|IMPUTED INCOME AND THE PRESENT INCOME
It is the writer's opinion that one of the most serious faults
of the present income tax law is its failure to reach a certain
element that should be reckoned whit in comparing relative abilities
of taxpayers to contribute to the support of government but that does
not appear as income in a monetary form. This element is the "imputed
income", or non-monetary income, that arises from the possession of a
relatively durable good or the creation, by the taxpayer himself, of
good or services that benefit him. Two examples will serve to
illustrate the point involved.
Hypothetical Example. -- First, suppose that two men, A and B,
each have $20,000 in corporate bonds, from which that each receive
an income of $800 a year. They live in rented houses, each paying
$800 a year rent. A now sells part of his bonds and with the proceeds
buys some urban land of exactly the same value as that that B
occupies and erects thereon a dwelling of exactly the same value as
that B occupies, which he thereafter uses as a residence. B retains
his bonds bonds and on the income therefrom continues to live in a
rented dwelling. Under the present income tax law A pays tax only on
the income from the securities that he has not disposed of, whereas B
must include in his income tax return the interest on the full.
$20.000 of securities that he has retained. The two men are similarly
circumstances except for the legal feature of ownership -- should
they not pay same income tax?
Second, suppose that of two men, C and D, both own their
dwellings, but one is an urban dweller who receives a money wage from
which he pays for his food, while the other is a farmer who gets much
of his from his land by his own efforts. With respect to this
particular matter the two men are virtually in the same position
except that one sells his services for money and with the money buys
food while the other gets food directly as a result of his services,
or effort. The former, however, is subject to income tax on his
monetary receipts; the latter pays no tax on the food-income he gets.
Is the inequity Eliminated by the Property Tax?. -- When other
elements in the tax system are considered, the problem does not
remain so simple as outlined above. In the first case, one may argue,
A pays a property tax, and B pays none. In reply it might be said
that the income tax can stand or fall by itself, and any obvious
inconsistency or inequity therein should not be excused merely
because of some other feature of the tax system. Waiving this reply,
however, -- and the writer believes that is should be waived -- one
discovers upon further examination that the existence of the property
tax is not an answer to the fault in the income tax.
The consensus of opinion among economists who have written on
the subject is that the part of the property tax represented by the
tax on rented buildings is shifted to the tenant, although the
process may take some time and may never be completed in a stagnating
or declining community. Insofar as such shifting occurs, therefore,
B, in the above example, pays at least part of the property tax
indirectly, compared with a who pays it directly. With respect to
that part of the property tax represented by the tax on land, much --
perhaps the greater part of it -- has been taken into account by the
purchaser in deciding what to pay for the land. Had the tax been
lower, he would have paid a higher price for the land; had the tax
been higher, he would have paid a lower price. In this sense A, in
the example above, is not bearing the entire burden of the land tax;
some part of this annual burden, capitalized, has fallen on some
previous owner. As to B, since the land tax is usually considered not
shiftable to the tenant even if it has not been capitalized, he too
bears no part of the burden. Again A and B are somewhat on the same
footing as concerns the property tax. So much is unknown about the
exact operation of the forces of shifting and capitalization that no
high degree of finality can be given to these statements; but at
least it can be said that those who would claim that the operation of
the property tax counterbalances the inequity of the income tax have
not proved their case -- indeed, the evidence, such us it is, is
pretty clearly against their contention. Still stronger would be the
case if the property tax on securities were taken into account, it is
perhaps best to ignore it. In those states where a personal income
tax has replaced the intangibles tax, the inequity is greater than
ever, since all the state taxes are alike the Federal tax in that
they fail to reach imputed income.
