Income tax is a direct tax which is levied on the income of private individuals. Various income tax systems exist, ranging from a flat tax to an extensive progressive tax system.
Tax levied on the income of companies is often called corporate income tax or corporation tax, although some jurisdictions impose income tax on companies.
An income tax is a tax on net income, which is the difference between gross receipts and expenses.
Income tax in the UK
Income tax is an annual tax, and is reimposed each year in the annual Finance Act.
Income tax has a number of bands: 10% (lower rate), 20% (basic rate for interest), 22% (basic rate), 32.5% (higher rate for UK dividends) & 40% (higher rate for other income). There are also a number of allowances allowed before the tax bands apply.
Income tax was first introduced in Britain by William Pitt the Younger in his budget of December 1798. The revenue was intended to help finance the war against France. Pitt's new graduated tax began at a levy of 2d in the pound (0.8333%) on incomes over £60 and increased up to a maximum of 2s (10%) on incomes of over £200. Pitt hoped that the new income tax would raise £10 million but actual receipts for 1799 totalled just over £6 million.
Income tax was levied under 5 schedules - income not falling within those schedules was not taxed. The schedules were:
- Schedule A (tax on income from UK land)
- Schedule B (tax on commercial occupation of land)
- Schedule C (tax on income from public securities)
- Schedule D (tax on trading income, income from professions and vocations, interest, overseas income and casual income)
- Schedule E (tax on employment income)
Later a sixth Schedule, Schedule F (tax on UK dividend income) was added.
Pitt's income tax was levied from 1799 to 1802, when it was abolished by Henry Addington during the Peace of Amiens. Addington had taken over as prime minister in 1801, after Pitt's resignation over Catholic Emancipation. Income tax was reintroduced by Addington in 1803 when hostilities recommenced, but it was again abolished in 1816, one year after the Battle of Waterloo.
Finally, income tax was reintroduced in 1842 by Sir Robert Peel. Peel, as a Conservative, had opposed income tax in the 1841 general election, but a growing budget deficit required a new source of funds. The new income tax, based on Addington's model, was imposed on incomes above £150.
Income tax has changed over the years - it used to be a tax on income regardless of who was beneficially entitled to it. A person is now levied only on income to which they are beneficially entitled. Also, most companies were taken out of the income tax net in 1965 when corporation tax was introduced.
Also the Schedules under which tax is levied have changed. Schedule B was abolished in 1988, Schedule C in 1996 and Schedule E in 2003, though the Schedular system and Schedules A, D and F still remain.
Rates peaked in the late 1970s at 99%.
History of income tax in the USA
The power of Congress to lay and collect taxes originates in the federal Constition. (U.S. Const. Art. I sec. 10.) The United States is unique in the world in that the founding fathers limited the way the legislature could exercise the power of taxation. One limitation is that direct taxes are subject to the rule of apportionment among the states in proportion to its representation in Congress. (U.S. Const. Art I sec. 2.) The courts have generally held that direct taxes are limited to taxes on people (capitation) and property. (Penn Mutual Indemnity Co. v. C.I.R., 227 F.2d 16, 19-20 (3rd Cir. 1960).) All other taxes, though not specifically named in the constitution, are commonly referred to as "indirect taxes." (See U.S. Const. Art. I sec. 8.) Indirect taxes are a tax on the happening of an event. (Steward Machine Co. v. Davis, 301 U.S. 548, 581-582 (1937).) What seems to be a straightforward limitation on the power of the legislature based on the subject of the tax frequently yields to political exegencies.
In order to help pay for its war effort in the American Civil War, the United States government issued its first personal income tax, on August 5, 1861 as part of the Revenue Act of 1861 (3% of all incomes over US $800; rescinded in 1872). Other income taxes followed, although a 1895 Supreme Court ruling, Pollock v. Farmers' Loan & Trust Co., limited the sources of income that Congress could tax without apportionment.
