Table 1 Federal Tax Collections by Sourcea Percentage Distributio n Selected Fiscal Years 1913-196 8

Corpora . Indi tion vidual Employ income income Excise ment Year Total taxes tax taxes customs taxes Otherb

1913 100.0 - - 46.6 48.1 - 1j - 1917 100.0 20.0 17 .4 39.1 21.8 1 .6 1918 100.0 73.5 20.0 4.6 - 9 _ 1920 100.0 -69.0- 21 .9 ;.5.6 3.4 1925 100.0 32.1 25.7 18.9 17.0 - 6 .4 1928 100.0 38.5 26.3 16.3 , 16.9 - 2. 1 1932 -100.0 33.4 .22.6 24.1 17.4 _ 2. 5 1936 100.0 ` -19.3 17.3 39.6 9.9 - 12. 1 _ 1940 100.0 20.0 :17,1 32 .9 `6.1 14.5 9.4 1944 100.0 36.3 -,. .44.9 .11 .0 1 .1 . 4.3 2.5 . . .. 1948 100.0 24.0 49.5 17.5 1 .0 5.6 2.5 ; I.- _ ,...... 1950 100.0 27.6 43 .5 19 .3 11 6.7 . :1 .8 1952 100.0 32.7 44.6 13.7 .8 6.8 1 .3 1954 100.0 30.6 46.5 13.5 .8 7.2 1 .4 - 1956 100.0 28.0 46.6 13 .2 0.9 9.6 1 .6 1960 10010 23.9 48.4 12.8 1.2 1118 11 9 1962 100.0 21 .2 50 .4 12 .7 1.2 1 ?.4 2.2 -1964 100.0 21 .4 48.1 12.3 1 .1 14.7 2. 3 1966 10010 23 .6 46.9 10.3 1.4 15.3 2.5 1968 1 00.0 19.2 50.4 9 .2 1 .4 17.8 2. 1

a . Internal revenue collections plus customs and, beginning with 1940, railroad unemployment, insurance 1 act taxes. Detail will not necessarily add to totals because of rounding . b, Chiefly estate and gift and capital stock taxes before 1940 . Thereafter, includes railroad unemployment insurance taxes and unclassified taxes. Source: Treasury Department,

countries, This tax was replaced by th e live, it was superseded by the War Rev- excess-profits tax in 1917 , enue Act of October 1917, This act no t only substantially raised ordinary in- The Revenue Act of 1917 (in March ) colne tux rates, but changed the fiat rate included the first excess-profits tax in excess-profits tax into a heavily gradu- U.S . history, but before becoming effec - ated t,- ix on war profits."

i . The first excess profits tax was levied at 8 percent on profits In excess of 8 percent of invested capital . The "war profits" tax of October 1917 used as it base the average profits of the period 1911-1913, but wit h limitations related to invested capital. Phis tax applied to partnerships and proprietors, as well as to cor. porations, (Ratner, op, cit ., p. 378. )

20

Although the rates were reduced after Nvhen the normal tax for individuals wa s the end of the war, the excess profits tax reduced to 4 percent. The corporate rate remained in effect through 1921 . wits reduced to 10 percent in 1919 and ;. increased to 121/2 percent in 1922. Thus , While dividends remained exempt the corporation tax began to go its own from the "normal tax" portion of the way as a separate tax, rather than being individual income tax through the 1920s acollection-at-the-source device for a ,and early 1930s, "integration" with the general income tax. While the corpora- corporation tax came to -an end in 1919 tion tax rate .in 1926 `reached 13 .5 per-

Table 2 Federal Tax Collections by Sources SelectedFiscal Years 1913-1968 (Millions)

Corppora- Inds. tion vidual Employ. income income Excise Mont Year Total tax ;ax taxes customs taxes otheru I ; 1913 $ 663 $35 $ - 309 $ ( 319 _ i 1917 1,035 207 180 .: . . 405 - -226 $1 7 I 1918 30879 ----2,852 774 180 72 . . ; 7 1920 :51731 , - 3,957 1 1 254 323 - 197 1925 3,132 916 :845 624 548 - 1,99 1928 3,360 1,292 883 547 569 _ 69 A932 1 1886 630 427 454 328 _ 47 ; ;1936 3,907 753 674 1,547 387 (c) 474 1940 5,738 1,148 982 1,885 - 349 .$ 834 540 .. =1944 40,67.1 14,767 18,261 4,464 431 1,738 1,01 3 1948 42,432 10,174 20,998 7,410 422 ` 2,381 1,048 1950 39,396 10,854 17,153 7,598 423 2,645 i23 1952 65,587 21,467 29,274 8,971 551 4,464 860 1954 70,506 21,546 32,814 9,517 562 5,108 959 1956 75,856 21,299 35,338 10,004 705 7,296 1,21 4 1960 92,871 22,179 44,946 11,864 1,123 10,970 1,789 1962 100,546 21,296 50,650 12,752 1,171 12,487 2,193 1964 113,422 24,301 54,590 13,950 1,284 16,723 2,574 1966 130,486 30,834 61,298 13,399 1,811 19,903 3,24 1 1968 155,326) 29,889 78,219 14,312 2,113 27,576 3,21 6

a, Internal revenue collections plus customs and, bpainnina_ with 1940, railroad unemployment insuranc e taxes, Revised series on receipts for 1960 and subsequent years, b . Chiefly estate and gift and capital stock taxes before 1940, Thereafter Includes railroad unemploymen t insurance taxes and unclassified taxes , c, Less than $500,000, Source: Treasury Department,

21

to to Table 3 Federal Corporation Income Tax Rates and Credit s Income Years 1913=1968

Other income tues Revenue Income Specific macaw tax and Act year ,credit surtax ales: Type Credit Matta

