Monday, April 30, 2012

A Brief History of Income Tax and "Fair" Tax Policy

Taxes
What are the purpose of taxes? Why do "we the people" allow our governments to tax us? I believe most people would say that taxes are the primary way "we the people" fund our government. In other words, we allow governments to tax us so they can raise revenue to pay for common community, state, and federal expenditures. The purpose of these expenditures is to, using a line from the US Constitution, "provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity." These expenditures include building and maintaining roads, fire departments, police departments, armies, navies (i.e. funding wars and national defense), courts, and the list could go on and on (and on and on and on).


Using roads as an example, I would like to think that most reasonable people would agree that if everyone is going to benefit from a road, highway, or interstate, everyone should help pay for it. Seems fair, right? Originally, the Constitution only allowed the federal government to directly tax the population if it, in turn it distributed direct taxes in proportion to each state's census population (Article 1, Section 2). The reason for this limitation is that the framers felt that taxes (head, poll, and property) were likely to be abused, and that many taxes bore no relation to the activities in which the federal government had a legitimate interest. 


One Key Problem
One key problem we have faced in the United States since "income taxes" were first introduced in 1861 (to help fund the Civil War) is that only people who made a certain amount of money (or higher) were asked to pay taxes. At that time, only people who made more than $800/year were taxed (at a rate of 3%). Later, in 1862, the income cap was lowered to $600/year (still 3%) and the rate was raised to 5% if income was greater than $10,000.* (It is very interesting to note that once the war was paid for, these taxes were rescinded in 1872. Can you imagine a federal government with that kind of discipline?)


That all changed in 1913 with the ratification of the 16th Amendment:


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.


With this new constitutional power to tax US citizens, congress enacted the first "permanent" income tax 1913. This new tax was for persons with a net income over $3,000 and was at the rate of 1%. It also included a 6% tax on incomes above $500,000. In order to finance World War I, by 1918 the top rate of the income tax was increased to 77% on incomes over $1,000,000 (although the average rate for "the rich" was 15%).


As the informed know, tax brackets have come and gone and tax rates have risen and fallen over the past 100 years.  But the bottom line is this--there has always been a segment of the population that has never paid income tax--never. The federal government has always set a minimum cap.  If you make below that minimum, you do not pay.  So much for the idea that, "if everyone is going to benefit from a road, highway, or interstate, everyone should help pay for it." In essence, many people have been taught that they should not have to pay. 


Briefly, let's assume that everyone should pay, no matter how much they make and that the rate should be a measly 3%. I found an article written by the Urban-Brooking Tax Policy Center in which they estimate that 76.1 million Americans who receive an income pay no taxes. Using their figures, I averaged each income bracket and calculated what revenue would come if all of these income earners paid just 3% a year. The answer? At 3% an additional $46.3 billion A YEAR could be raised--additional revenue! Raise the rate to 4% and an additional and a whopping $61.8 billion A YEAR in additional revenue could be raised. That kind of income would go a long way in paying off $16 trillion in federal debt.


The Main Point
But, in a way, that is not the point, is it? The point is that the founders envisioned limited taxation from the very beginning because they knew how it could be abused.  James Madison said:


...a national revenue must be obtained; but the system must be such a one, that, while it secures the object of revenue it shall not be oppressive to our constituents.


When does a tax become oppressive? That is surely open to debate, but one issue might be when you are taking my money and giving to someone else.  This, I believe, is one reason Article 1, Section 2 was included in the original Constitution. It says, in essence,'if you are going to tax the people of my state, you are going to give it back according to the population of my state.' No taxing the rich states to give to the poor or taxing well-run states to bale out poorly run states. From Article 1, Section 8: "all Duties, Imposts and Excises shall be uniform throughout the United States." Hmmm. Now we see how radical a departure the 16th amendment truly was from the original Constitution.


The Bottom Line
Daniel Webster, a lesser known founding father once said, “An unlimited power to tax involves, necessarily, a power to destroy” (17 U.S. 327 [1819]).  Today, that power looms darkly over a country that is approaching $16 trillion in debt.  But I believe it is not just taxes that can destroy this country--it is the debt. Ask anyone who has gone through bankruptcy if they had a pleasant experience. (Side note: I do not know about you, but I suspect our Founders could have predicted our current problems in 1913 when that amendment passed.  Abuse is clearly rampant--on both sides of the aisle.)


A Latter-day Solution
As a Latter-day Saint I see two solutions--one on the revenue side, one on the expenditure side.  As for revenue, I support the much ballyhooed flat tax.  In the church, everyone pays 10%--no matter what your income is.  You earn $10, you pay $1. You earn $1,000, you pay $100. You earn $1,000,000, you pay $100,000. The church has functioned for almost 200 years with that formula.


On the expenditure side--a return to Constitutional principles. Eliminate every branch of government be it local, state, or federal that is outside the original mandate, "provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity." Restore Christian principles such as taking care of our neighbors, honesty, and integrity.  And when the need for a program has passed, end the tax. (Yeah, right, that will be the day!)


In essence, preach of Christ. Teach the world about how He can to influence the hearts of men and women worldwide. As Ezra Taft Benson once put it:


The Lord works from the inside out. The world works from the outside in. The world would take people out of the slums. Christ would take the slums out of people, and then they would take themselves out of the slums.  The world would mold men by changing their environment. Christ changes men, who then change their environment. The world would shape human behavior, but Christ can change human nature.


Reality Check
In reality, I am smart enough to know that the point of no return was probably passed a long time ago. A quote floating the internet right now by Benjamin Franklin has already come true:


I am for doing good to the poor, but I differ in opinion of the means. I think the best way of doing good to the poor, is not making them easy in poverty, but leading or driving them out of it. In my youth I traveled much, and I observed in different countries, that the more public provisions were made for the poor, the less they provided for themselves, and of course became poorer. And, on the contrary, the less was done for them, the more they did for themselves, and became richer.


We are now approaching almost fifty years of public policy that encouraged people of all races and ethnicities to be made easy in poverty. These people have never learned or do not want to learn how to provide for themselves.  While I truly hope it is not too late--that reason and love will prevail and solutions will be reached by a new crop of leaders in Washington--I am also aware of what happened in 1860 when the country took a final sharp turn to the right on slavery: the left pushed back--hard.  


Only God knows what the future holds. But, no matter what, I believe he wants us to fight for what is right and at least one "right" principle is a fair tax policy.


*Primary source for all data: Taxation History of the United States (Wikipedia) 

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