Direct Taxes Under the Constitution: A Review of the Precedents

Date: Nov. 20, 2006

Full Text Published by Tax AnalystsTM


Copyright 2006 Alan O. Dixler.
All rights reserved.

Alan O. Dixler is senior tax counsel at Alpharma Inc., Fort Lee, N.J. He delivered this report to the Committee on Legal History of the Bar Association of the City of New York, of which he is a member.

Copyright 2006 Alan O. Dixler.
All rights reserved.

* * * * *

"Direct tax" appears twice in Article I of the U.S. Constitution. Article I, section 2 provides, in relevant part, that "Representatives and direct Taxes shall be apportioned among the several States . . . according to their respective Numbers." That is part of the infamous three-fifths clause, or "federal ratio," under which slaves were counted as three-fifths of a free person for purposes of determining the size of a state's congressional delegation, the number of members of the Electoral College a state can elect, and the apportionment of federal direct taxes.

Article I, section 9 provides, in relevant part: "No Capitation, or other direct, Tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken." Because of that apportionment requirement, application of "direct tax" as it related to specific taxes has been considered by the Supreme Court in the 18th, 19th, and 20th centuries, and it led to the adoption of the 16th Amendment.

What does the term direct tax, as used in the Constitution, actually mean?1 This report concludes that the Supreme Court's first consideration of the issue, made when four prominent Founders were the participating members of the Court, represents the most historically valid and most sensible treatment.


I. Hylton v. United States2

In 1796, when the U.S. flag had just 15 stars and George Washington was president, the Supreme Court first tackled the direct tax issue. Congress had enacted a tax on passenger carriages in 1794. Daniel Hylton did not pay, and the United States sued. The United States prevailed in the Federal Circuit Court of Virginia. Hylton appealed to the Supreme Court.3

Justices Samuel Chase, William Paterson, and James Iredell all wrote separate opinions. That did not indicate a fractured Court; the practice of issuing an opinion of the Court had not yet been established. Justice James Wilson contributed a brief comment. Justice William Cushing was unable to attend the argument of the case because of ill health, and he deemed it improper to give an opinion on the merits. Chief Justice Oliver Ellsworth had not been sworn in at a time that would have allowed him to participate. Of the four justices commenting on the merits, two, Paterson and Wilson, had been delegates to the Constitutional Convention in Philadelphia. Justice Iredell had been a delegate to the North Carolina ratification convention. Justice Chase had served on the committee that recommended to the Maryland ratification convention some amendments that anticipated the Bill of Rights. All of those justices therefore can be considered Founders.

The issue before the Supreme Court was whether the passenger carriage tax, which had not been apportioned among the states, was a direct tax. If it were a direct tax, the carriage tax would have been unconstitutional as enacted. The Supreme Court unanimously held that the passenger carriage tax was not a direct tax.

Justice Chase wrote that Congress did not consider the passenger carriage tax a direct tax, and that fact alone would be decisive in a close case. However, Justice Chase did not consider this a close case. Justice Chase said that if a particular tax could not be apportioned without great inequity and injustice, the tax was not a direct tax within the meaning of the Constitution. Justice Chase stated, without ruling as a matter of law, that direct taxes as contemplated by the Constitution were of only two kinds: capitation (mentioned in the constitutional text) and a tax on land. Justice Chase, anticipating Marbury v. Madison4 by seven years, noted that because the carriage tax as enacted was constitutional, it was unnecessary to determine if the Supreme Court had the power to declare that unconstitutional laws enacted by Congress were null and void. However, Justice Chase pledged that if the Court did have such power, he would never use it except in clear cases.

In his opinion, Justice Paterson wrote that the Framers intended that the principal, if not only, direct taxes were capitation and a tax on land. Justice Paterson also speculated that a tax on the immediate produce of land might also be a tax on land, and therefore direct. Justice Paterson, who had been an important delegate to the Philadelphia convention, wrote that the intended object of the requirement to apportion direct taxes was for the protection of the southern states, which had the largest number of slaves and extensive tracts of thinly populated land. (When the Constitution was ratified, North Carolina included the current state of Tennessee, and Virginia included the current states of West Virginia and Kentucky.) In contrast, the majority of states had far fewer slaves and limited territory that was more intensively settled and farmed. Accordingly, a tax of a fixed amount per slave or a fixed amount per acre would fall disproportionately on the southern states. Apportionment by population would prevent that from happening. In contrast, the fact that an apportioned tax on passenger carriages would lead to unjust results convinced Justice Paterson that the tax in question was not a direct tax.

In his opinion, Justice Iredell pointed out that because all direct taxes must be apportioned, the Constitution considered as direct only those taxes that could be apportioned. The carriage tax was not apportionable because apportionment would lead to absurd results. Accordingly, the tax on passenger carriages was not a direct tax. Justice Iredell did not find it necessary or appropriate to propound a general rule, applicable in all cases, on what is or is not a direct tax.