1913b 1913-1915 — 1% None _ . . ; 1916 1916 — 2% None 1916 $3,000 plus 7% - 9% of invested capital 20% - 60% )} 1917 — 6%c Excess profits $3,000 where no or nominal 1917 1 invested capital 1918 $2,000 12% Excess profits $3,000 plus 8% of invested capital 30% -65%4 War-profits $3 1000 plus (1) average prewar net 200%4 income 10% of the increase o r 1918 decrease In invested capital or plus (2) 10% of invested capital 11919.1920 $2,000 10% Excess profits $3,000 plus 8% of invested capital 20% - 40%0 1921 $2,000 Excess fits Same as 1919, 1920 Same as 1919.1920 1921 1922,1923 $2.000c 12% None 1924 1924 $2,o00t 12.5% None 1925 $2.000= 13% None 1926 1 1926, 1927 $2.o0ot 13.5% - None 1928 $3,000t 12% None 1928 {f 1929 $3.o00t 11°0 None 11930,1931 $3,0001 12% None 1932 1932,1933 — : 13.75% None NIRA 1933 — Declared value excess profits 12-12% of adjusted declared 596 — value of capital stoc k 1934 1934,1935 13.75% Declared value excess profits Same as 1933 (NIRA) 5% 1935 1 Normal. 8% -15% 10% of adjusted declared value 1936 I 1936, 1937 — Surtax. 7% - 27% Declared value excess profits :of capital stock : 6% -12% 1938 1938, 1939 — 12.5%-19%x Declared value excess profits Same as Act of 1935 -1936 6%-12% 1940 1940 ` 14.85% - 24%a Declared value excess profits Same as Act of 1935 -1936 6.6% -13.2%L 1941 1941 ; — Normal: 15% - 24%a - Excess profits 15,0003 25% - 50% Surtax: 6% - 7% -Declared value excess profits Same as Act 1935 -1936 6.6% -13.2%"k 1942 1942, 1943 — Normal : 15% - 24%= Excess profits $5.000) 35% - 60% Surtax: 10% -16% Declared value excess profits Same as Act 1935 -1936 6.6%-13.2%11 1943 1944. 1945 ; — -Normal- 15% - 24% Excess profits _ $5.0001 .. 90% _ Surtax: 10% -16% Declared value excess profits Same as Act 1935 -1936 6.6% -13.2%h :. , Excess Profits $1010001 9596 1945 1946 - 1949 =" Normal: 15% - 24% None Surtax: 6% -14% 1950 1950 ;-= =Normal: 23% Excess profits: ` $25,000 3096a $25.000 Surtax: 19%m

_ (Continued)

Table 3 (Continued) = Federal Corporation 7ncomeTax Rates and Credits Income Years 1913-1968

Other Income taxes Revenue Income Specific Normal tax and Type Act year credit surtax ratesa Credit Ratea 1951 — Normal: 28.75% Excess profits 30%Q 1951 J $25,000 Surtax: 22% 11952,19-93 — Normal: 30%r Excess profits 30%t $25,000 Surtax: 22% Internal 1954 -1963° — Normal: 30% None Revenue $25,000 Surtax: 22% Code 1954 j 1964° — Normal: 22% None $25,000 Surtax: 28% 1964 11965,1966- — Normal: 22% None $25,000 Surtax: 26% 1968 1968 $25,000 Normal: 22% Surcharge on normal tax _ 10%R Surtax: 26% and surtax a_ The bases to which the various rates apply vary with the deductions provi- I. Sum of the excess profits tax, normal tax, and surtax was limited to 80% o f sions of the several revenue acts: likewise the brackets to which the rates the surtax net income, computed without the credit for income subject to apply differ with the several revenue acts. In the years 1938 - 1949, the top excess profits tax. marginal rate in some net income brackets exceeded the top rate of the m. The Excess Profits Tax Act of 1950 raised the surtax rate to 22 percent for normal tax plus the top surtax rate shown in the table. : taxable years beginning on or after July 1, 1950 . b. Tariff Act of October 3, 1913 . Tax effective on income for last 10 months of A. Tax effective July 1,'1950. year. 'o. Plus 85% of average net income (3 highest years in 1946 -1949), plus 12 % c. Plus tax of ilo on dividends out of earnings, March 1, 1913 through Decem- . of the amount of the base period (1946 -1949) capital addition, and 12% o f her 31, 1915. the net capital addition or reduction or 8 - 12% of invested capital . d_ F ,vided that the sum of the excess profits tax and the war-profits tax shall p Sum of excess profits tax, normal tax, and surtax was limited to 62% of ex- not be more than 30% of the net income in excess of $3,000 and not in ex- cess profits net income (before deduction of excess profits credit) . cess of $20,000, plus 80% of the net income in excess of $20,000. q.' Maximum rate of excess profits tax was 17.25% of excess profits net incom e e_ Provided that the tax shall not be more than 20% of the net income in excess ,-;before deducting the excess profits credit . of $3,000_ -r. 'Applicable to taxable year beginning after March 31, 1951 . f_ Not allowed to corporation with net income in excess of $25,000 (however, s. Same as in footnote (o) except that rate is reduced from 85% to 83 046. if net income is slightly in excess of $25,000, the tax shall not exceed the t. Maximum rate of excess profits tax was 18% of excess profits net income sum of the amount of net income in excess of $25,000 and the tax which - before deducting the excess profits credit. This was approximately equivalent would be payable if the credit were allowed). to a 70% ceiling on income and excess profits taxes together. g. Joint Resolution of Congress No. 133, approved by the President December u. The Revenue Act of 1962 allowed a tax credit of 7% (3% in the case of cer- 16, 1929. tain public utilities) of investment in depreciable machinery and equipment h. Included defense tax. Made after December 31, 1961, in the United States. The credit may be I. Plus (1) 95% of average net income (1936- 1939), plus- 8% of net capital offset in full against tax liability up to $25,000, and against 25% of tax lia - addition or less 6% of net capital deduction, or plus (2) 8% of inverted - bility in er_cess of $25,000. capital_ v. The 7% investment credit was suspended for the period October 10, 196 6 j. Same as footnote G) item (1) or 7 - 8% of invested capital. to December 31, 1967. It was restored as of March 9, 1967. k. Same as footnote G) item (1) or 5 -8% of invested capital_ : . ; f w. Retroactive to January 1, 1968. Sourre: Treasury Department. ; V

