Civic Literacy Curriculum

Background

The federal government’s taxing and spending power has always been controversial.  Article I, Section 8 gives Congress the power “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.”  What did that mean, and what could they spend it on? 

For James Madison, writing in Federalist 41, that phrase had simply been borrowed from the Articles of Confederation’s careful limitation of power and, as it had in the Articles, meant no more than a shorthand for funding the enumerated powers described in the rest of the document. In other words, for Madison, there was no independent taxing and spending power, only the authority to tax to accomplish the limited goals of the federal government—otherwise, he feared, why bother so carefully limiting federal power? For Alexander Hamilton, by way of contrast, writing shortly after the Constitution went into effect, the tax power was a free-standing power, not an implementation of the Constitution’s enumerated federal powers, and could be used in any way that would advance “the general welfare” of the United States, which initially meant subsidies to desirable manufacturers. Madison won briefly, blocking Hamilton’s subsidies, but Hamilton would win in the end: the Supreme Court eventually adopted a version of Hamilton’s more expansive interpretation during the New Deal.

But what kind of taxes could the federal government implement? Through most of American history, the federal government raised revenue largely through tariffs and land sales, and eventually postage. The Supreme Court had early on upheld the constitutionality of a tax on carriages as a legitimate excise tax (Hylton v. United States), which also gave a green light to other excise taxes, such as on alcohol sales. (That helped a lot too.) But with the frontier being settled, land sales were fading, and the growing prohibition movement in the states threatened that revenue source, too. Even more importantly, the free-trade movement questioned whether tariffs were an economically efficient or just source of government revenue.

In late 1894, Congress turned to the income tax, which had been briefly used during the emergency of the Civil War. Because the Constitution specifically banned “direct taxes” unless apportioned among the states by population, the Supreme Court held an income tax imposed on individuals unconstitutional in 1895. In 1909 Congress proposed and, in 1913, the states ratified, the Sixteenth Amendment to give the federal government a new enumerated power to impose an income tax.

How to pay the tax was another question. The first Sixteenth Amendment income tax instituted tax withholding, in which one’s tax obligations would be withheld from payment—the federal government would take its cut before the taxpayer received it. This system proved unpopular and was quickly repealed, and Americans would calculate their annual earnings and submit a quarterly tax payment. (As it was few Americans were paying income tax, since in an era of limited government, federal expenditures were small). But the payroll tax of Social Security, other New Deal expenditures, and World War II imposed massive new costs on the federal government. In order to fund these new government expenditures, the federal government adopted tax withholding, in which employers withhold the federal government’s share of taxes, effectively the system we have today. 

In the first quarter of every new year, Americans calculate their federal tax obligations and incomes and by April 15 file their tax returns. For those who still owe the federal government, a payment is made, but for most, whose withholding is greater than their actual obligations, they will get their overpayment returned back to them.