The popular opinion is that the Sixteenth Amendment to the United States Constitution removed the limitations on Congress, paving the way for the income tax to become the government's main source of revenue. Lower federal courts sometimes refer to "unapportioned direct taxes" and similar catch phrases to describe the power of Congress to tax income. (See U.S. v. Turano, 802 F.2d 10, 12 (1st Cir. 1986). (“The 16th Amendment eliminated the indirect/direct distinction as applied to taxes on income.”)) This, however, does not seem to be the stated position of the Supreme Court.
Yet, despite popular opinion, the 16th Amendment did not give Congress any new taxing powers. In Treasury Decision 2303, the Secretary of the Treasury directly quoted the Supreme Court (Stanton v. Baltic Mining Co. (240 U.S. 103)) in saying that "The provisions of the 16th amendment conferred no new power of taxation," but instead simply prohibited Congress original power to tax incomes "from being taken out of the category of indirect taxation, to which it inherently belonged, and being placed in the category of direct taxation subject to apportionment."
The closest the Supreme Court has come to saying that “from whatever source derived” in the amendment expanded the taxing power of Congress was in Justice Holmes’ dissent in Evans v Gore (253 U.S. 245, 267 (1920). (Holmes dissent) (Partially overruled by U.S. v Hatter. 532 U.S. 557 (2001), with respect to the prior reasoning about the compensation clause.)). In that case, the Court was considering the effect the 16th Amendment had on the compensation clause, and specifically whether the compensation of judges was unlawfully reduced by the imposition of the income tax. Justice Holmes opined that under the 16th Amendment, “Congress is given power to collect taxes on incomes from whatever source derived …[so] it seems to me that the Amendment was intended to put an end to the cause and not merely obviate” the result in Pollock. (Id.) Even in this case, though, the majority affirmed the more restrictive interpretation of the Amendment. (Id. at 262-263. (Majority opinion))
The federal income tax statutes echos the language of the 16th ammendment in stating that it reaches "all income from whatever source derived," (26 USC s. 61) including criminal enterprises; criminals who fail to report their income accurately have been successfully prosecuted for tax evasion. Since the language of the amendment is clearly meant to restrict the jurisdistion of the courts, it is not immediately clear why the courts emphasize the words "all income" and ignore the derivation of the entire phrase to interpret this section - except to reach a desired political result.
Arguments about the meaning of the current income tax has continued for nearly 100 years. Courts are reluctant to support a literal reading of the tax laws in favor of potential taxpayers, since it can lead to tax avoidance. Professor Soled points out why judicial doctrines are used against tax avoidance strategies in general,
"The use of judicial doctrines to curtail tax avoidance is pervasive in the area of income taxation. There are several reasons for this phenomenon: central among them is that courts believe that if the Internal Revenue Code ("Code") were read literally, impermissible tax avoidance would become the norm rather than the exception. No matter how perceptive the legislature, it cannot anticipate all events and circumstances that may unfold, and, due to linguistic limitations, statutes do not always capture the essence of what is intended. Judicial doctrines fill the void left either by the legislature or by the words of the Code. Another reason for the popularity of these doctrines is that courts do not want to appear duped by taxpayers..." (Jay A. Soled, Use of Judicial Doctrines in Resolving Transfer Tax Controversies, 42 B.C. L. Rev 587, 588-589 (2001).)
Of course, if the intent of Congress was to actually reach all income then the simplest way to state s. 61 would be "all income ***however realized.***" Instead, s. 61 mentions sources and other sections of the federal tax code actually lists about 20 sources of income that are spefically taxed. (26 USC ss. 861-864.) A common rule of statutory interpretation is the doctrin inclusio unius est exclusio alterius. This doctrine means “[t]he inclusion of one is the exclusion of another…This doctrine decrees that where law expressly describes [a] particular situation to which it shall apply, an irrefutable inference must be drawn that what is omitted or excluded was intended to be omitted or excluded.” (Black’s Law Dictionary 763 (6th Ed. 1990).) Since particular sources are listed as taxable in the tax law, then it is reasonable to infer that other sources of income are excluded from taxation. This argument is called the "861 source argument" and the courts refuse to analyze the argument despite consitently holding against it, even going so far as to issue restraining orders against people who publish websites about it. (U.S. v. Bell, 238 F.Supp.2d 696, 698 (M.D. Pa. 2003). Frankly, if legal reasoning in the 861 cases are compared to eating dinner, the courts are reaching around the back of their heads to put food in their mouths.