cent, the normal tax rate for individuals, a tendency to interpret the corporation from which dividends were exempt, was as a separate, taxable entity and to apply 5percent, the notion of progression or "ability_to- . pay" to the size of the corporation. It is notable that within six weeks of the stock market crash of 1929, the Ad - The undistributed profits tax of 1936 ministration proposed, and Congres s was motivated in part by efforts at passed by a joint resolution, a one per- greater equity among individuals and at centage point reduction in both the cor- closing tax loopholes, as well as by the poration and individual income taxes . objective of stimulating spending. In his message to Congress of March 1936, the, ., Revenue from the corporation income President said : " tax somewhat exceeded that from the individual income tax through the 1920s . Extended study of methods of im- proving present taxes on income from Under the National Industrial Recov- business warrants the consideration of ery Act of 1933 several corporation tax changes to provide a fairer distribution :=changes were made as substitutes for of the tax load among all the beneficial :owners of business profits, whether :other proposed tax measures includin g derived from unincorporated enter- a general sales tax 6 This act imposed a prises or from incorporated businesses , capital stock tax and,an excess-profits and whether distributed to the real tax based on net income anddeclared- owners as earned or withheld `from _. value of capital stock .7 `-them. He also said: In a message to Congress in June 1935, President Roosevelt proposed sub- The accumulation of surplus in cor - porations controlled by taxpayers with stantially increased taxation of corpora- large income is encouraged by th e tions on grounds that "great corporations recent freedom of undistributed cor- are protected in a considerable measur e porate income from surtaxes (on indi- from the taxing power and the regula- vidual incomes) . Since stockholders tory power of the states by virtue of th e are the beneficial owners of both dis- tributed and undistributed corporate interstate character of their business 8 ." income, the aim, as a matter of funda- Significant changes were introduced mental equity, should be to seek " equality of tax burden on all corporat e by the "Revenue Act of 1936 which di- income, whether distributed or with- vided the corporation tax rate into a held from the beneficial owners . normal tax applicable to all taxable in- In effect, he proposed abolition of the come, and a surtax applicable to taxable existing tax, and he recommended that : income in excess of a specified amount. However, the structure of the tax was The rate on undistributed corporate not the simple one of flat normal and income should be graduated and s o fixed as to yield approximately the surtax rates that have been used since same revenue as would be yielded i f 1950. Rather, both the normal tax an d corporate profits were distributed and the surtax were graduated . There was taxed in the hands of stockholders .

6, Biatcey and Blakey, op. cit., p . 343. 7. The capital stock tux was $1 per $1,000 of fair value of capital stock, and the excess profits tax was 3 percen t of net income in excess of 12 1/2 percent of the declared value or capital stock, The tux was designed to be self-administering in the determination of capital stock value : understatement of capital stock value woul d lead to an excess profits tax liability . A 50 percent penalty tax was also imposed on accumulation of "exces- sive" surplus. 8. Quoted by Richard W . Lindholm, The Corporate Franchise as u Basis o/ Taxation (Austin, Texas : 1944), p, 72, by Lindholm, op, cit., pp. 177, 178 , 9. Quoted 24

The Revenue Act of 1936 did not capital markets. The basic philosophy of - achieve such a degree of "integration ." using a tax measure to force dividend The 1936 act imposed a new surtax on distributions and to stimulate spending undistributed net income graduated was heavily attacked, from 7 percent to 27 percent. It also made various changes in the "normal" The emergencies of World War II tax rates, which were graduated from brought back a heavy excess-profits tax, 8 percent to 15 percent. A credit for the The ordinary normal and surtax rates of 12 normal tax was allowed in calculating the corporation tax were inereased, the surtax. Various types of corporations abut the larger part of the revenue in- -(chiefly financial institutions ). were ex- crease came from the excess-Profits , 13 empt from the surtax. tax. With combined rates that went a s -high as 90 percent, the wartime tax on After a brief life of two years, the un- ;corporations was much more than a rev - distributed profits tax was - effectively - enue or fiscal measure . It was also essen- repealed in 1938. It had been a notable tially a part of price, wage, and produc- mperiment in attempting to resolve tion controls, and its administrative com - ". . . the problem of reconciling a ProPor- plexities reflected this role.. The law it- tional tax on corporation income with a self was complicated by an effort to 10 progressive income tax on individuals." make the tax more equitable than the The general principles behind it had World War I excess profits tax, ". . . The strong defenders whose aims were to in- tax levied in 1940 was enacted by one of duce larger distributions to shareholders the most complicated laws ever placed in order to stimulate spending in a de- on the statute.;books-.by-.this,or,.any other - pression, to close an avenue for escaping country." 14 individual income tax, and to induce - greater use of capital . markets for raising The excess-profits taxes were remove d investment funds." The resulting tax in 1946 but the structure of the corpora - . . was widely criticized on many grounds, tion normal tax and surtax remained the - in particular as being discriminatory salve for the next three yearsessentiall y ,against small and growing businesses in the form enacted in 1938, which i n `that depended heavily on internal . , turn was a modified form of, . the rate ,sources of funds and had little access to structure of. the 1936. act,

10. George E . Lent, The Impact of the Undistributed Profits Tax 1936-37 i.New York ; Columbia Universit y Press, 1948), p. S. It . Blakey and Blakey, op, cit., p. 422. 12. Under the Revenue Act of 1942 the normal tax ranged from 15 percent to 31 percent, and the surtax fro m 10 percent to 22 percent . The combined top rate remained at 38 percent through 1949 (at a certain rang e of income a marginal "notch" rate of 53 percent applied) . 13. Revenues;from-the ordinary income tax rates and the, excess profits tux were as follows ; _ (Billions of dollars) Fiscal years 1944 1945 1946 Total corporate tax revenue 14.8 1610 12.6 Income tax 4.8 4.4 3.9 Excess profits tax 8,5 10.1 6.7a Other (chiefly back taxes) 1,5 1 .5 1 .9 a. The excess-profits tax expired as of December 31, 1945 . Source : Annual Report of the Secretary of the Treasury, Fiscal Year 1946, p . 398. 14. Kenneth J, Curran, Excess Profits Taxation (Washington, D, C . : American Council on Public Affairs , 1943), p . 14,

