Date 15 April 1941
Author Coyle, ?
Title Joint returns of income of husbands and wives
Description Staff memo, Division of Tax Research, Treasury Department
Location Box 54; Married Couples; 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.
            Joint returns of income of husbands and wives

                (Study by Miss Coyle, April 15, 1941)

           Joint returns of incomes of husbands and wives

SUMMARY AND RECOMMENDATIONS

In connection with revenue revision for 1941, the Ways and Means Committee adopted though the House rejected a provision for mandatory Joint returns of the incomes of husbands and wives. Similarly, the Finance Committee adopted though it subsequently withdrew a provision for taxing community property incomes to the earner, in the case of earned income, and to the spouse having management and control, in the case of property income.

This memorandum describes the past and present treatment of the incomes of husbands and wives for income tax purposes, outlines the major defects of the present treatment, and discusses certain proposed remedies, particularly the proposal for mandatory joint returns (with and without relief for earned income) and the Finance Committee proposal respecting community property income.

THE TREASURY PROPOSAL FOR MANDATORY JOINT RETURNS WITH RELIEF TO EARNED NET INCOME: The Treasury in 1941 approved of mandatory joint returns of the income of husband and wife provided that the tax on earned net income was not increased thereby. The method proposed for keeping the tax on earned net income the same as under two separate returns was to allow a tax credit equivalent to that part of the tax increase resulting from the Joining of the earned incomes.

Since under present exemptions there would be no increase in tax under a mandatory joint return unless the aggregate income of husband and wife exceeded $3,500, the Treasury provision would give relief only to combined EARNED incomes in excess of this figure. As a relief provision it should presumably be limited, though as yet it is not limited, to incomes actually earned not in excess of a moderate amount; i.e., it should not be extended to the first $3,000 of net income regardless of source nor to earnings above some selected maximum figure, possibly $5,000 rather than the $14,000 now in effect. If thus limited, the Treasury relief provision would prevent increase in tax under a Joint return on combined earned net incomes ranging from $3,500 to $10,000, even though these earnings formed only a part of the entire income. It seems rather doubtful that working husbands and wives in these circumstances are particularly in need of relief.

Unless somehow restricted with respect to community property States, the relief provision will perpetuate the benefits of the community property division of earnings between husband and wife even though the husband is in fact the sole earner. The restriction now under consideration, of defining income as earned only to the spouse rendering the service, is likely to put the community property States at a disadvantage, since it is likely to restrict the earned income (though not the earned net income) to half the earnings. If instead earnings were defined as income only to the spouse rendering the service, the community property States would be put on an equal footing with other States for purposes of the relief provision, but such re-definition would certainly be contested.

Other complications in writing the relief provision include the treatment of cases where the aggregate income under a joint return is more or lees than the sum of the separate incomes under separate returns (because of the different application under a Joint return of certain statutory limitations); the consistent treatment of spouses filing under Supplement T; and in general, with respect to numerous details like the earned income credit for purposes of the normal tax, the consistent treatment of husband and wife as separate taxpayers with respect to earned net income at the same time that they are treated as one taxpayer with respect to other income.

Finally, the taxpayer's satisfaction in securing the tax credit may be considerably dimmed by the several additional calculations required to derive it.

Enactment of a provision for mandatory Joint returns without relief for earned net income would be more consistent with the basic philosophy that husband and wife form a single taxable unit, would successfully remove the continuing discrimination in favor of community property States, and would avoid the extensive statutory complications involved in a relief provision.

The revenue increase involved is officially placed at $352.8 million under mandatory joint returns without relief to earned incomes and at $314.8 million, $38.0 less, under mandatory Joint returns with relief to earned incomes.

THE FINANCE COMMITTEE PROPOSAL FOR TAXATION OF COMMUNITY PROPERTY INCOMES; This proposal attempts to re-allocate community property income between husband and wife for Federal income tax purposes. Earned income is to belong for tax purposes to the spouse rendering the service and income from property is to belong to the spouse having management and control thereof, this spouse under community property laws being the husband. Income from separate property would be deemed the wife's income for tax purposes, however, even though under the law of a few community property States it is community income. No provision is made for income from other sources than earnings or property.

