Date 24 October 1938
Author Roy Blough
Title Methods of Raising Additional Tax Revenues
Description Memo to the Assistant Secretary for Tax Policy, Division of Tax Research, Treasury Department
Location Box 43; Methods of Raising Additional Revenue; Records of the Office of Tax Analysis/Division of Tax Research; General Records of the Department of the Treasury, Record Group 56; National Archives, College Park, MD.

October 24, 1938

Mr. Hanes

Mr. Blough

Subject: Methods of raising additional tax revenues.

To raise the specified sum of $2,000,000,000 additional annual revenue will probably necessitate all of the tax increases described below or their equivalents, unless business and national income increase substantially over present levels. A brief summary of the changes is show in Exhibit A.

Whether the increased rates and new taxes described will in fact produce the required $2,000,000,000 is problematical, for three reasons; (1) The Division of Research and Statistics has found it physically impossible to prepare the estimates of yield for some of the taxes within the necessary time limit; (2) the estimates made thus far are for taxes considered each by itself without reference to the impact of one tax on the revenues from the others; and, most important, (3) the basis of the estimates has of necessity been the economy as it was situated before the imposition of the taxes, while in actual fact the shock of such a large increase in taxes in so short a time might so disrupt business and reduce the national income as to seriously affect the tax-producing capacity of the whole tax system. /1/

It is deemed impossible to increase the revenue by $2,000,000,000 in the current fiscal year 1938-39. Substantial increases in revenue might be secured for that year either by passing tax legislation at a special session of Congress before the end of the calendar year 1938, or by passing tax measures in the early months of 1939 retroactive to 1938. The disadvantages of either method are perhaps to obvious to require comment.

If the continuing tax changes described herein were passed during the regular 1939 session of Congress, substantial parts of the increases would be effective for the fiscal year 1939-40, but the program as a whole would not have its full effect on revenues until fiscal 1940-41, and in minor respects the full effect would be delayed until fiscal 1941-42 (due mainly to fiscal year income tax returns and delayed estate tax returns). To produce the desired revenue for fiscal 1939-40, especial temporary legislation would accordingly be necessary. A brief summary of legislation to accomplish this result is shown in Exhibit B.


/1/ Since the above was written, estimates and intelligent guesses of revenue yields indicate that the added revenue likely to be received from the described tax changes in a full year, at the probable 1939-40 level would be short of $2 billions by about $200 millions. See Exhibit J.


In choosing among the limited number of possible tax, sources an important objective has been to avoid as much as possible harmful repercussions on the economy. It is believed that this can be attained best by increasing the estate and gift taxes and the individual income tax before resorting to additional taxes on business, and by imposing additional general business taxes before resorting to sales and excise taxes. However, it has proved necessary to provide increased rates and now taxes oven for the more undesirable tax types. In the following description of sources of additional revenue, the sources are listed roughly in what is believed to be their order of merit under existing conditions.

Estimates of yields of individual taxes and tax changes insofar as they are now available are in Exhibit J.


1. change the specific exemption from $10,000 to specific exemption determined by aggregating the following exemptions allowable a deduction from the gross estate. If the decedent is survived by:

         (a) A widow                               $30,000
         (b) A widower                              15,000
         (c) One orphan under 21                    30,000
         (d) Each other child under 21              5,000

For administrative purposes a minimum specific exemption of $10,000 should, however, be allowed, irrespective of the number and type of beneficiaries. It is estimated that on average the effect of this proposal will be to reduce the specific exemption from $40,000 to between $20,000 and $25,000.

2. Increase the estate tax rates by adopting the rate schedule shown in Exhibit C. The combined effects of the changes in exemptions and rates are tabulated in Exhibit D and shown in graphic form in Exhibit E.

3. Eliminate the $40,000 estate tax insurance exclusion.

4. Pass a joint resolution in February 1939 eliminating the provision which allows as executor to value an estate as of the date one year after the decedent's death, and restricting the period for filling estates tax returns to twelve months instead of fifteen months after death as at present. The effect of this resolution would be to * * * the revenues for the fiscal year 1939-40 to the extent that payment of estate taxes on the estates of decedents dying during the period April-June 1939 would otherwise have been deferred until after June 30, 1940. /1/


1. Decrease the annual allowance of tax-free gifts per done from $4,000 to $2,500.

2. Reduce the specific gift tax exemption from $40,000 to $15,000.


/1/ After the estimates were prepared it would appear that the revenue increase in 1940 would not be great enough to warrant a special joint resolution.