25

During World War II the individual eluded special provisions for new an d income tax passed the corporation tax in rapidly growing corporations and for I revenue importance. With the low level special types of corporations. At the - - of persum-.1 exemptions and the high same time, the Renegotiation Act of - level of rates that have been maintained 1951 (following similar legislation dur- -since World War II the individual in- _ng World War II and in 1948) made . ,come tax has remained the :chief :source most defense production contracts sub- of :Federal revenues. ject to renegotiation after completion o f . the transactions involved . A Renegotia- During the Korean War the compli- tion Board reviewed contracts and deter - . ~.cated structure of the normal tax and reined the amount of "excessive" profits , surtax was replaced by a flat normal tax if any, Decisions of the Board couldbe of 30 percent on all taxable income and appealed to the Tax Court. surtax of 22 percent non-taxable hicome in excess of $25,000. Although the Excess Profits Tax of On top of these rates, an excess- 1950 came to an end as scheduled on .~ profits tax was again levied with a coin- December 31, 1953, one of the first acts bind maximum corporate tax rate of "of Congress in 1954 was to postpone the 70 percent. The Korean War excess- scheduled reduction the normal tL.x and profits -tax, like that of World War II, -surtax rates of the ordina~ corporation tended to favor those corporations which income tax. In fact, these rates were happened to be in a good earnings posi- maintained by ten annual extensi ons tion in ;the "base period" from, which until 1964 ( Chart 1),: i _ excess profits" was measured. An alter- The Internal Revenue Code of 195 4 native measure of excess profits was included many revisions in the structure ,provided on the basis of a normal rate of the corporate tax. The most important of return on investment . Here also a was the introduction of new methods of difficult set of problems was raised by depreciation, which are discussed below, the absence of agreement on a "normal" Other changes included the tax credit rate of return for all industries." The (to individuals) for dividends, an exten - typical rate of„return will vary with the lion of carry-back of operating losses, range of risks and other circumstances more liberal. treatment of expenditures characteristic of :an industry. for research and development, restric - In either form with the use of an Lions on the tax on "unreasonable" ac. historical base period, or with a normal cumulations of surplus, a broadening o f rate of return concept the excess prof- tax-free treatment of exchanges of stock its tax posed very difficult administrative in corporate reorganizations, and pro - .and compliance problems . They lasted vision of an option for small firms to be , Jong after the tax itself expired, As a taxed ,as a partnershipor corporation . wartime control device, the excess prof - its tax was probably as difficult to ad- The Revenue Act of 1962 introduced minister as wage and price controls, an investment tax credit (see pages 29 - 30) and made changes in the ` atment The Excess Profits Tax Act of 1950 in- of foreign income, (see pages 72-7 3

15 . The rates of return allowed as a credit in computing excess profits were substantially higher than under th e World War II law, Under the Excess Profits Tax Act of 1950 the rate allowed as a credit was 8 percent for firms with invested capital of over $10 million, 10 percent for firms with invested capital of $5 million to $to million, and 12 percent for firms with invested capital under $5 million .

26

. . : 5

. - 5

- 4

3

------2

n

financial institutions, and various items able allowance for the depreciation of of business expense, property," Subsequent legislation has re- mained about as vague as this original The Revenue Act of 1984 reduced the _ statement. As a result the exact deter- normal tax rate to 22 percent and m iation of depreciation policy has been -`changed the surtax so that the combined made as part of the process of adminis- -. rate was reduced in two stages from 52 feting the law. percent in 1963 to 48 percent in 1965, " Thus, while the general rate of the cor- In the 1920's the decision on deprecia- - poration tax was reduced by four per- tion rates was in general left to busines s centage points, the rate on the first management in accordance with ac- $25,000 of net income was reduced by cepted accounting methods.16 The tax ,eight percentage points a : change, to rate was then low, so that the issue of tax favor small business firms, depreciation policy was of less . impon The present corporation tax rate of tance than in recent decades. 52.8 percent (including the 1968 sur- charge) is about 40 percent higher than In 1934, as a substitute for a tax in- ;. " the pre-Korean War rate of 38 percent. crease, the Secretary of the Treasury B contrast the individual income tax proposed an administrative measure t o rto structure is now slightly below the tighten depreciation regulations . In fact, 1948-49 levels (although inflation makes ,a reduction of about 25 percent in such comparisons of statutory rates mcom- allowances, was effected . The purpose plete) . of this measure was elearly one of raising ,revenue, not to get an accurate, ;measure The pre-Korean War corporate rate ;.01 net, income. Unfortunately, it had a of 38 percent was effectively somewhat lasting effect in the understatement o f higher because, with continued use of depreciation allowances in the long, pe- historical cost bases and the deprecia- rind of rising prices after 1934, tion methods of the 1930's in a period of inflation, depreciation allowances were Apart from accelerated depreciation substanitally understated (in relation to allowancesl7 introduced for defense- replacement cost) and, as a result, net related industries during World War II Profits were overstated . Later changes in and the Korean War, no permanent tax depreciation policy under the Rev- change in depreciation methods was . . . enue Code of 1954, and by administra- made until passage of the Revenue ;Code five regulation in 1962, were important of 1954, modifications in the corporation tax. The 1954 Code brought a substantia l .depreciation Policy liberalization by permitting three alter - :. - native methods of depreciation in add Depreciation methods for tax per- Lion to the, traditional "straigh line poses were gradually worked out in the t " depreciation method ., (1) percentage early years by administrative regulation depreciation (a constant percentage o f rather than by legislation, the unrecovered basis of the asset is The Act of 1909 permitted "a reason- allowed each year) ; (2) the "sum-of-the. 16, George Terborgh, Realistic Depreciation Policy, Machinery and Allied Products Institute, 1934, pp. 12, 13 , 17, Allowances which permitted deducting the original cost of capital equipment over a much shorter period of time than Is normally used as the "life" of such assets,