The object of this re-allocation is to remove the tax benefits resulting from the equal division of community property income between husband and wife and thus to put community property stores on the same footing as other States for purposes of the Federal income tax. As respects earnings, this object would be substantially accomplished by the suggested provision. As respects property income, however, the provision appears to discriminate against community property States. The tax benefits resulting from equal division of income would indeed be removed in such States but they would be at a disadvantage as compared with other States where income is taxed to the owner, though the other spouse may actually exercise management and control. Thus in non-community property States existing division of income between husband and wife would be recognized even though deliberately designed for tax avoidance, but in community property States the division imposed upon the spouses by State law would be set aside. This result appears manifestly unfair.

RECOMMENDATIONS

1. Provide for mandatory joint returns without the special relief for earned income advocated by the Treasury in 1941.

2. If it is insisted that the tax on earned net income be left the same as under separate returns, limit earned net income for the relief provision to income actually earned not in excess of $5,000 for each spouse, and provide that earnings shall be considered income only to the spouse rendering the service.

3. If neither mandatory joint returns provision is acceptable, provide that earnings in community property States, as generally elsewhere, shall be taxed to the spouse rendering the service.

                         TABLE OF CONTENTS
                                                    PAGE NOS.

Summary and recommendations                          i - iii

I. History and present provisions                    1 - 10
   A. History                                        1 - 6
      1. Type of return                              1
      2. Computation of tax on aggregate
         income or on separate incomes               2 - 3
      3. Limitations upon certain deductions
         allowed husbands and wives filing
         joint returns                               2 - 5
      4. Treatment of the earned income credit       5 - 6
      5. Liability for tax on joint returns          6
   B. Present provisions                             6 - 10
      1. Filing requirements                         6 - 7
      2. Basis for division of income between
         husband and wife on separate returns        7 - 8
         a. Community property States                8
         b. Oklahoma                                 8
         c. Other States                             8
      3. Division of exemptions and credits          9 - 10

II. Relative use of different types of returns
    and variations in tax involved                   11 - 16
    A. Relative use of joint and separate returns    11
       1. Number of returns                          11
       2. Net income                                 11
    B. Variations in tax involved                    12 - 16
       1. Tax reduction under joint returns          12 - 13
       2. Tax reduction under separate returns       13 - 14
       3. Tax reduction in community property
          States                                     14 - 15
       4. Revenue involved                           15 - 16

III. Problems under present provisions               16 - 21
     A. Interstate inequalities in Federal income
        tax                                          16
     B. Tax avoidance within the family unit         16 - 17
        1. Tax avoidance trusts                      17 - 18
        2. Other assignments                         18
        3. Partnerships                              19
        4. Loans                                     19
        5. Capital transactions                      19
        6. Miscellaneous devices                     19 - 20
     C. Discrimination between single and married
        persons and among married couples            20 - 21
        1. Single vs. married persons                20
        2. Married couples                           20 - 21

IV. Proposals that have been made for correcting
    the present situation                            21 - 35
    A. Mandatory Joint returns                       21 - 30
       1. The general proposal                       21 - 22
       2. The Treasury proposal (1941)               22 - 23
       3. Problems under the Treasury proposal       24 - 30
          a. Continuance of some separate
             returns                                 24
          b. Supplement T                            24 - 25
          c. Community property earned income        25 - 26
          d. Imputed earned net income up
             to $3,000                               26
          e. Large earned net incomes                26
          f. Limitation upon tax reduction           26
          g. Miscellaneous points                    26 - 27
       4. The Treasury's prior position              27 - 28
       5. The case for and against mandatory
          joint returns                              28 - 29
       6. Constitutionality                          30
       7. State practice with respect to
          compulsory joint returns                   30
    B. The taxation of income according to
       (1) person earning and (2) management
           and control                               30 - 33
        1. The proposal                              30 - 31
        2. Arguments pro and con                     31 - 32
        3. Treasury position                         32 - 33
     C. Universalizing community property            33
        1. The proposal                              33
        2. Merits and defects                        33
     D. Variations in rate structure                 33 - 35
        1. The Wood Plan                             33 - 34
        2. Effects                                   34
        3. Equity                                    34
        4. Other considerations                      35