Justice Wilson wrote that he had expressed his judicial opinion that the passenger carriage tax was constitutional when he sat as a circuit court judge when the case at hand was before the Circuit Court of Virginia. Justice Wilson affirmed that his previously stated view -- that the tax was constitutional -- had not changed.


II. Pacific Ins. Co. v. Soule5

To finance the Civil War, Congress in 1862, 1864, and 1866 enacted revenue acts that taxed the income of insurance companies; taxed amounts insured, renewed, or continued by insurance companies; taxed the gross amounts of premiums received and assessments by insurance companies; and also taxed their dividends and undistributed sums.

The plaintiff insurance company challenged those taxes. One of the plaintiff's lines of attack was that the taxes were direct taxes and, because they were not apportioned among the states, were unconstitutional. The plaintiff argued that any tax that falls on the taxpayer was a direct tax, but a tax whose burden could be shifted to the consumer was an indirect tax. The plaintiff argued that Adam Smith was the leading authority on political economy during the framing of the Constitution and that Smith wrote that a tax on a person's revenue was a direct tax.

Justice Noah Swayne issued the opinion of the Court. On the issue of direct taxation, the Court looked to Hylton for guidance. Justice Swayne noted that the Hylton Court was unanimous. Justice Swayne observed that apportionment would lead to untoward results, which demonstrated that the taxes in question were not direct. Accordingly, the taxes at issue in the case at hand were not direct taxes.


III. Veazie Bank v. Fenno6

The question before the Supreme Court in this case was the constitutional validity of an act of Congress in 1866 imposing a 10 percent tax on the issuance of circulating bank notes by nationally chartered banks or by state chartered banks. The plaintiff bank was chartered by the state of Maine, and the bank challenged the tax on two grounds. The plaintiff claimed that the tax was a direct tax that had not been apportioned among the states. The plaintiff also claimed that Congress could not tax a franchise that had been granted by one of the states.

Chief Justice Salmon Chase delivered the opinion of the Court. The Court held the tax to be constitutional. The Court held that rather than being a tax on the franchise granted by a state, the tax was on property created or contracts made by the bank. Further, simply because a federal tax may be burdensome, that does not make the tax unconstitutional. Also, Congress may regulate circulating money. Chief Justice Chase also analyzed the meaning of direct tax. He pointed out that Smith's treatise on political economy, while mentioning the difference between direct taxation and indirect taxation, did not bear on the meaning of direct taxes in the text of the Constitution, even though that important treatise had been recently published at the time of the framing of the Constitution. Instead, Chief Justice Chase turned to the historical record.

He pointed out that Congress had enacted taxes that were acknowledged to be direct. Those taxes were enacted in 1798, 1813, 1815, 1816, and 1861. In each instance the sums collected were apportioned among the states. The subjects of those taxes were, variously, lands, improvements, dwelling-houses, and slaves.7 Chief Justice Chase pointed out that Congress never considered taxes on personal property, contracts, or occupations to be direct taxes. He observed that slaves were not an exception because, even though many of the slave states had considered slaves to be real property, slaves were, of course, persons and subject to a capitation, which was direct.

Therefore, Chief Justice Chase concluded, Congress understood direct taxes to be limited to taxes on land and improvements, and capitations.8 Also, Chief Justice Chase observed that discussions at the Constitutional Convention in Philadelphia, and at the various state ratification conventions, did not contradict the congressional construction. The chief justice recited the James Madison account referred to in note 1, above.9 Therefore, concluded Chief Justice Chase, the "direct taxes" mentioned in the Constitution were capitations, taxes on land and improvements, and, possibly, taxes determined "by valuation and assessment of personal property upon general lists."10 The chief justice noted that those taxes were the principal taxes used by the states at the time of the Constitutional Convention. Chief Justice Chase then turned to the opinions in Hylton and noted that they confirmed that view. Finally, Chief Justice Chase observed that the tax on banks was much like the tax on insurance companies that had been upheld in the previous term in Pacific Ins. Co. v. Soule.11


IV. Collector v. Day12

Congress also enacted an income tax to help finance the Civil War. The income tax was reenacted after the Civil War to help pay down the public war debt. Judge Day of the Court of Probate and Insolvency for Barnstable County, Mass., was taxed by the United States on his salary. He sued for a refund.

This case is of relevance to the inquiry as to the meaning of the constitutional term direct tax, not so much for what it does say but for what it does not say. The Court, in an opinion delivered by Justice Samuel Nelson, held that Congress could not tax Judge Day's salary because to do so would in effect impose a tax on the Commonwealth of Massachusetts, and Congress's power does not reach that far.13 What this opinion does not say is that the income tax was a direct tax. Collector v. Day was explicitly overturned in Graves v. New York ex rel. O'Keefe14 in 1939.


