THE TAXING POWER OF THE FEDERAL AND STATE GOVERNMENTS REPORT TO THE JOINT COMMITTEE ON INTERNAL REVENUE TAXATION PURSUANT TO SECTION 1203 (b) (6), REVENUE ACT OF 1926 PRINTED FOR THE EXAMINATION AND USE OF THE MEMBERS OF THE COMMITTEE Note.—This report has been ordered printed for purposes of informa- tion and discussion, but it has not yet been considered or approved by the committee or any member thereof 0^ UNITED states GOVERNMENT PRINTING OFFICE WASHINGTON : 1936 JOINT COMMITTEE ON INTERNAL REVENUE TAXATION Senate House of Representatives PAT HARRISON, Mississippi, Chairman ROBERT L. DOUGHTON, North Carolina, WILLIAM H. KING, Utah Vice Chairman WALTER F. GEORGE, Georgia THOMAS H. CULLEN, New York JAMES COUZENS, Michigan HENRY W. KEYES, New Hampshire ALLEN T. TREADWAY, Massachusetts ISAAC BACHARACH, New Jersey B. C. Beown, Secretary L. H. PAEKEB, Chief of Staff G. D. Chesteen, Assistant Chief Colin F. Stam, Counsel II LETTER OF TRANSMITTAL Congress of the United States, Joint Committee on Internal RE^^NUE Taxation, Washington^ November ^^, 1936. To Members of the Joint Committee on Internal Revenue Taxation: There is transmitted herewith a report on The Taxing Power of the Federal and State Governments, as prepared by the staff of the committee. The report deals primarily with the limitations on the Federal and State taxing power under the Federal and State constitutions. However, the inherent limitations upon the Federal, State, and local Governments are also discussed. No attempt has been made to ex- press individual opinions, the report merely developing the law as applied by the Supreme Court to actual cases. In view of the large number of constitutional questions affecting taxation which have been considered by the Supreme Court in the last few years, it is believed that this report will be of particular interest to the members of the committee, especially as a ready ref- erence to actual cases decided by the Supreme Court. Very truly yours, Pat Harrison, Chairman^ Joint Committee on Interrud Revenue Taxation. m : LETTER 0¥ SUBMITTAL Congress of the United States, Joint Committee on Internal Revenue Taxation, Wcoshing^ton, October 8, 1936. Hon. Pat Harrison, Chairman, Joint Cow/mittee on Internal Revenue Taxation, Washington, D. G. My Dear Mr. Chairman: There is submitted herewith a report containing a discussion of the powers of the Federal, State, and local Governments to impose and levy taxes. The report is divided into three parts, as follows Part I. Powers of the Federal Government. Part II. Powers of the State governments. Part III. Powers of counties, municipalities, and subdivisions. The report discusses the inherent limitations upon the Federal, State, and local governments in addition to the limitations contained in the Federal and State Constitutions. In a brief way this subject was covered in a preliminary report on "Double Taxation" prepared in 1932 by the staff of the Joint Com- mittee on Internal Revenue Taxation at the direction of the Commit- tee on Ways and Means and at the request of its Subcommittee on Double Taxation, of which Hon. Fred M. Vinson, of Kentucky, was chairman. However, since that time many constitutional questions have arisen which were not covered in the preliminary report. In fact, during the past few years the Supreme Court has had occasion to dispose of many constitutional questions which have been unsettled since the foundation of the country. In the Federal field questions involving delegation of legislative power, the meaning of "general welfare" as used in the taxing clause of the Constitution, the effect of the tenth amendment upon the taxing power, the taxability of stock dividends, the right of court review of constitutional facts, the power of Congress to tax trusts created to avoid the estate or income tax, and the right of stockholders to main- tain suits to enjoin collection of Federal taxes are all questions which have been recently considered and passed upon by the Supreme Court. In the State field many constitutional questions have also recently been decided in the last few years. The effect of the police power of a State upon the provision of the Federal Constitution relating to the impairment of contracts, the right of the courts to set aside assess- ments made by State officers on the ground that they are arbitrary or excessive, the right of a State to discriminate against its own citizens in favor of citizens of other States, and the right of a State to tax property located, or income earned, outside its borders are all ques- tions which have been recently considered by the Supreme Court. : VI LETTER OF SUBMITTAL Special consideration has been given in the report to the power of the Federal and State