Appendix A - Illustrative Cases 1 - 18

Appendix B - Statistical Tables 1 - 6

Appendix C - History of Joint returns in Great Britain

I. HISTORY AND PRESENT PROVISIONS

A. HISTORY

1. TYPE OF RETURN: Prior to the Revenue Act of 1918, husbands and wives with separate incomes in practice filed either Joint or separate returns, but the option to do so was not specifically provided by law. /1/ An optional provision appears for the first time in Section 223 of the Revenue Act of 1918, and such a provision has been continued to date.

FOOTNOTE

/1/ Regulations 33 under the 1913 Act (Article 10) stated that: "If a wife has a separate estate managed by herself as her own separate property and receives an income of $3,000 or over, she may make return of her own income."

Regulations 33 (revised) under the Acts of September 8, 1916 and October 3, 1917 stated (paragraph 183) "Unless the wife has a separate estate which requires her to file a separate return of income, or to Join with her husband in a return which shall set forth her income separately, her husband should include in his return the income accruing to the wife from services rendered by her, or the sale of product of her labor."

The instructions on Form 1040 from 1917 through 1920 directed the filing of separate returns, as follows:

1917 "Husband and wife should make separate returns if either is subject to surtax."

1918 "If your wife (or husband) had any separate income she (or should make a separate return."

1919 and 1920 "In the case of husband and wife whose combined net income exceeds $5,000, separate returns must be made on Form 1040, showing the respective amounts of income." (The meaning of this instruction may have been that separate returns if made must be made on Form 1040. Taxpayer could hardly have interpreted it this way, however.)

From 1921 onward Form 1040 has simply indicated that if husband and wife had combined income of the amount covered by the filing requirements, all such income must be reported either on a joint return or on separate returns of husband and wife.

END OF FOOTNOTE

The number of joint and of separate returns reported annually for taxable years 1913-1939 is shown in appendix Table 1.

2. COMPUTATION OF TAX ON AGGREGATE INCOME OR ON SEPARATE INCOMES: The procedure for determining tax liability under the earlier acts indicates that the returns of husbands and wives living together, regardless of the type of return filed, presented the difficult problem of whether the incomes of such husbands and wives constituted a unit, or represented essentially two incomes, taxable separately even if reported on a single return. In this early period, the procedure for determining tax liability seems to have shifted between requiring that the incomes be aggregated for tax computation even if separate returns were filed and requiring in some instances that they be separated for tax computation even if Joint returns were filed. /1/

The procedure now followed seems to have been moulded during the period 1918-1920 under the Revenue Act of 1918. The practice was definitely established of computing the tax on the separate incomes when separate returns were filed, and (from early 1921 at least) on aggregate income when joint returns were filed. Solicitor's Opinion 90 (January 17, 1921) held that under the Revenue Act of 1918 a Joint return "is treated as the return of a taxable unit and the net income disclosed by the return is subject to both normal and surtax as though the return were that of a single individual." /2/ Later, the Revenue Act of 1921 specifically provided that if a Joint return were filed, the tax should be computed on the aggregate income, and subsequent acts have continued this provision. /3/

FOOTNOTES

/1/ Regulations 33 under the 1913 Act (Article 10) seem to imply that in the event of a separate return by the wife the tax would be imposed upon the aggregate income in excess of the combined personal exemption, since they state: "The tax in such case, however, will be imposed only upon so much of the aggregate income of both as shall exceed $4,000."

Mr. Blake, present Assistant Head of the Practice and Procedure Division of the Income Tax Unit, says that under the 1916 Act and earlier the Bureau began to aggregate separate returns for purposes of surtax computation, but this practice was discontinued by Mr. Spear, Assistant Deputy Commissioner and the tax was computed on the separate incomes.