28

in "Bulletin F," which had been in us e Table 4 since 1934,19 The new procedures als o contained a "reserve ratio test" designed Investment Tax Credit and to provide "an objective basis for ap- Corporate Assets Affecte d praising the correctness of the usefu l Income Years 1962. 19661, ."20 • (Millions) lives claimed for tax purposes These changes in depreciation policy Investment Tentative Cost of tax investment assets were part of a large effort to reduce, ta x creditb tax credits eligible barriers to increased investment? 1 , 1962 $ 834 $1,133 $22,477 1963 1,106 1,412 _24,296 The lnvestnwnt Tax Co edit 1964 1,318 n.a. n,a . 1965 1,716 n.a. n.a . The Revenue Act of 1962 provided a -1966 2,019 n.a . n.a. credit against tax liability of seven per - cent of "qualified" investment in machin - n.a. = not available a. Most corporations are on a calendar year basis. ery and equipment (3 percent in th e b.:Credit claimed on corporation tax returns . In addition, individual proprietors and partriars case of public utilities) . The credit ap- claimed credits of $281 million in 1963 an d Investment he credit was 7 percent ;plied to depreciable personal property ~o$ q Iiilliio ,. .with a useful life of at least 4. years , . "Differencef c from credit claimed represents un- used credit by firms with no income tax, an d credit in excess of over-all limitations provided The amount of investment credits by law. .claimed by corporations rose from $834 sourcet "U,S. Treasury Department, Statistics of in. come, Corporation Income Tax Returns , million in 1962 to °$2,0 billion in 1966 1962 to 1966, and Business Tax Return s 1 ON. (Table 4) , As a result of the inflationary pressures .years-digits" method; and (3) any other in 1966, the Administration proposed, method that does not exceed the maxi- and Congress enacted, a suspension of a i mum allowances under the above meth- the tax credit for the period beginning . ods. These provisions allowed deprecia - October 1, 1966 and to end January 1 , tion at rates equivalent to twice the rate s 1968, The "Restoration Act" of 1967, under the old "straight line" method . however, restored the credit as. of March . .They added substantially to the allow- 9. 1967. ances permitted in the early years of th e After the passage of the tax credit life of an asset, and meant a considerable in 1962, business investment increase d hberalization.18 considerably, The tax credit appears t o The next big change was the adminis - have plaved an important role in stimu- trative liberalization of 1962 when the lating investment. Treasury issued new guidelines permit- A recent study has concluded tha t ting more rapid writeoffs for most classes ". , . tax policy (in particular the acceler- of assets, The useful lives suggested in ated depreciation methods adopted in the 1962 "Procedure" were on the aver- 1964, the investment tax credit of 1962, age 30 to 40 percent shorter than those and the depreciation guidelines of 1962 )

1S. In some cases, for example on new buildings, these methods might permit write-offs of original costs quicklyy enough to allow owners to sell, the assets at a substantial profits over book-value—in effect converting ordl- nary Income into a capital gain, (See below, pp, 73, 74, ) 19, The Federal Tax System : Facts and Problems 1964, materials assembled by the Committee Staff for th e Joint Economic Committee, Congress of the United States (Washington, D. C, ; 1964), p, 91 , 20, Ibid. 21, Details on fiscal policies and charges in objectives over the last two decades can be found in Tax Founda- tion, Alternatives and issues to Federal Fiscal Policy (New York ; 1966),

29

is highly effective -in changing the level the investment credit appears to be gen - . . .: ... --and timing- -of . .investment expendi- erally accepted, and further use of tunes,"22 chawyes in the credit for purposes of eco- nomic stabilization would seem unlikely, - Various estimates were made of th e .,,potential effect of suspension of the tax Treatment of Dividends credit in 1966 on business investment , -some as high as $5 billion a year .23 The early history of the treatment o f In February 1967, an official estimate dividends has been given above. The was released showing that all business exemption of dividends from the "nor. planned to reduce investment outlays.,;: Mal tax" portion of the individual income by $2.3 billion in 1967,24 tax was continued until 1936 . This ex- emption was abolished with the adop - Suspension of the credit in 1966 was tion of the undistributed profits tax of -strongly criticized by many who argued 1936, After the demise of the undistrib - per. that the credit was intended to be uted profits tax, dividends were left full y manent and not to be used as an >tnstru- taxable under ordinary income tax rates . .ment for short-run effects on business u ntil 1954with little consideration, activity. The Administration and Con- initially, of the question. of . double tax, press were quick to restore the credit in ation of divid ends. 1967 when the llevel of investment de - c fined, The Internal Revenue Code of 19 54 introduced a dividend "exclusion" and Administrative and compliance-prob- ;tax credit. From 1954 to 1963 individual s lams were significant as a result of the could exclude the first $50 of dividends effort to limit the suspension of the credit from gross income and take a credit "suspen- and accelerated depreciation to against the total tax otherwise due sion period" investment, Le ., that portion amounting to 4 percent of dividends . of costs attributable to the period Octo- received in excess of $50 . ber 10, 1966 through March 9, 1967, Th e "Restoration Act" also raised the limits- This measure was the result of a ; tion on the credit that might be claimed lengthy debate of the problems of double in one year from 25 percent of tax lia- taxation of dividends and of how to ar- bility in excess of $25,000 to 50 percent "rive at an equitable treatment of diva - of such liability. The credit may be taken dends, If the corporation tax primarily -against the entire amount of , the first falls on dividend income, and dividend . - $25,000 of tax liability, income is fully subject to the ordinary - rates of the individual income tax the n Despite the renewal of inflationary this income has been doubly subject t o pressures in late 1967, no suggestion has to essentially the same tax. been made for another such suspension of the tax credit. After the lengthy de- The tax credit device turned out to b e bate' of 1967, the permanent character of temporary, It was removed by the Rev -

22. Robert E. Hall and Dale W, Jorgenson, "Tax Policy and Investment Behavior," American Economic Review Vol, 57, No . 3, June 392, A different conclusion credi alone,a sed s limited uestionnalre surveyP , reached by F, O, Woodward an d Vincent M 5 Panichi , Inv. tment I nInfluencesauence of the Tax6Crdlt m," National Tax Journal, Vol,,C 18,vNo. , September 96 1 pp. 272.275. 23. Melvin I . White, "Tax Poilry and Business Investment," remarks before the annual meeting of the Ameri . can Association of Cost Engint :rt. Cleveland, Ohio, July 12, 1967 (U, s, Treasury Department, mimeo) . 24, UX House of Representatives, Committee on Ways and Means, Restoration o/ investment Credit an d Allowance of Accelerated Depreciation lit the Case of Certain Real Property . Report No, 131, 9001 Cong , 1st seas ., March 15, 1967, pp, 6 .8.

