Its Been 99 Years Since Congress Officially Got Its Fingers Into Your Wallet


byMike Keeler

The Founding Fathers feared it. They were so concerned that the government would abuse the power of taxation, or that some states would get an unfair tax advantage, that they made taxation difficult. They included a clause in the Constitution that states that if the federal government wants to collect a “direct” tax – that is, a tax on “stuff” like people or property – it has to be approved by and apportioned across all the states. For example, if a state contains 10% of the people in the country, a national tax on headcount would require that state to collect and send in 10% of the requested revenue. This made levying “direct taxes” very complicated.

But what about a tax on income? Income doesn’t come directly from “stuff” but indirectly from labor and “transactions.” Unlike “direct” taxes on stuff, “indirect” taxes on transactions were less scary to the Founding Fathers, because people have some control over their own labor and transactions. So the Constitution doesn’t restrict Congress from collecting “indirect” income taxes.

But it didn’t happen for a long time.  The government first levied an income tax to pay for the Civil War, but it only lasted from 1861-1866. However, Washington slowly got a taste for cash, and eventually it got hungry. After several failed attempts in the 1880’s, in 1894 Congress enacted a permanent national income tax.

“Now hold on there!” said the Supreme Court just a year later. The Court ruled by a 5-4 margin that many kinds of income – like rent collected on land, or dividends derived from stocks – weren’t really transactions, they were value inherently generated by “stuff”. So they should also be considered “stuff” and couldn’t be indirectly taxed as income. By this ruling, the Supreme Court severely limited Congressional ability to tax incomes. Case closed.

“Oh yeah? Watch this!” Congress responded. They drafted the 16th Amendment, which declared Congress has the power to “collect taxes on incomes, from whatever source derived.” Two-thirds of the House and the Senate approved it, three-quarters of the states ratified it. (Only Utah, Virginia, Connecticut and Rhode Island rejected it; Pennsylvania and Florida deferred.) And with the passing of the 16th Amendment, on Feb 3, 1913, Congress granted itself the permanent, unlimited power to tax every source of income of every individual (as well as every corporation, because, c’mon, they’re people too). You know what happened next.

In 1913, the highest tax rate was 6%.

In 1918, facing huge deficits created by World War 1, Congress raised the rate.

Just a little.

To 77%…