V. Collector v. Hubbard15

This case, like Day, arose from the Civil War income tax. Congress, in the Internal Revenue Act of June 30, 1864, had stipulated that gains and profits of all companies, whether incorporated or partnership, were to be included in the income of any person "entitled" to them, "whether divided or not." The taxpayer argued that he was not "entitled" to a ratable share of corporate earnings that had been retained by the corporation and used by the corporation to acquire business assets and pay down corporate debt. The government argued that the taxpayer, by virtue of his share ownership, was "entitled" to his ratable portion of the profits and would eventually receive them by future dividend or on corporate liquidation. Justice Nathan Clifford, writing for a unanimous Court, sided with the government.

The key point here is that this case was one of simple, statutory interpretation. There was no mention of the tax having been an unapportioned, direct tax. Given the then-recent decision in Pacific Insurance, it is not surprising that the constitutional validity of the tax in question was viewed as obvious.


VI. Scholey v. Rew16

The tax at issue in this case was a succession tax on real property. The taxpayer claimed that the tax was a direct tax because it applied to real property and was enforceable through liens on the subject real property. Because the tax was not apportioned among the states, the taxpayer asserted that the succession tax was unconstitutional.

Justice Clifford delivered the opinion of the Court. Justice Clifford reasoned that succession tax was not a direct tax because it was neither a capitation nor a tax on land. Succession to, or devolution of, real property was the occasion of the tax in this case; mere ownership of land was not. The lien on real property was merely an enforcement mechanism.17 Justice Clifford stated, further, that while it had not been absolutely determined that capitations and taxes on land were the only direct taxes, it had been specifically decided that income taxes were not direct taxes, and an income tax could not be distinguished from a succession tax.18 In support of the proposition that an income tax was not a direct tax, Justice Clifford cited two of the Supreme Court cases discussed above -- Pacific Insurance, and Veazie Bank -- as well as a lower court case upholding the Civil War income tax.19


VII. Springer v. United States20

The Civil War income tax was the matter before the Court in this landmark case. The relevant issue for current purposes was whether the income tax in question was a direct tax because the income tax had not been apportioned among the states. Justice Swayne, writing for the Court, concluded that direct taxes, within the meaning of the Constitution's text, include only capitations and taxes on real property; therefore, the income tax was not a direct tax.21

Justice Swayne examined the writings of the Framers discussing the Constitution, and he also examined the records of the various ratification conventions. In the opinion of Justice Swayne, those historical records were not very helpful to the taxpayer's argument that the income tax was a direct tax.22 Justice Swayne listed those taxes that Congress had apportioned among the states. He examined the Supreme Court cases in which the question of direct taxes had been plumbed (all of which were discussed above).23 Because the taxpayer's argument that the income tax was a direct tax was based largely on the writings of political economists from the United Kingdom,24 Justice Swayne wrote: "The question, what is a direct tax, is one exclusively of American jurisprudence."25


VIII. Review of the Precedents Through Springer

Through Springer, the Supreme Court had spoken five times on the issue of the meaning of direct tax. A tax on passenger carriages was determined not to be a direct tax in Hylton. A tax on the income and some business assets and transactions of insurance companies was ruled not to be a direct tax in Pacific Insurance. In Veazie Bank, the Court held that a tax on the issuance of circulating bank notes by federally chartered or state chartered banks was not a direct tax. In Scholey, the Supreme Court held that a tax on succession to real property was not a direct tax. Finally, the Supreme Court specifically held that a general income tax was not a direct tax in Springer.

Starting with Hylton, the Supreme Court had repeatedly stated that the only direct taxes were capitations (specifically identified by the constitutional text as direct taxes) and taxes on land (and improvements). There were occasional statements that a tax on all personal property by general assessment might also be a direct tax. Justice Paterson's opinion in Hylton contained a suggestion that a tax on the immediate produce of land might also be a direct tax. Also, starting with Justice Chase's opinion in Hylton, the Court repeatedly stated that if apportionment of a tax could be achieved only at the cost of injustice, the tax at issue is not a direct tax.26

The Supreme Court held in Day that Congress did not have the power to tax the judicial salary of a state court judge. That was not because the income tax was a direct tax that had not been apportioned, but because the Court viewed an income tax on the recipient of a salary from a state as being, in effect, a tax on the state itself. While Justice Nelson's opinion did not cite Hylton, the idea that a tax on income generated by a particular source is effectively a tax on the source itself is somewhat analogous to a theory expressed in Justice Paterson's opinion in Hylton that a tax on the immediate produce of land might be considered a tax on the land. However, the analogy is very strained. Standing crops, or just harvested crops in raw form, are quite different in their place in the economic chain of events from a salary paid to a public employee. While Justice Paterson mused that a parcel of farmland has no value except to produce a crop, it is a far different thing to conclude that a state exists for the purpose of employing public employees. Further, a tax on land or on standing or just-harvested crops immediately burdens the landowner, while an income tax on a public employee immediately burdens the employee, but not the state.