Civil War Tax. -- Under the civil war income tax levied by the
Federal Government, the amount paid for the rent of a dwelling house,
was allowed as a deduction: the rental value of dwellings occupied by
owners was specifically excluded from taxable income. /1/ The
commissioner of Internal Revenue recommended that the reverse
procedure be followed: no deduction allowance, and taxation of rental
value of dwellings occupied by owners. /2/ In his report of 1868,
commissioner Wells remarked, that the existing law contained a
"curious anomaly which allows, on the one hand, an unqualified
deduction from income of the amount paid for rent, and on the other
hand does not consider as income in any degree the rental value of
property held or enjoyed by its possessor." The "anomaly" apparently
lay in the fact that, "while in all other department of the revenue
it is accepted as a fundamental privilege that luxuries especially
should be taxed, in this they
are especially exempted". /1/ Certainly there was
no inconsistency in
remaining $10,000 in securities is $400; and the net
taxation to the extent that this item enters into the
very rough and
tax base might be entered at a fraction of its true
value or in some
Net Annual Rental Value of Owned Non-Farm Homes
Column A Column B Column C Column D Number Average Value Total Value Net Annual Rental of Homes per Home (A times B) (5 per cent of C) 794,724 500 397,362,000 19,868,100 570,047 1,250 712,558,750 35,627,938 531,277 1,750 929,734,750 46,486,738 1,167,325 2,500 2,918,312,500 145,915,625 2,343,769 4,000 9,375,076,000 468,753,800 2,297,029 6,250 14,356,431,250 717,821,563 989,468 8,750 8,657,845,000 432,892,250 906,557 12,500 11,331,962,500 566,598,125 339,535 17,500 5,941,862,500 297,093,125 354,337 30,000 /a/ 10,630,110,000 531,505,500 209,318 4,000 /b/ 837,272,000 41,863,600 ______________ _____________ TOTAL 66,088,527,250 3,304,426,364
MISCELLANEOUS INCOME TAX MATTERS
Deductions for Interest, Bad, Debts, and Casualty and Theft Losses. -- The policy with respect to deductions from gross income is for the most part, in the words of Regulations 77, (Article 41 (c)), to restrict deductions to "expenditures, other than capital expenditures, connected with the production of income." This policy is violated, however, in allowing deduction of (a) bad debts, no matter how incurred, (b) interest paid, no matter for what purpose except on debts incurred to purchase or carry certain wholly exempt bonds, (c) losses "of property not connected with the trade or business, if the loss arises from fires, storms, shipwreck, or other casualty, or from theft," /1/ and is not compensated for by insurance or otherwise. There is a general restriction refusing deduction if the deductible item is allocable to wholly exempt income. /2/
There seems to be no reason for allowing deduction of bad debts that have not been incurred in a profit-seeking venture, so long as "personal, living or family expenses " /3/ are not allowable deductions. The same remarks can be made whit respect to interest.
Casualty and theft losses may have some justification as deductible items on the ground that they are unexpected events that often cause a severe drain on the taxpayer's liquid capital, but this is an argument for allowing postponement rather than reduction of tax. However, if as recommended in a preceding section, imputed income from a dwelling is to be taxed, capital loss the dwelling should be allowed, whether by depreciation or otherwise.
No estimate on the amount of money to be gained by restricting these deductions is available, but it is probable that the amount involved is not great.
Expenses. -- Section 23(a) of the 1934 Act allows deduction of "traveling expenses (including the entire amount expended for meals and lodging) while away from home in the pursuit of a trade or business." Two points might be raised here: (1) should not the law, or at least the Regulations, be made more specific with respect to what is meant by "traveling" (when does a man "away from home" stop "traveling"? (2) should not the deduction be limited to the EXTRA expense the individual is put to in traveling.
The writer believes that the answer to the first question is "Yes," although he has no specific language to suggest at the moment. Logically, the answer to the second question is also "Yes," but the difficulty of calculating the excess would probably outweigh the advantages, as is indicated by the action of Congress in repealing a limitation of this kind, in 1921. /1/
Interest on United States Government Bonds. -- At present the interest on United States Government bonds issued after September 1, 1917 is exempt only to the extent provided for in the Acts authorizing the issue, according to section 22(b)(4) of the Revenue Act 1934; but section 25(a)(2) of the same law flatly exempts all interest on United States obligations from the normal tax. To avoid possible confusion, in case Congress wishes to subject some future issue to normal tax, it might be well to add to section 25(a)(2) a qualifying phrase such as that is 25(a)(3), where one of the conditions is "if . . . under the Act authorizing the issue thereof . . . such interest is exempt from normal tax."