30

enue Act of 1964 . The administration mation has largely eliminated under - argued that the tax credit was not a n reporting of such income, - -- equitable way to relieve "double taxa- tion," and that the general reduetioas i n Tux Puynent Speerl-Ups the corporation and individual incom e Since the Korean War, corporations tax rates would be more effective i n have been subject to an almost continua l achieving the goals of the dividen d process of advancing dates when tax credit, However, the 1964 Act increased payments are due. These payments the "exclusion" to $100 ($200 for a mar- speed-ups have provided additional cas h ried couple) . The exclusion is essentially revenue to the government and have a concession to the low-income dividen d :- now made actual payments almost coin- receiver. cident. -with. the incurrance. of tax liabili- ties . The issue of double taxation of divi- dends has yet to bo satisfactorily re- Before 1950 corporation income taxes solved, in part because of the unsolved were paid in four quarterly installments , problem of incidence. Many calculations the first of which was due irr ,the third of the effects and impact of the dividend month after the end of the year for whic h credit assumed that the full impact of the tax liability accrued, Under the Rev- -the corporation income tax fell on stock - enue Act of 1950, a transition to a system ,holders. On this view, the 4 percent divi- in which all payments would be mad e dend credit fell far short of eliminatin g within six months of the year of liability _, the double taxation involved. At the was accomplished by stages over a five- same time the tenuous nature of the as- year period, Under the Revenue Act of sumption that the full impact of the 1954, a similar program was adopted corporation tax is on current stockhold- under which tax liabilities in excess of ers leaves unsupported detailed calcula- $100,000 would be paid quarterly be- tions of the kind of credit needed t o ginning in the last half of the year of tax -eliminate any actual double taxation . liability, Again transition to this syste m Indeed, the logic involved in the divi- was accomplished over a five-year pe- dend credit, if strictly followed, leads to riod. The Revenue Act of 1964 provided the "integration approach to corporate for a current payment system, similar to and individual income taxation. (See that used for individuals, for corporate ,;`pages 69-71 for further discussion of tax liabilities in excess of $100,000 . This this approach. ) was to be accomplished over a seve n year period, However, the Revenue Acts Another issue which historically wa s of 1966 and 1968 provided for a further of considerable importance in connec- speed-up in this program and extension tion with both dividends and interes t of the program to all corporate tax lia- was the large amount of such incom e bilities, -which was estimated to escape taxation through non-reporting or underreport- Such provisions have been primarily ing. The Revenue Act of 1962 instituted designed as a method of extracting addi - a comprehensive system of reporting o f tional revenue, but they have often pu t interest and dividends as paid by busi- pressure on financial markets, as corpo- ness firms, After many early difficulties rations borrowed to meet tax payment s in the handling of these "informatio n sometimes due in advance of their ow n returns," it now appears that the auto- receipts from sales.

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The current payment system als o close to adoption. A general sales or ex- serves to make corporation tax collec- cise tax was debated and considered in tions more sensitive than they alread y the early 1920's, in 1932, and again dur- were to changes in business :activity. ing World War II, as well as during the Korean War. A value-added tax and "in- Revenue and Expenditure Contro l tegrated" forms of the corporate an d Act of 1968 individual income taxes have also been - considered, The Revenue and Expenditure Con- Among the notable features of the 1968 trol Act of imposed a10 percent past 15 years is the continuation of a surcharge on both corporate and indi- high corporate tax rate, well above the vidual income taxes, This act was passe d pre-Korean War rate of 38 percent , in June after a long debate -- stretchin g combined with numerous structura l over more than a year chiefly concern - changes designed to make the tax more -Ing the expenditure control features, Th e flexible for different types of corpora- " latter were an innovation in a Revenue tions, and to modify its adverse effect s =Act. The surcharge on corporations wa s on business investment, Small corpora- made retroactive to January 1, 1968, and tions have received more liberal treat- that on individuals to April 1, 1968. Cor- ment, while taxes have been imposed porations were subject to a furthe r on mutual savings institutions and co- speed-up in tax payments, putting the m operatives. Accelerated depreciation, re- effectively on a fully current basis, Eco- vised guidelines for treatment o f nomic data for the first quarter followin g depreciable assets, more liberal treat- the passage of this act failed to sho w ment of research and development ex- much evidence of a "braking" effect o n pendibures, and the investment ta x busin ass activity, but the large :budget credit have been used to reduce ta x deficit was sharply cut. barriers to business. investment..and eeo- nomic growth. Summary The 1966 suspension of the invest- In the past decade the corporation ment tax credit was an unusual use of tax has produced a little under one- the corporation tax as an instrument of fourth of Federal tax collections (in. short-run stabilization policy, and it was eluding trust fund taxes), Although quickly restored early in 1967. The tax alternative sources for a substantial por- surcharge of 1968 appears to have been tion of this revenue have been consid- a not very successful use of this tax for, ered at various times, none has come stabilization purposes,

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Incidence and Burden . . . .

The probl.-ms of determining tax in- its costs—would have only one effect , cidence — in general terms, the nature ` rnamely to reduce net profits . The nu- ,and distribution of burdens imposed on merous assumptions on which this con- particularly difficult in elusion is based include the following; the case of any tax important enough to (1) the tax and any government actions affect large segments of the economy, associated with the tax have no effect Traditionally, the incidence of taxation on the demand for the firms products , has been examined in the context of the ai.d (2) the tax and any associated gov- probable effects of a tax on the cost po- ernment actions have no effect on the sition of a firm, or a particular industry, cost conditions , under. which.-Ahe irm given the demand for its product, and operates, the resulting change in the output and Moreover, the corporation tax in price of its products, Because of its size, practice is not a tax on pure„ profits . `however, the Federal corporation in but is a tax on returns to equity capital come tax, which produces about $38 in the corporate form of enterprise, I n billion a year, requires other kinds of he long run, returns to equity capital _ .,analysis, The "large amount of revenue , are a seal cost of production ; Investors involved and the associated government examine the returns on equity invest- :mustexpenditures affect the level of nients subject to the corporation tax and . activity, the levr: .of income in :compare returns on other kinds of in- " all segments of the economy, and the , - vestments not subject to the corpora- ;demand for corporate products, . tion tax. While the corporation tax does The older, "partial equilibrium" anal- hit "monopoly profits" and windfalls, it .;-ysis typically dealt with the corporation - ;also falls on the returns to one of the income tax as follows ; Each firm is as- major factors of production, capital, "sumed to maximize its profits, given the when that return is in the form of cor - demand and cost conditions for its prod- porate profits; and it probably also af- . uct or products, A tax levied on "pure" fects returns to capital in all forms, The - profits — after deduction of all costs — corporation tax is similar to a tax on `would, under the conditions assumed, labor (e,g,, the payroll tax) insofar as it have no effect on the firms decisions falls on the "normal" price paid for cap - " about its output or prices, If the tax ital services, rather than exclusively-on _- _.were, say, 50 percent, the firm could do windfall or monopolistic gains , .nothing to increase its net profits after Today s corporation income tax, tax, because 50 percent of maximum profits would also be the maximum for which directly affects firms which ac . net profits after tax count for over half of gross national product, can 1iaidly fit into the assump- Thus, a tax on "true economic profits" tions of traditioi,al partial equilibrium -the excess of a firms receipts over all analysis, An examination of this tax re -