At the other extreme, by 1921 it was felt necessary to make clear by statute that under a joint return the tax should be computed on the combined income. (See footnote 3 on page 2.)

/2/ C.B. 4, 236 (1921).

/3/ With reference to the 1921 Bill, the House Report stated that this provision was introduced in order "to clear up the doubt now existing as to the right of husband and wife in all cases to make a Joins return and have the tax computed on the combined income;" and the Senate Report stated that sit is also made clear that husband wife may make a Joint return even though one or both have large enough to be subject to surtaxes." (67th Congress, let Session, House Report 350, Part 1, page 13; Senate Report 275, (Part 1, page 15)

END OF FOOTNOTE

3. LIMITATIONS USES CERTAIN DEDUCTIONS ALLOWED HUSBANDS AND WIVES JOINT RETURNS: Even though the tax is computed on the aggregate net income when a Joint return is filed, question arises as to whether the aggregate net income is to be a combination of two net incomes separately computed or instead is to be computed as though the return were that of one individual.

The above-mentioned Solicitor's Opinion 90 and Treasury regulations and opinions under the Acts of 1921-1932 took the view that the net income on a Joint return was to be computed as on the return of one individual, the aggregate deductions of husband and wife being computed with reference to and subtracted from the aggregate gross income. /1/

A different view was suggested, however, by a decision of the Board of Tax Appeals on August 29, 1932 in connection with the provisions of the Revenue Act of 1928 relating to wash sales of stock. In applying the wash sales provisions (introduced by the Revenue Act of 1921) the Bureau consistently held that purchases and sales of securities by a husband and wife filing a Joint return were to be treated as though they were made by one individual. /2/ The Board of Tax Appeals held on the contrary that: "In computing the tax due under a single Joint return filed by husband and wife, each should be treated as an individual taxpayer." /3/

Subsequent to this decision the Regulations under the Revenue Act of 1934 and until the end of 1940 provided that regardless of whether a Joint return or separate returns were made, husband and wife should be treated as separate taxpayers with respect to the limitations on capital losses and on charitable contributions. Article 117-5 of Regulations 86 stated that the limitation under section 117(d) of the Revenue Act of 1934 on the allowance of losses of one spouse from sales or exchanges of capital assets should in all cases be computed without regard to gains losses of the other spouse upon sales or exchanges of capital assets /4/; and article 23 (c)-1 of Regulations 86 stated that "Whether a husband and wife make a Joint return or separate returns the 15 percent limitation on the deduction for charitable contributions or gifts is based on the separate net income (computed without regard to such contributions or gifts) of the spouse making the contributions or gifts." Similar rulings appeared in subsequent Regulations. /1/

FOOTNOTES

/1/ Cf. Helvering vs. Janney, 311 U. S. 189 (1940).

/2/ This position was set forth in I. T. 1997, C.B. III-1, 149 (1924) revoked in 1934 by I. T. 2824, C.B. XIII-2, 293.

/3/ Frank B. Gummey vs. Commissioner of Internal Revenue, 26 BTA 894. Other cases in which the Board of Tax Appeals and lower courts held that husband and wife should be treated as two individuals even though they filed a Joint return are cited in a Memorandum for Assistant Secretary Sullivan, March 5, 1941, by Mr. C. J. Mattson, (B.I.R., Income Tax Unit, Practice and Procedure Division), re the tax effects of the Janney-Taft decisions.

/4/ In 1935 the Bureau of Internal Revenue issued a corresponding ruling under the Act of 1932. (G.C.M. 15438, C.B. XIV-2, 156, 1935). This memorandum specifically referred to the Gummey case as supporting the position adopted therein.

In this general connection it may be noted that if under the Revenue Act of 1934 the wife's net capital loss, after the $2,000 limitation, exceeded her income from other sources, her resultant net deficit could be deducted under a Joint return from the husband's net income (which might include net capital gains). See I. T. 2868, C. B. XIV-1, 111 (1935).


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