for economic growth, but that hasn't stopped the government from including it under its wide umbrella of taxable income. Capital gains taxes were enacted in 1913, along with the income tax.19 Dividend taxes were enacted in 1936 but only lasted through 1939. They reappeared in 1954 and have persisted ever since.20

CONCLUSION

History is full of tax rebellions. Back in 1773, taxes sparked Americans to destroy three shiploads of British tea. And in 1791, Alexander Hamilton's proposed excise tax on alcohol was enough to prompt the Whiskey Rebellion in Pennsylvania. The question is, what lies ahead for tax reform?