In 1913 the tax rate was 1 percent on taxable net income above $3,000 ($4,000 for married couples), less deductions and exemptions. It rose to a rate of 7 percent on incomes above $500,000.
During World War I the top rate rose to 77 percent; following the war, the top rate was scaled down (to a low of 25 percent).
During the Great Depression and World War II, the top income tax rate rose again, reaching 91% during the war; this top rate remained in effect until 1964.
In 1964 the top rate was decreased to 70% (1964 Revenue Act), and then to 50% in 1981 (Economic Recovery Tax Act or ERTA).
The Tax Reform Act of 1986 reduced the top rate to 28%, at the same time raising the bottom rate from 11% to 15% (in fact 15% and 28% became the only two tax brackets).
During the 1990s the top rate rose again, standing at 39.6% by the end of the decade.
In 2001 the top rate was cut to 35% and the bottom rate was cut to 10% by the EGTRRA, or Economic Growth and Tax Relief Reconciliation Act.
In 2003 the JGTRRA, or Jobs and Growth Tax Relief Reconciliation Act, was passed, expanding the 10% tax bracket and accelerating some of the changes passed in the 2001 EGTRRA.
Income tax in Australia
Australia uses a form of progressive income tax. The current tax-free threshold is AUD6,000 and the highest marginal rate for individuals is 47% upon that part of income exceeding AUD62,500.
As with many other countries, income taxes are withheld from wages and salaries in Australia, often resulting in refunds payable to taxpayers. A nine-digit "Tax File Number" must be quoted to employers for employees to have withholdings calculated using the various tax brackets. In the absence of this number employers are required to withhold tax at the highest marginal rate from the first dollar.
The company tax rate is a flat 30%, though through the Dividend imputation system Australian residents effectively do not pay company income tax upon the profits of Australian-resident corporations. When an Australian corporation pays corporate income tax, 'franking credits' are generated at a rate of a credit per dollar. Shareholders may then use these credits to offset their own personal income tax payable, including claiming a refund for excess credits left over after offsetting all payable income tax.
Capital gains tax in Australia is part of the income tax system rather than a separate tax. After adjusting for various discounts and concessions, assessable capital gains for a financial year are added to assessable income and tax paid upon the total.
Australia is a federation of states. Since World War II the states no longer levy any income taxes but do levy taxes including land tax, stamp duty and payroll tax.
Income tax in Sweden
Sweden has a taxation system that combines a direct tax (paid by the employee) with an indirect tax (paid by the employer). In practice, the employer provides the state with both means of taxation but the employee only sees the direct tax on his declaration form. Below is a compilation of the taxes that compose the final income tax (2003):
- Tax on "gross" income "from the employer": 32,82% (indirect, fixed)
- Pension "fee" on "gross" income: 6.95% (indirect, fixed)
- "State tax" on, "gross" income less pension tax and a "base deduction": ~32% (direct, varies by state)
- "Federal tax" on, "gross" income less pension tax and a "base deduction": 0%, 20% or 25% (direct, progressive)
Income: 180,000 kronor ($25,000)
- Tax: 121,634 (68% of income)
- "Employer tax": 59,076
- Pension "fee": 12,510
- State tax: 50,048
Income: 450,000 kronor ($64,285) (eligble for "federal" income tax of 25%)
- Tax: 412,665 (92% of income)
- "Employer tax": 147,690
- Pension "fee": 31,275
- State tax: 131,200
- Federal tax: 102,500
Nations with no personal income tax
US States without personal Income Tax