In Hubbard, the Supreme Court held that a provision of the Civil War income tax was properly construed as imposing a tax on a corporate shareholder with respect to his ratable portion of undistributed corporate profits. The case was one of statutory interpretation. No mention of direct taxation was contained in the Court's opinion or in the reported arguments of counsel, leading to the conclusion that all of the parties involved viewed the constitutionality of the tax as obvious.


IX. Pollock v. Farmers' Loan & Trust Co.27

A. The First Pollock Decision28

In a politically charged atmosphere, Congress in 1894 enacted an income tax. The defendant bank was prepared to pay its income tax, which was based on the bank's income from business operations and also on income from investments in real property, as well as interest on New York City bonds. Also, the defendant bank was going to pay income tax on rental income on real properties that it held in a fiduciary capacity, as a trustee. The plaintiff, Charles Pollock, was a shareholder of the bank, and he sued to enjoin the bank from paying the income tax to the government.

Chief Justice Melville Fuller delivered the opinion of the Court. In his view, the purpose of the inquiry was to find the meaning of direct tax when the Constitution was framed in Philadelphia and ratified by the states.29 Chief Justice Fuller observed that the delegates to the Constitutional Convention in Philadelphia were wise and well read. Therefore, reasoned the chief justice, the published views of the leading political economists of the day provide an insight into the meaning of the term direct tax as it appears in the Constitution.30 That reliance on the published writings of political economists broke with the reasoning of Justice Swayne in Springer.

Chief Justice Fuller acknowledged that Springer was relevant, but he read Springer quite narrowly to properly apply only to a tax on earned income. That is, a tax on personal service income was not a direct tax, but a tax on rental income from real property was not before the Court in Springer. The taxpayer in Springer had income from his professional practice as a lawyer, and the taxpayer also received interest on U.S government bonds, although those facts were not disclosed in the Springer Supreme Court decision.

Chief Justice Fuller's majority opinion went on to hold that a tax on income from real property was the same thing as a tax on real property. Further, Chief Justice Fuller's opinion held that a tax on the income from city of New York bonds was the same thing as a federal tax on a political subdivision of a state. The majority opinion then relied on Day to hold that such interest could not be taxed by the federal government. Thus, a tax on rental income from real property was a direct tax, and a tax on interest income from state bonds was beyond the reach of the federal government. While there is a suggestion that a tax on income from personal property was also a direct tax, there was no holding on that subject.

Justice Edward D. White31 wrote a strong dissenting opinion. He objected to the nature of the suit, which in substance was an attempt to enjoin collection of a tax, rather than an attempt to obtain a refund of a disputed amount. Further, Justice White indicated that he believed the majority opinion departed from a century of precedents holding that only capitations and real property taxes were direct in the constitutional sense. Justice White's opinion pointed out that there was no evidence that the Framers understood the meaning of "direct taxes" as used in the constitutional text to be the meaning ascribed to the term in the leading treatises on political economy of the day.

B. The Second Pollock Decision32

Chief Justice Fuller wrote for a 5-4 majority. The Court confirmed that a tax on rental income from real property was a direct tax. The Court also ruled that a tax on income generated by personal property was a direct tax. The Court further confirmed that Congress could not tax interest on state bonds because that would be tantamount to a tax on the debtor state. The Court acknowledged that a tax on income from wages, salaries, professional practices, and the like would not be a direct tax. But the Court determined that the 1894 tax legislation was not severable, so the entire 1894 income tax act was unconstitutional.

The foundation of the majority opinion was the theory that a tax on income generated by something was the same thing as a tax on the income-generating source. Accordingly, a tax on rents was the same as a tax on real property (a tax on real property was generally considered to be direct, based on a century of precedent); a tax on interest and dividends was the same thing as a tax on invested capital (the Court also held that a tax on that sort of personal property was a direct tax); and, further, a tax on state bond interest was the same thing as a tax on the debtor state. In that, the Court echoed, to some degree, the theory of Day.

The majority opinion asserted that one of the purposes of the apportionment requirement was to deter the federal government from catering to the majority by oppressively taxing the minority.33 The majority opinion asserted that in England the income tax had always been viewed as a direct tax.34 The majority opinion gave only a passing nod to the notion that if a tax can be apportioned only at the cost of great injustice, the tax in question must not be direct.35

The nontaxability of state bond interest was not controversial. The rest of the majority opinion was highly controversial and gave rise to four dissenting opinions.

Justice John Marshall Harlan's dissenting opinion reviewed the precedents in detail and asserted that the majority was reading the precedents too narrowly. Justice Harlan's dissent pointed out that a tax on rents was not the same thing as a tax on real property because such a tax would not apply to any real property from which no rental income was derived.36 Justice Harlan's dissenting opinion also maintained that there was no precedent for holding that a tax on personal property was a direct tax. Indeed, the carriages taxed in Hylton were personal property. Justice Harlan reasoned that because there was no precedent for concluding that a tax on personal property was a direct tax, there also was no precedent for holding that a tax on income generated by invested personal property was a direct tax. Finally, Justice Harlan thought the 1894 tax act was severable.