Compounding of Depreciation Allowance. -- In the House hearings on the Revenues Bill, 1934, Representative Lewis seemed to suggest that, if one takes account of the interest accruing on a depreciation allowance, the value of the property is recovered long before the depreciation allowance ceases (pp. 31-32). The correct reply to this seems to be that, if the depreciation fund is in fact
invested and does earn interest, the interest is taxable; if it is not so invested, there is no accretion to tax. In either case it does not affect the proper amount to be allowed annually for depreciation.
Earned Income. -- A verbal change should be made here (section 25(a)(5)(A)), so that in the phase, "compensation derived . . . . for personal services," the word "for" becomes "from."
Information at the Source. -- Since the Federal income tax relies almost entirely upon self-assessment, having abandoned the collection-at-source method after a short trial of a few years before the war, the means of checking upon self-assessment in order to prevent evasion is of paramount importance. The chief means at present is by "information at source." Sections 147, 148 and 149 of the Revenue Act of 1934 contain the chief provisions on this point.
Study of the law and regulations, and conversations with officials of the Internal Revenue Bureau, have led the writer to the following conclusions:
(a) Those who are supposed to file information returns but do not should be subject to adequate penalties, strictly enforced. At present the only penalty is that carried under the misdemeanor provision of section 145(a), which applies only to one who "wilfully" fails to supply the information; and only one misdemeanor charge has been pressed under this section in the past four years. It is estimated that fully 85 per cent of the 3 to 4 million information returns (form 1099) filed each year are filed by corporations. The presumption is that large numbers of non-corporate employers are failing to fulfill their duties in this respect. It is not possible to state, statistically, how useful the information returns have been in discovering either taxpayers or added amounts due by known taxpayers, but there seems little doubt that the returns have amply proved their value.
(b) Information returns should be filed by salary -- and wage -- disbursing officers of the Federal Government. True, the information can be obtained whenever it is wants, but this view seems to misconceive the practical functioning of the information-return system. If information slip is sent in, the Bureau cannot without tending to disorganize its system, check the entire Governmental pay roll.
(c) The writer is not aware of any valid reason for exempting from the information return requirements the payment of interest on obligations of the United States (Section 147(d)). No such obligations are subject to the normal tax, but many of them are subject, in part at least, to the surtax.
(d) Compulsory registration of all bonds (referred to in Memorandum H on death and gift taxes) is apparently not at this moment considered necessary by administrative officials with respect to the income tax. Payees, under a recent Treasury decision (4460), must report bond interest when the amount is $20 or more, and this minimum is probably low enough to warrant no further change until it can be seen how effective this plan is. However, abolition of bearer bonds is a point to be kept in mind if the problem of evasion of tax on bond income becomes serious.
(e) The present general provision (Section 147(a)) requires information in the case of payments of "$1,000 or more in any taxable year." Hence, itinerant employees, or persons working for more than one employer at once, may receive $1,000 or more in the course of a year, yet never be reported. If the law were to require information concerning payments made at the rate of $1,000 or more per year, these employees would in theory be reported. The only administrative official with whom the writer has discussed this question voiced strong objection to any such proposal on the grounds that it would flood the Treasury with so many information returns of relatively little value that work on the more important returns might seriously disrupted. Furthermore, it is argued, it would be difficult to reach the itinerant employees to collect the tax. If Bureau's staff were sufficiently enlarged, the first objection would be answered, and, to some extant, the second also. The writer suggests that such enlargement be given serious consideration, but not until a strenuous effort has been made to obtain information returns from all those supposed to file them under the present law (see (a) above).