3. Increase the gift tax rates to the same level as those proposed for the estate tax.


A. Individual income tax.

1. Reduce personal exemption to $800 for single individual and $2,000 for married person and head of family.

2. Compute both the normal tax credit of 10 percent of earned income and the lower and upper earned income limits of $3,000 and $14,000, respectively, on the amount of net income after deducting the personal exemption and credit for dependents, instead of before such deduction, as at present.

3. Increase the surtax rates by adopting the rate schedule shown in Exhibit F. The combined effects of the changes in exemptions, earned income credit and rates are tabulated in Exhibit G-1 and G-2 and shown in graphic form in Exhibit H-1 and H-2.

4. Disallow the deduction for taxes paid other than business taxes and State personal net income taxes.

5. Restore the exemption of dividends from normal Federal income tax as under the Revenue Acts prior to 1936. This will act to reduce revenues but is deemed an important factor in tax equity in view of increases in individual and corporation rates.

6. Tax husbands and wives as units by aggregating their income, though permitting, at their option, the filling of separate returns. Under present law husbands and wives may file joint return, or, at their option, separate returns. In the latter case the husband and the wife may each report and be taxed on such income as is viewed to be theirs under State property laws. In community property States the usual division is one-half of the community income to each spouse; the practice followed in other States is less uniform. This results in interstate variations of Federal income tax burden. In addition, the use of separate returns enables wealthy husbands and wives to avoid high surtax rates, which otherwise be applicable. If the income of husbands and wives be considered as properly constituting a unit, existing practice is inequitable. To overcome such inequity the tax liability may be determined on the basis of the aggregate income of husband and wife, the liability then being prorated to each according to the amount of his income. Since many people believe equity would trust be increased and since the change would produce very substantial revenue, the proposal is included here.

7. Impose income normal tax and surtax on (a) salaries of State and local officials and employees, and (b) interest from future issues of Federal, State and local obligations.

8. Amend section 117(c), providing alternative taxes on capital gains and losses, by substituting 50 percent for 30 percent wherever it appears, so that capital gains will bear their due share in the increased individual income tax rates.

9. Change the limit on surtax on gains from sale of oil and gas properties prospected by individuals from 30 percent of sale price to 50 percent of sale price. (Section 105. Revenue Act of 1938.)

10. Change the treatment of capital losses (a) by providing a carry-forward of long-term losses (not offset against long-term gains or other income) for a period of three years, against long-term gains; and (b) by extending the short-term carry-over of losses to three years.

11. The basis for determining capital gains for property previously transmitted at death (Section 113(a)(5) shall be the basis of the property in the hands of the decedent instead of the fair market value at the time of acquisition. The basis for determining less shall be the basis so determined or the fair market value of the property at the time of death, whichever is lower. This procedure for determining capital gains and losses is the same as that now in force for property acquired by gift. Capital game not previously realized or subject to income tax would thus become taxable to the beneficiary if the property were sold or exchanged, eliminating in part a tax loophole for capital gains in the present income tax law.

12. Allow net business losses of individuals (to include losses from partnerships) and fiduciaries to be carried forward for a period of three or more years (from year of origin of loss) to be offset against business income bat no other income. The first possible year of origin should be the taxable year beginning during 1939. This change will therefore not affect the revenues for the fiscal year 1940. The purpose of the change is to reduce the inequity in taxing fluctuating incomes now present in the law, which inequity becomes very serious with high rates of tax.

B. Corporation income tax.

1. Allow a net lose carry-over for purposes of all corporate income taxes for a period of three or more years from the year of origin. In computing the carry-over, adjust the net loss by disallowing all depletion deduction not based on cost or March 1, 1913 value and adding tax-exempt interest and the remaining 85 percent of dividends received. The first year of origin should be the taxable year beginning during 1939. This change reduces the revenue but in view of increased business taxes it is deemed desirable to reduce the inequity involved in taxing fluctuating incomes by allowing the carry-over. This change will not affect the revenues for the fiscal year 1940.

2. Increase the corporate income tax rates sufficiently to produce at least enough revenue to offset the effects of the loss carry-over (1. above), in as average year.