Justice Henry Brown also contributed a strong dissenting opinion. He drew on Justice Patterson's opinion in Hylton to conclude that the apportionment requirement was written into the Constitution to protect the interests of the southern slave states; with the end of slavery, the purpose for the apportionment of direct taxes had vanished, and therefore direct tax should be construed narrowly.37 Justice Brown also believed that in all probability, the Framers understood direct taxes to refer to taxes on real property.38 For Justice Brown, the fact that income taxes could not be apportioned by population sensibly led to the conclusion that income taxes were not direct taxes. He expressed his concern that the Court's ruling was almost a "national calamity" because it so heavily favored property owners, and did so in defiance of the will of Congress.39

Justice Howell Jackson, despite his failing health, added a powerful dissent. He pointed out that Chief Justice Fuller's majority opinion relied too much on the writings of economic theorists for the meaning of direct taxes. The majority accepted the argument that a tax, the economic burden of which could not be shifted to others, was a direct tax. Justice Jackson agreed that was the meaning of the term when it was used in economic literature, but he pointed out that there was no record that the Framers had understood the term, when used in the Constitution, to have the meaning given to it in economic literature.40 Moreover, Justice Jackson pointed out that while the majority opinion noted that English law always viewed income taxes as direct taxes, the majority did not note that English law viewed a tax on rents as something other than a tax on land.41

Justice White's dissenting opinion explained that the theory of the majority opinion -- that a tax on the income from personal property was the same thing as a tax on personal property and that a tax on personal property was a direct tax -- was, in all honesty, inconsistent with Hylton. As such, for Justice White, it was clear that the majority opinion overturned a century of Supreme Court precedent. Further, Justice White pointed out that the majority opinion, by focusing on the economic meaning of direct tax for purposes of invalidating the tax legislation at bar, could not logically depart from that meaning to uphold the existing Supreme Court precedents. Justice White's dissent also suggested that it is hard to determine what taxes can be shifted in the economic sense.42


X. Nicol v. Ames43

This case dealt with a tax enacted to help finance the Spanish- American War of 1898, a stamp tax on memorandums evidencing transactions at a board of trade or exchange. Justice Rufus Peckham authored the Court's opinion; there were no dissenting or concurring opinions.

The Court determined that the tax in question was a tax on the privilege, opportunity, or facility offered at a board of trade or exchange, and as such, was not a tax on property. Accordingly, the tax under examination was not a direct tax.


XI. Knowlton v. Moore44

Only five years after Pollock, the Supreme Court refused to hold that a tax on legacies and distributive shares of personal property, enacted by Congress to help finance the Spanish-American War, was a direct tax. Justice White, who had energetically dissented in both of the Pollock decisions, wrote the majority opinion in Knowlton. The plaintiff executors asserted that the legacies tax was an unapportioned direct tax. The majority opinion in Pollock specifically endorsed Scholey, which held that a tax on successions to real property was not a direct tax. However, the plaintiffs in Knowlton pointed out that the Scholey opinion held the successions tax not to be a direct tax because, among other reasons, a successions tax could not, in principle, be distinguished from an income tax, and in the eyes of the Scholey Court, an income tax clearly was not a direct tax. Nevertheless, Justice White, writing for the Court in Knowlton, upheld the legacies tax. Thus, notwithstanding Pollock, death taxes were not direct taxes.

XII. Patton v. Brady45

In 1902 the Supreme Court decided a case involving a federal tax on "manufactured" tobacco. While not the plaintiff's primary argument, the tax was challenged on the basis of being an unapportioned, direct tax. Justice David Brewer, writing for a unanimous Court, specifically noted that one of the briefs for the plaintiff contained a well-developed and well-reasoned argument that the tax on manufactured tobacco was a tax on personal property and, by virtue of Pollock, it was a direct tax that should have been apportioned among the states by population. Justice Brewer simply stated that the tax at issue was not a tax on personal property as such, but only on specific types of personal property with specific intended uses. Therefore, the tax in question was not a direct tax.46

XIII. Thomas v. United States47

In 1898, to help finance the war with Spain, Congress enacted a stamp tax requiring that revenue stamps be affixed to any memorandum or contract for the sale of corporate stock in the form of certificates for shares. The plaintiff argued that the tax at issue was a tax on personal property and therefore was a direct tax under Pollock. Because the tax in question had not been apportioned among the states, the plaintiff asserted that the tax was unconstitutional.

