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February 16, 2018
Playing Favorites With Tax: The Income Tax Has Always Favored Some States Over Others

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[This article originally appeared in Tax Notes, January 15, 2018]

As the Tax Cuts and Jobs Act took shape last year, Democrats attacked it for numerous flaws, both real and imagined. One of the most common complaints concerned the law’s discriminatory intention and effect. Blue-state taxpayers were being asked to foot the bill for red-state tax relief, critics insisted. Exhibit number one? New limits on the state and local tax deduction.

Perhaps the most vociferous objection came from New York Democratic Gov. Andrew Cuomo, who has described the law in martial — and nearly apocalyptic — terms. “You’re now robbing the blue states to pay for the red states,” he said in his annual State of the State message earlier this month. “It is crass, it is ugly, it is divisive, it is partisan legislating, it is an economic civil war.”

More than a few scholars have agreed with this assessment. In a New York Times op-ed, political scientists Jacob Hacker and Paul Pierson described the law as “nakedly partisan federalism” and a departure from “politics as usual”:

Parties generally try to favor segments of society that support them — and Republicans’ bias toward big business and rich donors certainly fits that pattern. Yet major efforts by a dominant party to significantly redistribute resources toward statesthat support it are in fact extremely rare. Indeed, one of the last standout examples dates to the decades after the Civil War, when Republicans used the proceeds of high tariffs that aided Northern industry (while hurting the solidly Democratic South) to pay generous pensions to Union veterans concentrated in Republican states.

In reaching back to the 19th century, Hacker and Pierson seem to suggest that sectionalized tax politics are a thing of the past. If we look a bit more carefully, however, we find sectionalism lurking on the periphery of tax debate throughout American history. Most recently, critics almost killed the SALT deduction in 1986, amid plenty of talk about rich states, poor states, and their relative tax burdens. (Prior analysis: Tax Notes, Oct. 9, 2017, p. 176.)

More important, however, the tax debates of the late 19th century aren’t just a historical footnote to the modern argument about sectional discrimination and the SALT deduction. The income tax we use today was conceived and designed as an instrument of sectional redistribution. And back in the day, the beneficiaries of that redistribution were not shy to talk about it.

Modern Irony

In a 2014 piece for the Northwestern University Law Review, Berkeley historian Robin Einhorn took a close look at the sectional arguments used to defend the income tax in the late 19th and early 20th century. But she began by noting a contemporary irony of 21st-century fiscal politics. “The places where the anti-tax and anti-spending appeals of conservative Republicans resonate most strongly,” she wrote, “which are closely associated with a more general hostility to the federal government, are the places that actually benefit most from federal taxing and spending.”

Einhorn offers some data on this phenomenon, concluding that Southern states have done especially well under the modern fiscal regime. “Particularly since World War II,” she wrote, “the federal income tax has played a key role in enabling the federal government to redistribute the nation’s resources in a southward direction.” The tax, she concluded, has been “a mighty engine of geographical redistribution.”

Still, the income tax remains deeply unpopular in the South. That irony, while obvious for the last few decades, was absent when the levy was enacted. A hundred years ago, Southerners took the lead in fighting for a federal income tax, welcoming not simply the tax relief it promised for Southern states, but the redistributive spending it would make possible.

The tariff played a key role in the early Southern debates over taxing income, chiefly because it, too, was a tool of sectional discrimination. Import duties served to protect Northern manufacturers against foreign competition but discriminated against Southern farmers who depended on international markets. Southerners also recognized that the tariff was broadly regressive, making it a heavier burden for the relatively poor South than it was for the relatively rich North.

As a result, Southerners were highly receptive to suggestions that the tariff give way to other, more “modern” tools of federal finance. As Einhorn notes, historians have also generally approved of this transition from a broad-based consumption regime to a hybrid system that included a new, highly progressive income tax.

To some degree, however, historians have struggled to reconcile this uplifting fiscal story with the broader social and political history of the late 19th and early 20th centuries. As it happened, some of the most vociferous champions of progressive tax reform were also architects of racial subjugation, committed to the disenfranchisement of African-Americans and the introduction of statutory segregation. That unhappy fact makes the rise of progressive taxation, while laudable in its own right, more problematic when judged in a broader political context.

Embracing Leviathan

Southern hostility to the tariff disposed many Southern leaders to support the introduction of a new federal income tax. But their embrace was not completely uncomplicated. “For decades, Southerners had been complaining the tariff, which was the only federal tax from 1817 until the outbreak of the Civil War, constituted a dangerous increase in federal power,” Einhorn wrote. “The argument that a far more intrusive federal income tax could solve that problem is at least noteworthy.”

This second irony, unlike the first, was not lost on every Southern political leader, some of whom resisted the income tax even as they complained about the tariff. In Virginia, for instance, many politicians stressed the danger of giving the federal government a rich source of new revenue. The tax, insisted Speaker of the Virginia House Richard E. Byrd, “would bring the federal government for the first time into the lives of ordinary citizens in the everyday affairs of life.”

Judging by its past success, this line of attack was deeply resonant among voters. Opponents of the Civil War income tax had complained about its inquisitorial qualities almost from the start, and such concerns played a key role in the decision by Congress to let it lapse in 1872. (Prior analysis: Tax Notes, Dec. 24, 2001, p. 1739.)

During the ratification debate of the early 1900s, complaints about the invasiveness of the income tax were buttressed by racialized arguments about the possibility of black tax collectors. In making that connection, income tax opponents managed to blend anti-government ideology with the institutions of white supremacy — a powerful combination.

But not powerful enough, as it turned out. Just two Southern states eventually rejected the income tax amendment: Virginia and Florida. Einhorn quotes the leading historian of ratification, John Buenker, to explain the triumph of this controversial levy. “In this case, at least, the instinct of the average white Southerner for his own self-interest proved strong enough to overcome those who sought to appeal to his fears,” Buenker wrote.

In Einhorn’s view, Southerners had shrewdly assessed their political situation. The income tax would clearly deliver economic benefits to their region, since the region was relatively poor. And the federal government, while still a potential threat to the institutions of white supremacy, had signaled its willingness to tolerate the segregation and subjugation of African-Americans.

Sectional Taxation

In some respects, the ratification of the 16th Amendment represented a moment of cross-sectional comity. Southerners, who stood to gain under the new tax regime, joined with Northern progressives eager to modernize the tax system (and willing to look the other way regarding the South’s retrograde racial politics).

But the relevant point, at least for the modern debate about sectional discrimination in the 2017 tax law, is the frank admission — on all sides — that the income tax was a tool of sectional tax relief. No one disputed that Southern states would see their fiscal burden fall as the income tax began to supplant the tariff. Indeed, that sectional tax relief was a feature, not a bug, of the new regime. And as Einhorn points out, that same sectional relief was anything but fleeting. It has remained a feature of the federal tax system for more than a century, shaping the American political economy even today.

All of which suggests that complaints about “economic civil war” are more than a little overwrought. The elimination of the SALT deduction may be unwise, or even an injustice to blue-state taxpayers. But the sectionalism behind that provision of the 2017 law is hardly a break with the past. The income tax has always been a tool of sectional redistribution.