UNITED STATES Although taxes on gains and profits derived from personal abil ity as distinguished from property—so-called "faculty" taxes— were employed in the American colonies before the middle of the 17th century, and an abortive effort had been made in the 184o's, no successful use of the general income tax was made in the United States until the Civil War.
After the 1893 panic a tax upon individuals and business at a 2% rate was adopted (1894), leaving individual incomes below $4,00o exempt. The tax never went into effect, being declared unconstitutional in 1895 on ground of being a direct tax not apportioned to representative population, reversing an earlier opinion that an income tax was indirect. In 1909 a Federal excise tax was adopted, equivalent to 1 % on annual net income over $5,000; this proving to be an effective income tax, within the Constitution. The collections from corporations reached 35 millions in 1913; partnerships not being taxed. When the i6th amendment to the Constitution was adopted in 1913, authorizing taxes on net incomes, the individual and corporation tax (included in the tariff law of 1913) was set at 1 % for single persons over $3,00o and married persons over $4,000, with a surtax of I to 6% on incomes in excess of $20,000; corporations at 1 %. Only 8o millions were collected in the first year. In 1918 the progression principle was introduced; the first $4,000 at a 6% rate, the re mainder at 12 % ; while surtaxes were graduated from I to 65%. Net income in excess of a million was thus taxed at 7 7 % (the highest rate in modern history until then). Credit of $20o per dependent was allowed. Later (1926-1928) normal and surtax rates were lowered to 5% and 2o% respectively.
In the 1928 law exemptions were raised to $I,5oo single and married with a $40o credit for dependents; the new sur taxes applying to incomes over $Io,000. In 1932 individual in come rates were raised to a maximum normal of 8%, and exemp tions for married persons lowered to $2,500. Surtaxes were steeply progressed (over $6,000) to a 55% maximum on incomes over a million. In 1933 an additional 5% was levied on receipt of divi dends, except by domestic corporations. In 1934, collections fail ing because of the depression, new rates were applied. A normal 4% rate on single persons over $I,000 and married persons over $2,500; the $40o credit for dependents being continued. The sur tax was started at 4% in excess of $4,000 on the first $2,000, rising to 59% on incomes of over a million.
With regard to corporations the 1 % of the 1909 tax was sub jected to a series of increases, reaching 13.5% in 1926. In 1928 the rate was reduced to 12 % and corporations with less than $25,00o net income were allowed a $3,00o credit to be deducted before computing the tax. In 1932 the tax was raised to and a 0.75% additional tax imposed on affiliated corporations; the credit allowed smaller corporations was removed.
The 1935 law set a 12.5% rate on corporation incomes below $2,000, 13% between $2,000 and $15,000, 14% between $15,000 and $40,000, and 15 % on all above. 1935 excess profits tax rate was 6% on net income over 1 o% and up to 15 % of value of capital stock; 12% on net income over 15 %. A thoroughly suc cessful corporation thus paid three separate taxations, (I) 6% special excess profits tax, (2) 5% on dividends, (3) 15 % regular tax on net income. The excess profits tax has passed through three stages, (1) war munitions phase, (2) abnormal war profits phase, (3) general excess profits tax.
The 1936-37 acts set up a 65% to 75% rate on undistributed adjusted net income, and an 8% to 48% personal holding corn pany rate, but the 1939 act, following much complaint from cor porations, ended the undistributed profits tax, applying to 1940. Another controversial point, regarding net operating losses, was changed, granting both corporations and individuals the right to carry forward net operating losses as deductions from the earnings of the next two succeeding taxable years (applicable beginning onward). Net capital losses sustained by corporations were made deductible in full (applying to 1940 onward), as to assets held over 18 months. More liberal inventory methods were made general. Strong public pressure was exerted in 1939 to lower indi vidual surtax rates, as an aid to prosperity; also to eliminate fu ture tax-exempt securities, widely used to nullify high surtax. Taxation of lower income brackets has long been advocated as a developer of more American civic responsibility.
Income from Federal income taxation has been very large, ris ing from 71 millions in 1914 to 3 billions in 1918, or 68% of ordi nary revenues, reaching a peak of virtually 4 billions in 192o.
State Income Tax.—Various levies by States have been made since 1789. Massachusetts taxed personal income, as did South Carolina, Pennsylvania and Virginia before the Civil War. In 1895 several States adopted income taxes, and by 1903 a total of 16 States had adopted, but only 6 continued State income taxes. The new era in State taxation began in 1911 when Wisconsin de veloped a progressive income tax. Other States, hit by loss of liquor revenues, followed. By 1927 there were 14 State income taxes. After the 1929 crash other states adopted income taxes.
State income tax rates progress, as a rule, from 1 to 6%, with North Dakota in 1934 adopting a 15 % rate on incomes over $15,000. California in 1934 taxed only corporations. Wisconsin, New York and Massachusetts are the outstanding successful ex amples; Wisconsin in 1932 securing a tenth of its total state and local taxes from it. Non-political, strong centralized administra tion is credited with Wisconsin's success. New York's total re ceipts were I21 millions in 1937. Total receipts from 15 states in 1932 were 158 millions. The National Tax Association's model plan for state taxes recommends a $2 tax for all residents.
A fundamental problem of income taxation is determination of net income. The 16th amendment leaves to administration and courts the exact determination of "net income." Gross income must first be stated, but this too is a term not fully clarified. Until 1924 so-called "earned income" was not favoured. The limit to the earned income factor was set at $14,00o in The problem of capital losses and gains received much publicity in 1934 when certain well-known men paid no income tax due to deductions on the basis of capital losses; and also because of "sales" for tax computation purposes to members of the family.
The great shrinkage in income taxes during the depression proves the inelasticity of income taxes during hard times (furnishing in only about one-fifth of ordinary Federal revenue) and has helped to shift attention (among the states in particular) to sales taxes (q.v.), since these have proved greater revenue producers.