Governments to tax the income of Federal or State securities or the salaries of Federal and State employees. No attempt has been made in the report to express individual opinions, but merely to set forth the law as interpreted and construed by the courts. It is hoped that the report will furnish a ready reference to Members of Congress and the public as to the powers of the Federal, State, and local governments to levy and impose taxes. In the preparation of the report valuable assistance was rendered by Mr. W. L. Wallace, attorney, and Mr. Carl A. Phillipps, technical assistant of the staflf, in connection with the data relating to State constitutions. Respectfully submitted. Colin F. Stam, Counsel. Approved L. H. Parker, Chief of Staff. PROVISIONS OF FEDERAL CONSTITUTION RELATING TO TAXATION direct Taxes Article 1, section 2, clause 3: "Representatives and shall be apportioned among the several States which may be included within this Union, according to their respective Numbers, which shall be determined by adding to the whole Number of free Persons, including those bound to Service for a Term of Years, and excluding Indians not taxed, three-fifths of all other Persons."^ shall Article 1, section 7, clause 1 : "All Bills for raising Revenue pro- originate in the House of Representatives ; but the Senate may pose or concur with amendments as on other bills." to Article 1, section 8, clause 1 : "The Congress shall have power lay and collect taxes, duties, imposts and excises, to pay the debts and provide for the common defense and general welfare of the United uniform through- States ; but all duties, imposts, and excises shall be out the United States." direct, Article 1, section 9, clause 4 : "No Capitation, or other Tax shall be laid, unless in Proportion to the Census or Enumeration hereinbefore directed to be taken." Article 1, section 9, clause 5: "No Tax or Duty shall be laid on Articles exported from any State." Article 1, section 9, clause 6 : "No Preference shall be given by any Regulation of Commerce or Revenue to the Ports of one State over those of another; nor shall Vessels bound to, or from, one State, be obliged to enter, clear, or pay Duties in another." Article 1, section 10, clause 2: "No State shall, without the Consent of the Congress, lay any Imposts or Duties on Imports or Exports, except what may be absolutely necessary for executing its inspection Laws; and the net Produce of all Duties and Imposts, laid by any State on Imports or Exports, shall be for the Use of the Treasury of the United States ; and all such Laws shall be subject to the Revision and Controul of the Congress." Amendment Article XVI : "The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration." iThe part of this clause relating to the mode of apportionment of Representatives among the several States was amended by the fourteenth amendment, sec. 2, and as to taxes on incomes, by tlie sixteenth amendment, which is quoted above. vn CONTENTS Introduction 1 Part I. Powers of the Federal Government 1 A. Scope of powers 1 1. Revenue bills to originate in House 1 2. Revenue bills defined 2 3. Delegation of legislative powers 3 4. Power to levy taxes, duties, imposts, anci excises 5 (a) In general 5 (b) Tax defined 5 (c) Regulation instead of tax 6 (d) Direct and indirect taxes distinguished 6 (e) Duty defined 8 (f) Impost defined g (g) Excise defined 8 5. Specific limitations upon Federal taxing power 8 (a) General restriction upon sovereignty 9 (1) Jurisdiction 9 (a) In general 9 (b) Citizens 9 (c) Nonresident aliens 9 (b) To pay the debts and provide for the com- mon defense and general welfare 10 (1) Debts defined 11 (2) General welfare defined 11 (a) Whether a separate power 11 (b) The Madisonian theory 13 (c) The Hamiltonian theory 13 (d) Prevailing view 13 (c) Rule of apportionment 15 (1) Application to States 15 (2) Application to District of Columbia and Territories 16 (d) Rule of uniformity 16 (1) Uniformity defined _ 16 (2) Effect of State laws _ 18 (3) "United States" defined 18 (4) Discrimination by administrative oflB- cers 19 (e) Prohibition upon export taxes 19 (f) The due process clause of the fifth amend- ment 21 (1) Confiscation of property 21 (2) Classification of income according to invested capital 22 (3) Taxing unlawful business 22 (4) Taxing partnership as corporation 22 (5) Denial of refunds where tax passed on_ 23 (6) Revocable trusts—estate tax 23 (7) Retroactive taxes 25 (a) In general 25 (b) Correction of mistakes of ad- ministrative officers 26 (c) Summary of rules 26 (8) Denial of court review 27 IX — X CONTENTS Part I. Powers of the Federal Government—Continued. A. Scope of powers—Continued. 5. Specific limitations upon Federal taxing power—Con.