3. Lower the percentages for depletion deduction from 27-1/2 percent of gross income in the case of gas and oil properties to 13- 3/4 percent; from 23 percent of gross income in the case of sulphur mines or deposits to 11-1/2 percent; from 15 percent for gross income in the case of metal mines to 7-1/2 percent; and from 5 percent in the case of coal mines to 2-1/2 percent.

4. Impose corporation income tax on interest from future issues of Federal, State and local obligations.

C. Temporary income tax.

The increased revenues derived from changes in income taxes will be reflected only in part in the fiscal year 1939-40. With respect to corporations the discrepancy between the full year's application of the changes and their fiscal year 1940 effects is negligible. If however, the revenue from individual income taxes in that year is to be equal to the revenue resulting from a full year's application of the changes, an additional income tax may be imposed payable on March 15 and June 15, 1940 only, this tax to be a sufficient percentage of the income tax due for the taxable year 1939 to make up the revenue deficiency.

This tax will be necessary only if it is desired to secure full revenue increases in the fiscal year 1939-40.


A. Capital stock and excess profits taxes.

Repeal the capital stock tax, effective for the July 1940 payment, and the excess profits tax, effective for the taxable year ending after June 30, 1940. The repeal of these taxes reduces the revenue, but because of the undesirable nature of the taxes, it in deemed advisable to supply the revenue from the business privilege tax discussed in C below.

B. Unincorporated business privilege tax.

Impose a 2 percent tax on "privillege net income" of unincorporated business enterprises including any trade or business which, if conducted or engaged in by a corporation, would be taxable under the income tax, but excluding the professions and any cases in which more than 80 percent of the gross income is derived from the personal services rendered by the individual or the members of the partnership or other entity in which capital is not a material income-producing factor. "Privilege net income" is defined in all respects in the save manner as the net income of corporations is defined under the Revenue Act of 1938 except that (a) tax-exempt interest on Government obligations held in connection with carrying on trade or business shall be included in the taxable base; (b) deductions shall not be allowed for (1) rent paid on business property, (2) taxes paid on business property, (3) interest paid for capital engaged in the business, and (4) depreciation of buildings; and (c) the deduction on account of the personal service of an individual or member of a partnership shall in no case exceed $5,000 per such individual or member. A specific exemption of $5,000 is allowed for each enterprise.

C. Corporation privilege tax.

Impose a 4 percent tax on the privilege net income of corporations defined as in (1) above, except for the limitation in (c) which dose not apply. A specific exemption of $5,000 is allowed.

A comparison of the base for the corporation privilege tax and the corporation income tax by major industrial groups is shown in Exhibit I.

The taxes proposed in (1) and (2) above shall be payable in two installments on March 15 and June 15. The purpose of these payment dates is to secure additional needed revenue in fiscal 1939-1940; otherwise four installments might be allowed as in the income tax.


1. Increase the excise tax on beer from $5 per barrel to $7.

2. Increase the excise tax on distilled spirits, except brandy, from $2.25 per gallon to $2.50 per gallon, and levy a corresponding floor stock tax.

3. Shift the present tax on radio parts to a tax on completed radios and increase the rate to 10 percent.

4. Impose a tax on the gross receipts of radio broadcasting companies.

5. Increase by 50 percent the rates of tax on the manufacture of cigars, tobacco, and snuff. The present rates on cigars are from 75 cents per thousand to $13.50 per thousand, depending upon the weight; and on tobacco and snuff, 18 cents per pound.

6. For the period from date of enactment to June 30, 1940, increase the gasoline tax from 1 cent per gallon to 2 cents per gallon, and thereafter decrease the rate from 2 cents per gallon to 1-1/2 cents per gallon.

7. Substitute for the present taxes on the transfer of bonds and stocks, a tax based on the sale price thereof at the rate of 1/4 of 1 percent in both instances. The present rates are

     Bonds - 4 cents per $100 face value:
     Stocks - 4 cents per $100 par face value or fraction, 
                or if without par or face value, 4 cents per 
                share. However, if selling price is $20 or
                over, whether with or without par or face value, 
                the rate is 5 cents instead of 4 cents.

8. Re-enact the check tax which lapsed December 31, 1934. The rate of this tax was 2 cents per check or draft.

9. Reduce the present exemption under the 10 percent admission tax from 40 cents to 20 cents.