U.S. Income Tax a Short History

In the beginning, the United States Federal Government had no taxes.

That doesn’t mean that there were no taxes in the US but the Articles of Confederation gave the power to tax to the states and not to the central government.

The United States started with no federal taxes.

It became clear that this wasn’t going to work so the Founding Fathers added to the U.S. Constitution the ability for the federal government to...

…lay and collect taxes, duties, imposts, and excises, to pay the Debts and provide for the common Defense and general Welfare of the United States.”

Even with the power, the federal government left most taxes to the states and only used excise taxes to pay for the Revolutionary War.

Federal income taxes first appeared in the Revenue Act of 1861. Congress used the tax to help pay for the Civil War. The new income tax was 3% on all incomes higher than $800 a year. Despite having the ability to collect income taxes, Congress saw problems with the tax and didn’t collect anything that year.

Lincoln approved an income tax to pay for the Civil War.

In 1862, Congress made changes the new income tax. A trend of making changes to the tax code began when they added a second tier of tax to the one year old tax law. Now income up to $10,000 was taxed at 3%. Income over $10,000 was taxed at 5%. Congress also added a standard deduction of $600 and deductions for renting, taxes and losses.

The 1862 bill also added payroll deduction to help with the collection of taxes.

Payroll deductions made tax collection easier.

After the Civil War, Congress reduced income tax rate since the income wasn’t needed. In 1872, the income tax was abolished and for 22 years the US had no federal income tax.

A flat rate federal income tax made a short appearance in 1894. However the Supreme Court ruled it unconstitutional in 1895. The Constitution only allowed a direct tax at that time if it was apportioned according to the population of the state. Since the income tax treated all qualified taxpayers equally, it was unconstitutional.

Supreme Court Building

Which was why, in 1909, Congress passed the 16th amendment and sent it to the states for ratification. On February 25, 1913, Secretary of State Philander Knox announced that the amendment had been ratified by the required 36 states. Congress then passed the Revenue Act of 1913 in October and brought back the federal income tax.

Top of 1st page 2013 Income Tax Return.

This Revenue Act introduced Form 1040 and taxpayers at that time began paying income tax. The rates began at 1% and maxed out at 7% for taxpayers with income over $500,000. There was a little concern about the word “lawful” in the Act. The bill taxed “lawful income.” But this loophole was closed when “lawful” was removed from the act. This leading the way for Treasury officials to use the tax code to catch Al Capone and other criminals.

Privacy was a concern with the new income tax since it gave the Federal government access to the financial information of individuals and businesses. To protect the public as much as it could, Congress passed a law in 1916 requiring that tax return information be kept confidential.

Social Security numbers and computerization .

Between 1916 and 1980, there were regular changes to the tax code. The rates went up and down (but mostly up) and deductions were added and changed. World War II saw the re- introduction of withholding (Current Tax Payment Act of 1943.) In 1961, Congress required the use of Social Security numbers as tax identification for individuals. Computerization hit the IRS and by 1967 all business and personal returns were handled by computer.

Highest Marginal Tax Rates

Back in 1916, the lowest rate was 1% and highest was 7%. By World War II, the lower rate had increased to 23% for taxpayers with taxable income over $500. The highest rate at that time was 94% on incomes over $1 million. Rates fluctuated but remained high until the Economic Recovery Act of 1981 (Reagan Tax Cut). The bill reduced tax rates by 25% over 3 years and indexed the rates to inflation.

Over 22 years, from 1964 to 1986, the top rate was reduced from 91% to 28%.

The next big change was the Tax Reform Act of 1986. It reduced the number of tax brackets and the top rate went from 50% to 35%. It also increased the standard deductions and exemption amounts and indexed both for inflation. There were a wide variety of other changes in that act.

Everyone talks tax reform...

The tax code is ever changing. Bills are passed almost every session increasing or lowering rates, adding or decreasing special credits and deductions. The trend since 1969 has been the additional of a social service aspect to the tax code. In 1969, Congress initiated the Alternative Minimum Tax to compensate for many high income taxpayers taking advantage of tax breaks. In 1975, the Earned Income Tax Credit was introduced. The credit to help low income families has grown and has been joined by the Child Tax Credit, a 1st Time Homebuyer’s Credit, several education credits and in 2014 a credit/reconciliation for health insurance coverage.

IRS now handle some social services with tax collection.

The federal income tax has come, gone, come back, ruled unconstitutional, become constitutional and changed often since it was first introduced in 1861. From a simple one rate tax system, we now have a complex multi rate tax system that changes every year. It has gone from a just a revenue generator to a method of providing social services along with collecting taxes. Tax reform is always discussed but hard to implement. And once implemented...

Congress will change it.
Created By
Trish McIntire
Tax Rate Chart- Created by Catherine Mulbrandon at visualizingeconomics.com. This project was mostly pulled from a U.S. Treasury Fact Sheet on the History of U.S. Taxes. Unfortunate, a couple of weeks later, it is missing from their site.

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