by Sheldon Richman
Sheldon Richman is the editor of The Freeman and In brief, and a contributor to The Concise Encyclopedia of Economics. TGIF appears Fridays. Comments welcome.
Surely any champion of freedom wants to get rid of the income tax. And surely the way to really get rid of the income tax is to repeal the Sixteenth Amendment to the U.S. Constitution. Right?
Repealing the Sixteenth Amendment would be a waste of time because its disappearance would change nothing. Alas, Congress could continue to tax incomes (and anything else).
This dismal subject is on my mind because the U.S. Supreme Court last month decided not to hear the case known as Murphy v. IRS. (I've written about it here and here.) To recap the case, Marrita Murphy was awarded $70,000 in compensatory damages for the mental distress and loss of reputation she claims to have suffered after she blew the whistle on her employer, the New York Air National Guard. She paid about $20,000 in federal income taxes on that money, but later asked for a refund because the award, she argued, was exempt from tax under sect;104(a)(2) of the Internal Revenue Code, which excludes from gross income the amount of any damages (other than punitive damages) received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal physical injuries or physical sickness.
The IRS turned her down because her injuries were nonphysical. Murphy lost her case in federal district court, but won in the court of appeals, which declared sect;104(a)(2) unconstitutional. But before the ink was dry on the ruling, the three-judge panel reversed itself. If Congress wants to exclude from income damage awards for physical injuries but not for nonphysical injuries, that was Congress's business, the judges said. As the Supreme Court put it in 1996, exclusions from gross income were matters not of right but rather of congressional generosity. Taxpayers apparently should be grateful for what they are given and should not ask for more.
Murphy asked the Supreme Court to take the case, but, unfortunately, on April 21, the Court said no. The decision stands.
The Sixteenth Amendment
To see how this bears on the Sixteenth Amendment, we must back up a few steps. Many people believe that the amendment was added to the Constitution in 1913 because the Supreme Court had declared the income tax unconstitutional in 1895. This is incorrect. The Supreme Court has never said income taxation is unconstitutional.
In 1894 Congress passed–and President Grover Cleveland allowed to become law without his signature–a tariff-lowering bill that included a two percent tax on incomes over $4,000 (over $91,000 today) to make up the lost tariff revenue. Charles Pollock, a stockholder in Farmers' Loan amp; Trust Co., challenged the law on grounds that the tax on his dividends was unconstitutional because it was a direct tax that — contrary to constitutional requirement — was not apportioned according to the populations of the states.
The landmark case Pollock v. Farmers' Loan amp; Trust got to the Supreme Court, and to make a long story short, the Court ruled that, unlike a tax on wages, a tax on the income from land and personal property (such as stocks) was equivalent to a direct tax on the property itself and thus had to be apportioned according to the census, as required by Article I, Section 9, of the Constitution. (For details, see this and this.) The Court also ruled that the tax on wages was constitutional (a point affirmed by the 1916 Brushaber case). The Court, however, struck down the entire law, including the provision taxing wages, because not to do so, it said, would have put the entire tax burden on wage earners, contrary to Congress's intention.
Thus if Congress wanted to pass an unapportioned tax on all forms of income, it would have to amend the Constitution. Since the Court had ruled in Pollock that the source of income could turn a formally indirect tax into a substantively direct tax, any amendment would have to put the issue of source beyond the reach of the Court. Hence the language of the Sixteenth Amendment:
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. [Emphasis added.]
This history demonstrates that if the Sixteenth Amendment were repealed today, Congress would still have the power to tax wages and salaries, although not property income. But we can take this analysis further. The Pollock decision seems wrong on its face: there is a difference between taxing income from property and taxing property it self. One is a tax on transactions, the other a tax on possession. If you own a house and rent it, an income tax would take a percentage of the rental income. But if you lived in the house, you'd pay no income tax because there'd be no rent.
If the Court erred in Pollock, there never was a need for the Sixteenth Amendment. So repealing it would change nothing. My opinion of the Pollock decision, of course, has no legal weight. But later Court opinions do matter, and in 1937 the Court drew a distinction between a tax on property and a tax on income from property.
In New York v. Graves, the issue was whether a state may tax its residents' income from real or personal property located in another state. That issue is irrelevant to my purpose here, but suffice it to say that the Court agreed with New York that it may tax income the source of which is outside the state. What's relevant is the distinction the Court made between a tax on property income and a tax on property:
Neither analysis of the two types of taxes … supports the contention that a tax on income is a tax on the land which produces it. The incidence of a tax on income differs from that of a tax on property. Neither tax is dependent upon the possession by the taxpayer of the subject of the other. His income may be taxed, although he owns no property, and his property may be taxed, although it produces no income.
Did It Contradict Pollock?
The court, apparently realizing it would be taken as overturning Pollock, strove to avoid that interpretation: [The Pollock] Court did not rest its decision upon the ground that the tax was a tax on the land, or that it was subject to every limitation which the Constitution imposes on property taxes. It determined only that for purposes of apportionment there were similarities in the operation of the two kinds of tax which made it appropriate to classify both as direct, and within the constitutional command [of apportionment].
But this seems a stretch. The Pollock Court said: [Can] it be properly held that the constitution … authorizes a general unapportioned tax on the products of the farm and the rents of real estate, although imposed merely because of ownership, and with no possible means of escape from payment, as belonging to a totally different class from that which includes the property from whence the income proceeds?
At most, the distinction between Graves and Pollock is hair-splitting. Which brings us back to the Murphy case. In the appellate court's opinion upholding the IRS, the distinction between taxing property and taxing property income was affirmed. Murphy had argued that her award was simply compensation for damaged property — her human capital. The court responded, Even if we assume one's human capital should be treated as personal property, it does not appear that this tax is upon ownership; rather, as the Government points out, Murphy is taxed only after she receives a compensatory award, which makes the tax seem to be laid upon a transaction….
With the Supreme Court's refusal to take the Murphy case, Judge Douglas Ginsburg's opinion stands as law. Thus repealing the Sixteenth Amendment would accomplish nothing. As the Anti-federalists warned in 1787 — and the courts have affirmed — the Constitution empowers Congress to tax whatever it wants.
If we are ever to get rid of the income tax, we'll have to do it by amending the real constitution — the one in the hearts and minds of the people.