Chief Justice Fuller delivered the unanimous opinion of the Court. The Court held that the tax in question was not a direct tax. According to Chief Justice Fuller, the tax at issue was not a direct tax because it fell on a particular type of business transaction. That is, because the tax was not exigible until and unless a transaction of sale of corporate shares took place, the tax lacked the element of "absolute and unavoidable demand."48


XIV. Spreckles Sugar Refining Co. v. McClain49

This case also involved a tax enacted by Congress to help finance the war with Spain. The tax at issue was a gross receipts tax imposed on refiners of sugar (and on oil refiners too). This case presented the Supreme Court with procedural issues as well as issues of statutory construction. Also, the taxpayer corporation asserted that the tax in question was a direct tax and, accordingly, unconstitutional because it had not been apportioned among the states by population.

Justice Harlan delivered the majority opinion. (Chief Justice Fuller, joined by Justice Brown, dissented on procedural grounds and did not reach the constitutional merits.) In analyzing whether the tax at issue was a direct tax, Justice Harlan noted that Congress did not try to overreach its taxing authority. Further, Justice Harlan pointed out that the tax did not reach all gross receipts, but only those from the business of refining sugar (and, presumably, of refining oil). Justice Harlan then reviewed a number of Supreme Court cases dealing with the direct tax issue (all of which were discussed above). The cases reviewed by Justice Harlan were Pacific Insurance, Veazie Bank, Scholey, Nicol, Knowlton, and Patton. Justice Harlan reasoned that those precedents led to the inevitable conclusion that the tax at issue in the case at hand was not a direct tax. Significantly, Justice Harlan pointed out that the distinctions between direct taxes and taxes that were not direct taxes were hard to articulate.50


XV. Flint v. Stone Tracy Co.51

In 1909 Congress enacted a tax on corporations. The statute subjected all corporations, joint stock companies, corporation-like associations, and insurance companies doing business in the United States (or in its territories, Alaska, or the District of Columbia) to a "special excise tax" in respect of doing business, in the amount of 1 percent of net income over $5,000. Dividends from other corporations subject to the tax were excluded. Foreign corporate entities were also taxable on income from business done, or capital invested, in the United States, its territories, and so on. This tax was challenged in the Supreme Court as unconstitutional on the theory that it was a direct tax that had not been apportioned among the states by population.

Justice William Day wrote for the unanimous Court. He explained that while not absolutely dispositive, the declaration in the statute that the tax in question was a special excise tax (and thus not a direct tax) was entitled to "much weight."52 The tax at issue was viewed as an excise on doing business in a particular manner, and even though the tax liability was measured in part by income from real property, or from invested capital, the tax in question was not a tax on the ownership of real property or invested capital. Accordingly, the tax at issue lacked the element of immediate and unavoidable demand. The tax could be avoided by not doing business in corporate (or similar) form.53


XVI. Zonne v. Minneapolis Syndicate54

The corporate entity in this case had been in the business of managing and renting space in an office building it owned. Late in 1906, the corporation rented out the entire property under a 130-year lease. The corporate charter was then amended so that the corporation's powers were limited to owning the fee interest in the real property, to receiving and distributing rental payments to the shareholders, and to receiving and distributing to the shareholders the net proceeds arising from any disposition of the real property. Justice Day, writing for a unanimous Court, confirmed that the 1909 corporation tax law validly taxed corporations engaged in the business of managing and renting out real property. However, after the making of the 130-year lease, and amending the articles of incorporation, the corporation in question was no longer engaged in business within the meaning of the 1909 statute. Thus, the corporation in question was not subject to the tax.

XVII. The Eve of the 16th Amendment

Zonne was the last Supreme Court case of relevance to the meaning of direct taxes in the constitutional sense decided before the 16th Amendment was ratified on February 3, 1913. The most important precedents at that time were, of course, the two Pollock decisions. However, the Supreme Court was not expanding the reach of Pollock. Indeed, Pollock was gradually being cut back. Thus, in Nicol, a tax on commodities transactions at a board of trade or exchange was held not to be a direct tax. A legacies tax was held not to be a direct tax in Knowlton. A tax on manufactured tobacco was held not to be a direct tax in Patton. A tax on sales of corporate shares in certificate form was held not be a direct tax in Thomas. A gross receipts tax on sugar refiners and on oil refiners was held not to be a direct tax in Spreckles Sugar Refining Co. Finally, a corporate income tax was held not to be a direct tax in Flint, and that was confirmed in Zonne.

Pollock was the first and, in 1913, the only Supreme Court case to hold that a congressionally enacted tax was an invalid unapportioned direct tax. Interestingly, in the first Pollock decision Chief Justice Fuller remarked that one of the objections to the income tax enacted in 1894 was that it was enacted at a time of "profound peace."55 Only a few years later, that peace was severely shaken when, on the night of February 15, 1898, the battleship Maine exploded while anchored in the harbor at Havana, Cuba. The Maine sank under very suspicious circumstances, and with a great loss of life. By April 25, 1898, America was at war with Spain.56 The taxes at issue in Nicol, Knowlton, Patton, Thomas, and Spreckles Sugar Refining Co. were all enacted to help finance the war with Spain. All were upheld by the Supreme Court. Before Pollock, all of the taxes upheld in the cases before the Supreme Court, from Pacific Insurance through Springer, were taxes that had been enacted to help finance the Civil War or to help retire Civil War debt.