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quires an analysis which takes account, counts . It emphasizes the diversion of among other things, of effects on the resources from private to "public" (or level of business activity and incomes in governmental) uses, even when much of 111 segments of the economy. the income, corresponding to the outpu t involved, does not go through indi- Ue finitions of Burden and Incidence vidual or household budgets. This def3- nition leads to an analysis of the ihe tax burden has sometimes been economy by sectors, and it points to sig - defined simply as the amount of tax nificant differences between total output revenue collected by the government, and total income, 2 It leaves room for ,,More generally, it has been defined as various possible treatments of the larg e the reduction in real incomes of per- amounts of imputable income involve d _sons as a result of taxation, However, when the tax burden, defined in terms ; such a definition leaves unanswered the of national output, is related to the wet- question of how government expends- . . fae of individuals. lures are to be treated in analyzing the effect on real incomes of persons, Most analyses of tax incidence deal In the analysis of taxes, it is usually almost exclusively with effects on 'in-. " " incomes, through price desirable to separate the "burden" or comes, or real effects of taxes from the benefits or other effects. The emphasis is either on the effects of government expenditures. One effects on "factor prices" or the effects way of doing this is to deal only with on prices of final products, Factor prices "differential incidence," that is, to ex- are those paid by firms for productive amine the effect of a change in the services of the factors of production (in - make-up of taxes on the distribution , of . :the broadest terms, labor and capital), real incomes, given the level of govern- Thus, most analyses of the corporatio n ment expenditures, It is often of major tax relate to changes in the rate of re - . ,;. interest, however, to examine the effects turn on capital and to the profit mark- - of an increase or decrease in taxes ac- up on costs. companied by a similar change in gov- These are important elements in th e ernment expenditures, burden and effects of the corporatio n Because such changes have effects on income tax, and efforts to estimate these the level and major components of total effects statistically are discussed below , income and output, it is difficult to con- However, taxes also have other effects fine the terms "burden" and "incidence" on the level of national income and out- to effects on the distribution of income put and on its make-up which are not among individuals, necessarily dependent on changes in particular groups of prices, The term "burden" may be defined, alternatively, as the amount or propor- The approach suggested here empha - tion of national output diverted to, or sizes the large difference between tota l through, government, This definition national output at market prices and the refers to the "product," rather than to income received by individuals for pro - the income, side of the national ac- duetive services, The differences be -

t . Further discussion can be found In Marian Krrvzanlak, "Tito Long-Run Burden of a (lenerai Tax on Profits in it Neoclassical World," Public Finance, Vol, XXIL No . 4, 1967, pp, 472, 473, and in Richard A , Musgrave, Ilie Tltear.v of Public Finance (New York ; McGraw-Hill, 1959), pp, 211 .231 . 2. For a detailed discussion of the differences betwee n "output" and "Income" see Appendix A, (Appendix A is available se'parate'ly on request,)

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tween "market prices," which are inclu- is simply an accounting identity which sive of all taxes, and the prices received reflects the fact that in any transaction - by individuals for productive services what is paid by one party must be equa l must affect the typical decisions of busi- in amount to what is received by others, - ness firms and households. But to make total income equal to the value of output, we have to impute over _ In the concepts of national income $100 billion of taxes as income . The accounting, the total value of final goods corporation income tax and employers and services in any period (i.e., GNP) is contributions for social insurance by definition equal to a corresponding amounted to $55 billion in 1967, Indirect total of incomes paid, payable, or at- business taxes, as now classified in the . , tributable, to the owners of the factors national income accounts, amounted t o of:production for services rendered, This $68 billion,

Table 5 Inco.me and. Product Sides of the U .S. NationalAc,c,ounts Calendar Year 1967 (Billions)

Income Side Product Side Total gross national product :$789,7 $789,7 -Total GN P Capital consumption allowances 69,2 492,2 Personal consumptio n Indirect business taxes a ; 68,0 expenditure iFederal 16,2 114,3 Gross private domestic State and local 53.4 investment Less: Subsidies minus current 4,8 ,: surplus of government :Net exports of goods and services enterprises 178A Government purchase of goods .,C 1,6 andiservlces orporate profits except dividends 57,5 Corporate profits tax 33,5 Undistributed profits 25,2 Inventory valuation adjustment 1,2 Personal income fro m productive services 595,0b Wages and salaries 423.4 4plements to wages and salaries mployer contributions fo r social insurance 21,5 Other labor income Employer contributions t o private pension and welfare funds 1915 Other 3,8 Income of proprietors 60,7 Rental income of persons 20,3 Dividends 22,9 Net interest 23.3

a, Includes nontax payments to government and current surplus of government enterprises les s subsidies, b. Includes personal contributions for social Insurance which amounted to $20,4 bililon in 1967, c. btee personal Interest Income ($46,8 billion) less Interest paid by government and consumers ($23,6 Source: U,S, Department of Commerce, Survey of Current Business, July 1968,

