Money Matters: Origin of the Income Tax in the U.S.

Almost from the start, this country has needed money to run the government. The source of that income over the years has varied, but most recently is supported largely by the tax the Federal government places on our income. While most of us are willing to pay something for the many benefits we receive as citizens, few of us want to pay more than our fair share.

All sorts of steps are taken by individuals and businesses to avoid paying too much in taxes. Occasionally, someone takes this action to the extreme. While reading an article in Investment News where one of our billionaire citizens was ordered to pay $52 million in tax, penalties, and interest for failing to report income on $200 million in assets, I thought it might be interesting to review how our income tax system was originated.

By 1913, the 16th amendment to our Constitution was passed by 36 states and thus the amendment granted Congress the power to tax individuals. Prior to this point in time, the government relied heavily on tariffs, “poll tax,” excise tax, property, and transfer taxes. During the colonial days, the type of tax paid often was the result of where you lived. In the southern colonies, they imposed taxes on imports and exports. The middle colonies taxed each adult male, sometimes called a head tax or “poll tax.” In the north, they taxed real estate, had excise taxes, and taxed certain occupations.

When our country was first formed, the government relied on donations from the states to fund its operations. The founding fathers quickly realized this method would not meet the needs of a “growing” government, and thus the Constitution provided Congress the power to “…lay and collect taxes, duties, imposts, and excises, pay the Debts and provide for the common Defense and general Welfare of the United States.” Little did we know then just how far Congress would take this power!

During the Revolutionary War, taxes were imposed on liquor, refined sugar, carriages, tobacco, items sold at auction, corporate bonds, and slaves. The high costs of the War of 1812 brought about our first sales tax on gold, silverware, jewelry, and watches. These taxes went away for a brief period when the government started relying on tariffs on imported goods. During the 1860’s, the Federal government imposed the first income tax to fund the Civil War. Additionally, new sales and excise taxes were created along with the introduction of the inheritance tax. During this same period, the Commissioner of Internal Revenue was created and given the power to seize property to collect taxes. In 1872, the income tax was abandoned and the government relied once again on other sources. Attempts were made to bring the income tax back but were ruled unconstitutional.

This brings us back to the passage of the 16th amendment in 1913. Following its passage, later that year Congress imposed an income tax on both individuals and corporations. In 1943, taxes were required to be withheld from wages. This change was instrumental in increasing the number of Americans paying tax to 60 million by 1945.

In the decades following the introduction of the income tax, Congress has never been content to leave it alone. Numerous changes have taken place both increasing and decreasing the tax. Since 1980, Congress has enacted more than a dozen major tax acts. Many aimed at simplification, only to add hundreds if not thousands of pages to the code. The U.S. taxes worldwide income of its citizens and corporations. This is in part the reason why the billionaire was prosecuted. While he had shifted millions to offshore bank accounts, the Internal Revenue still taxes the income.

While the income tax has come and gone several times prior to 1913, it is clear it is here to stay. Though talk of change still looms and how it will be collected in future years is yet to be seen. It is clear, Uncle Sam wants its share and will take steps to collect and to make sure those who are supposed to file, do so.


Would you like a response to a financial question? Send your question to Doug Horn, 115 W. Broadway, Maryville, TN 37801. Be sure to mark your envelope Money Matters.

Doug Horn, CFP, is an area financial planner with more than 24 years financial experience and founder of Quality Financial Concepts, located in downtown Maryville on Broadway.

Doug Horn, CFP, Registered Investment Advisor in Tennessee and Texas and Registered Principal, Branch Office of and Securities offered through CUE Financial, Member FINRA, SIPC.

© 2008 All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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