The carriage tax, which had been upheld in Hylton, was, at least in the eyes of Chief Justice Fuller, "enacted in a time of threatened war."57 While there is no constitutional text to support the theory, Chief Justice Fuller apparently believed that Congress's ability to enact a valid tax, not apportioned among the states by population, was greater at times of war, threatened war, or in the aftermath of war.58 The corporate income tax upheld in Flint was not a war tax although the United States had emerged from the war of 1898 as one of the great powers of the world, with new possessions such as the Philippine Islands and Puerto Rico. Of course, by the time Flint was decided Chief Justice Fuller had passed away and Justice White, a dissenter in Pollock, had been promoted to chief justice of the United States.

In two of the post-Pollock decisions, the notion that a tax related to property ownership but not subject to absolute and unavoidable demand because some contingency had to be satisfied before the tax became exigible was used to uphold the tax in question. The tax on the sale of corporate shares in certificate form was upheld for that reason in Thomas, as was the corporate income tax in Flint. Significantly, that theory could have been used to uphold a tax on rental income. The owner of the real property in question would not be subject to tax unless and until the property had been rented out for valuable consideration. Justice Harlan pointed out that objection in his dissent in the second Pollock decision (see note 33, above). The same could be said of a tax on income from personal property. That is, unless and until the personal property in question has started to throw off income, there would be no tax. For that reason, the rule announced in the Pollock decisions -- that a tax on income from property was the same thing as a tax on property -- was eroding.

Chief Justice Fuller's majority opinion in the second Pollock decision held that a tax on personal property was a direct tax. From that the chief justice reasoned that a tax on income from invested capital -- income-generating personal property -- was also a direct tax. However, the tax in question in Patton was upheld. Although a tax on manufactured tobacco was a tax on personal property, the tax at issue was a tax on personal property only of a specified kind. In that light, Hylton too could be viewed as involving a tax on personal property, but only of a specified kind (passenger carriages), and therefore valid. On that theory, it might have been possible to uphold, for example, a tax on annuity contracts. Such a tax would have been a tax on invested capital, but not a tax on invested capital as such, but solely on invested capital of a specified kind.

Starting with Hylton and continuing through Springer, the Supreme Court had relied on a theory that, if apportioning a given tax among the states by population would generate unfair and odd results, the tax in question was not a direct tax. That fairness test was dropped from the Supreme Court analysis in cases after Pollock. In the second Pollock decision, Chief Justice Fuller, writing for the majority, tried to make the case that the income tax could feasibly have been apportioned among the states by population, but that argument was unpersuasive.59 Perhaps the reason that the Supreme Court dropped the fairness test in cases after Pollock was that the fairness test simply could not be squared with Pollock.


XVIII. The 16th Amendment

The 16th Amendment was proposed by Congress on July 12, 1909. It was ratified on February 3, 1913. The 16th Amendment provides:
The income tax has proved to be a powerful revenue-raising tool for the federal government. The question as to what taxes are direct taxes became far less pressing as a constitutional issue.

XIX. McCoach v. Minehill & Schuylkill H.
R.R. Co.60

This case arose under the Corporation Tax Act of 1909. The constitutional validity of the 1909 act had been upheld by the Supreme Court in Flint, under which the tax was held to be an excise on doing business in corporate form, and not to be a tax on income from real property or from invested capital, which would have made it a direct tax under Pollock and thus subject to apportionment. As in Zonne, the holding in Flint was again confirmed. The majority opinion in McCoach was written by Justice Mahlon Pitney. The majority opinion held that a railroad company that had leased its property to another company under a very long-term lease was no longer "engaged in business" within the meaning of the 1909 act. The corporation, in addition to receiving rental income on its leased railroad property, also received interest income on its funds, but that did not amount to doing business. The majority opinion strongly suggested that taxing such passive investment income would have brought the tax under the Pollock ruling that a tax on income from invested capital was equivalent to a tax on invested capital, and as such, it would have been a direct tax, requiring apportionment.61

Three justices dissented, in an opinion by Justice Day. The dissenters viewed the remaining activities in the corporation in question to have been sufficient to have caused the corporation to have been "doing business" in the statutory sense.62


XX. Stratton's Independence, Ltd. v. Howbert63

This was another dispute that arose under the 1909 tax act. The taxpayer was a British corporation that owned and operated a mine in Colorado from which the taxpayer extracted ores containing gold and other valuable metals. The taxpayer asserted that mining companies operating solely on their own property are not really engaged in business but are merely converting their capital assets from one form to another. Accordingly, under the taxpayer's theory, the 1909 act, as applied to the taxpayer in the case at hand, worked as a tax on capital. As such, the tax was an unapportioned direct tax under Pollock.