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Large tax items are deducted fro m This would be a large order if only he receipts of business enterprise an d because of the longstanding existence of are allocated to various uses withou t these taxes and related expenditures, It first being received as income by indi- is evident from Chart 2 that the indirect - viduals or households. The "income" is and corporate tax segments of the in - there in the sense of the economic pro- come side of the accounts have been - duction involved, but it must be im- important for decades, and that much of .; . puted to individuals to make tota l the "income" involved has never : been income equal to the value of output. received directly by taxpayers. In a similar way, undistributed cor- The fiscal operations of governmen t porte profits are a payment for a portio n affect the incomes of individuals no t of national output that is allocated to only by changing ".the total of income specific uses without first becoming a produced and by changing the relative part of household income . The "income. prices of goods and services, but also by again must be imputed to individuals, shifting resources between the house- 1iold, business, and government sector s In addition, a substantial amount o f of the economy without distribution of "personal income, as defined by the related income to households. As shown Department of Commerce, is not cur- by Table 5 we are dealing with items rently received by individuals, but i s that amount to . something in excess o f allocated to assorted uses largely, by $100 billion. :, business decisions. The main item in- volved consists of employers contribu- Significance of Imputed Incom e tions to pension and welfare funds , These items must be imputed to indi- The emphasis here on the size and viduals to make total income equal t o importance of imputed portions of in- the value of output. come contrasts with a view commonly found in discussions of incidence , Table 5 shows the gross national namely, that all income is essentially product and its major components o n income of individuals . -the income and product, or output, side s for 1967. Total income received by indi - As a matter of national income ac- viduals for factor services (personal in- counting, the equivalence between tota l come from factor services as shown i n income and total output is a definitiona l Table 5, less "supplements to wages and equation, in the sense that all of th e salaries") amounted to only 70 percen t items on the income side of the nationa l of GNP. economic accounts must add tip to the - value of output. By itself, however, thi s It may be argued that the indirec t equivalence is not particularly useful in business and corporation tax compo- an analysis of the essential relations tha t nents of the income side of the nationa l determine national output and itsmajor accounts represent income that woul d components , otherwise have been received by indi- viduals, The problem then, presumably , To view the problem another way, is to determirue what the incoines of dif- the equality between income and out - ferent groups of individuals would hav e put would be a significant economic re- been at a lower level of taxes and gov- lation if there were no difference in the erninent expenditures, way individuals reacted to changes in

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. I .

Chart 2 GROSS NATIONAL PRODUCT RELATED TO PERSONAL INCOME FROM FACTOR SERVICE.. S Calendar Years 1947-1967 Billions Billions $1,000 $1,000 900 "900 800 Soo 700 700 600 600

500. 500 (e 0000/ (b) 400, (1)~, 400 2 (a) 300 . . , , 300 (3) d ; 25 (4

200 000000010071-- , 001 ~20

: 1 5 150:

i 1 0 10 (6) 9 g 8 8 : 7 7 o j 6 6

5 (1) Gross national product (a) Capital consumption allowances (2) Net national product (b) Indirect business taxes corporat e (3) Personal Income from profits taxes, and undistributed 4 factor services corporate profits (c) Dividends, Interest, income of (4) ^.ompensatlon of employees. proprletors, and rental income s (5) Wages and salaries of persons 3 (6) Dividends (d) Supplements to wages and salarie s

National income less corporate profits before taxes plus dividends ,

1947 49 51 53 55 57 59 61 63 65 67 Sourcet U,S, Department of Commerce,

income received and to changes in in- government-expenditure " situations. come imputed to them. In fact, the im- Changes in tax policies and tax strue - putable income is a result of the exist- tures need examination in the light of the - once of other decision-making units, typical behavior of the household, corpo- besides households, influencing the alto- _cation of resources or the uses of output, rate, financial, and government sectors of the economy. It is beyond the scope of The essence of this argument has this study to pursue such an analysis in been stated in a succinct form by Pro- detail. However, a few lines of develop- fessorMartin Bailey as follows : ment are indicated in the following sec . . . , government expenditures of a tions and in Appendix A . consumption nature are of value onl y to the extent that they have a con- Empirical Analyses of sumption value to individual house- Corporation Tax Incidence holds, (and) . . . governmen t expenditures of an investment nature T wo types of empirical studies of will yield their future product in one incidence may be distinguished . One way or another to individual house- examines the size of tax burdens in rela- -holds, and . . , under full employment, ion to individual incomes, given existin g the makingg of either type o exe . prices of factors and final output f ores reduces the total real resourcess . The currently available to households for other attempts to measure, or estimate , private consumption and addition to the effect of the tax on selected prices , wealth. If these facts are recognized both before and after tax, usually on and given exactly accurate weight by -.:;:assumptions which take national output households, in every relevant respect , _ then the government can without er- as given or determined by influences _ - ` ror, be consolidated into the private other than the corporation income tax. sector. From the standpoint of eco- Little has yet been done in analyzin g nomic analysis, there would be no incidence in a framework that would in - more reason for treating govern ment as an entity separate from the private elude changes in national output-as,,part sector than there would be for treat- of the problem of incidence. ing a corporation as an entity separatr, Analyses of Incidence, Given Facto from its stockholders, where the stock r -:holders were in full and knowledge - and Consumer Prices. A series of statisti- able control of its affairs. 3 cal studies have been made in which th e economy is considered to have adjuste = The intervention of these two institu- d to existing levels of taxes and govern tions, government and corporations, be- - . ment expenditures, and the statistica tween individuals market decisions and l analysis consists of examining the size the allocation of resources leads to differ- of ences ,In the determination of total equi- o levels of prices and incomes .4 librium output and in the effects of taxes . Moreover, we cannot realistically con- While such studies do not show how struct what would happen in the absence taxes affect factor incomes-before-tax, of these institutions, or on the assump- they can take account of the impute d tion that they are mere proxies for indi- income elements in national output b y vidual market behavior, and then com- using a broad definition of income equiv. pare this situation with "after-tax-and- alent to the value of output, arr allocat-

3, Martin Bailey, National Income and the Price Leval (New York : McGraw-Hill, 1962), p, 47 , 4, see Tax Foundation Research Bibliography No, 15 . "Allocation of the Tax Burden and Expenditure Bene - fits by Income Class ."

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