Understanding the history of taxes

In 1913, the 16th Amendment to the Constitution was passed and this was when income taxes first came into being. This means that they have been around for a little over a century. But over the past 100 years, they have not become any simpler! Indeed, the tax code of today is possibly one of the most complex rules, laws, and regulations around, particularly because so many of them seem to contradict each other. In this article, we’ll try to simplify things to a certain degree.

A Brief History of Taxes:

The concept of tax is nothing new. The War of 1812, for instance, was paid for by taxing precious metals, as well as watches and jewelry. This tax was stopped in 1817, when the debt was paid off. Until the Civil War, taxes were charged through fees and tariffs. By 1862, Congress developed an income tax law, which was set at 3% and above for luxury items. By 1868, tobacco and alcohol taxes came into play. Never before was so much revenue generated, reaching around $310 million and allowing the government to become debt-free. So, in 1872, income tax was once again eliminated.

The Reconstruction Era between 1870 and 1900 encouraged huge growth in the economy, with the result that interest on Income tax was revived again, in 1894. However, on May 21, 1895, the Supreme Court deemed it “unconstitutional”. This was a 5/4 decision that effectively stopped income taxes from being charged. Economic growth continued regardless, making America look like the true promised land.

Unfortunately, by 1907, there was a massive crisis in the country. The average family income had dropped by 40%. Banks closed and times became difficult. Savings were lost, which led to a proposed 9% federal income tax raised on businesses only. The 16th Amendment was first proposed on July 12, 1909. Their proposition was supposed to be irrespective of census results. Rather, it was detrmined that it would not be “direct tax”, as this has been deemed unconstitutional. However, a further 36 states had to ratify it before it could be passed.

In 1910, a secret meeting took place on Jekyll Island, where the world’s most powerful financial decision-makers and bankers came together. This meeting is still a huge point of discussion today, with few knowing exactly what was discussed. However, this meeting marked the start of the Federal Reserve Bank.

Between 1909 and 1911, 31 states ratified their laws to accept the 16th Amendment. Then, in 1912, there were four main contenders for the presidency. The 16th Amendment was a major campaign topic throughout the year. By the time the election happened in November, there were just two states that hadn’t ratified the 16th Amendment. Hence, when Woodrow Wilson became president, he was able to properly ratify the Constitution, which happened on February 3, 1913.

Of course, shortly thereafter, World War I happened. Anyone earning over $1,000,000 had to pay 77% in taxes. However, nobody really cared about this since no one actually earned that much. The result was that, in 1918 the government revenue was higher than one billion dollars, which had never happened before. By 1920, it had grown to $5.4 billion, which is a 500% increase in two years.

Of course, between 1920 and 1940, many other things happened, which meant that few people really cared about taxes. The Roaring Twenties saw significant economic growth, until it suddenly came crashing down in October of 1929, when the Great Depression started.

By 1940, the tax system had started to become more complex. For instance, those earning over $5,000,000 had to pay 81.1% in tax. Two years later, the percentage had increased to 88%. Importantly, the $5,000,000 threshold had been reduced to $200,000. The result was that far more people suddenly had to pay a huge amount of tax. This was affordable, however, because World War II had started and this led to a surge in employment.

Interestingly, taxes were paid voluntarily through tax reports. By 1943, Mandatory Federal Income Tax Withholding came into place. This meant that employers had to withhold taxes for employees and send it to the Treasury automatically. The top rate, after WWII was increased to 94%, to be charged on earnings of $200,000 and above. Some loopholes were closed and some complexities were added, which led to the 1945 internal revenue reaching $43 billion. This was a 50% increase each year for fifteen consecutive years.

Again, the war ended and growth ensued. But there was also a surge in birth rates. The American Dream was developed and more taxes had to be raised. Hence, towards the end of 1969, the Tax Reform Act of 1969 was implemented, establishing the AMT (Alternate Minimum Tax). This was a new system that applied only to some people. In fact, in 1970, only 19,000 people had to pay it, but they paid a total of $122 million between them.

For many years, the federal government continued to automatically increase the budget without looking at spending. This changed in 1981, when Congress agreed to a massive tax cut. But, the year after, a new tax was levied to once again increase revenue. President Ronald Reagan then signed the Tax Reform Act of 1986, decreasing the tax bracket to 28%, the lowest it had been since 1916. However, the AMT was expanded and, suddenly, many homeowners had to start paying it. For the next three years, other significant changes were implemented.

The Revenue Reconciliation Act of 1990 was then developed, which is the Tax Act that further tinkered with the tax system. Mainly, this tax ensured more wealthy Americans had to pay more taxes. President Bill Clinton then signed the Reconciliation Act of 1993 to help lower the deficit, but he then signed a different tax act to cut taxes again.

President Bush, meanwhile, signed the Economic Growth and Tax Relief Reconciliation Act of 2001, which offered a huge tax cut. Then, two years later, he signed the Jobs and Growth Tax Relief Act on 2003, which further accelerated rate cuts. But then, in 2004, the WTO (World Trade Organization) deemed that the corporate tax system in this country was illegal. Hence, new strategies and rates had to be developed once again.