The Court opinion, written by Justice Pitney, was unanimous on that issue, holding that mining was doing business within the meaning of the 1909 act. While not praising the Pollock jurisprudence, Justice Pitney's opinion did treat Pollock as limiting Congress's power to tax capital without apportionment among the states by population.64 Thus, while the 16th Amendment had eliminated the application of Pollock to income taxes enacted after ratification, Justice Pitney's opinion treated Pollock as the controlling statement of constitutional law on the issue of a tax on invested capital: A tax on invested capital was a direct tax.


XXI. Brushaber v. Union Pacific R.R. Co.65

In Brushaber, the Supreme Court validated the first post- 16th Amendment income tax. Chief Justice White, who as an associate justice had dissented articulately in Pollock, wrote for a unanimous Court. Upholding the income tax provisions of the tariff act of October 3, 1913, Chief Justice White observed that the 16th Amendment did not give Congress any new power to lay and collect an income tax; rather, the 16th Amendment permitted Congress to do so without apportionment, as required by Pollock, in the case of a tax on income from real property or from invested capital. Further, Pollock had confirmed Congress's power to lay and collect, without apportionment, a tax on income from personal services, trades, and professions.66 Moreover, in analyzing Pollock, Chief Justice White stated that the Pollock Court believed that the purpose of the apportionment of direct taxes provisions in the Constitution was to prevent the burdening of accumulations of property by subjecting those taxes to apportionment.67 The tone of Chief Justice White's opinion was not entirely sympathetic to the Pollock constitutional theory; the chief justice pointed out that it had been well- established that direct taxes had been believed to consist only of capitations and taxes on land.68

XXII. Stanton v. Baltic Mining Co.69

In Stanton, Chief Justice White, writing for a unanimous Court, said the income tax provisions of the Tariff Act of October 3, 1913, validly taxed the income of a mining company. That was so even though the applicable statute made no allowance for depletion and thus taxed the mining company's capital to some degree. The Stanton opinion was remarkable for its disdain of Pollock:
Given that sentiment, expressed the chief justice for a unanimous Court (although Justice James McReynolds took no part in the consideration and decision in the case), it is fair to conclude that Pollock would have been overruled by the Court if there had been no 16th Amendment.

XXIII. Towne v. Eisner71

The income tax provisions of the Tariff Act of 1913, taxed "dividends." The government argued that that meant stock dividends as well as cash dividends. The taxpayer in Towne had received a pro rata, common-on-common stock dividend. The distributing corporation had transferred $1.5 million from earned surplus to the capital stock account in respect of the stock dividend. The $1.5 million had been earned before January 1, 1913. Justice Oliver Wendell Holmes Jr. wrote for a unanimous Court (Justice Joseph McKenna concurred in the result but did not write a separate opinion) and held that, as a matter of statutory construction, the stock dividend in question was not income. Although not using the word "realization," Justice Holmes observed that no property had left the corporation and the shareholders had the same proportionate interest in the corporation that they had before the distribution. In observing that income did not necessarily have the same meaning in the 16th Amendment as it did in the statute in question, Justice Holmes made the famous statement, "A word is not a crystal, transparent and unchanged, it is the skin of a living thought and may vary greatly in color and content according to circumstance and the time in which it is used."72 The Towne Court held that a pro rata, common-on-common stock dividend was not income within the meaning of the 1913 statute. Accordingly, Towne was not a constitutional interpretation. Interestingly, the 1870 Hubbard case was not mentioned, perhaps because both Towne and Hubbard were cases of statutory interpretation and very different statutes were involved.

XXIV. Eisner v. Macomber73

Unlike the Tariff Act of 1913, the Revenue Act of 1916 did specifically tax shareholders on stock dividends (as well as cash dividends). At issue in Eisner was the constitutional validity of taxing a pro rata, common-on-common stock dividend made in 1916. The Court split 5-4, with Justice Pitney writing the majority opinion. The majority ruled that neither the 16th Amendment nor Article I permitted Congress to tax, without apportionment, a pro rata stock dividend or the accumulated profits behind it as income of the shareholder. That is, to be constitutional, an unapportioned tax on income from property must tax only realized income.74 The majority opinion was based on the theory that a tax on a shareholder with respect to any unrealized accretion in value of the shares that shareholder owned was a tax on capital and not on income. Therefore, Justice Pitney observed that Hubbard must be seen as having been overruled by Pollock.75 There were two dissenting opinions, one by Justice Holmes and one by Justice Louis Brandeis. Justice Day concurred with the Holmes dissent, and Justice John Clark concurred with the Brandeis dissent.

The Holmes dissenting opinion was quite brief. When he wrote for the Court in Towne, Justice Holmes had observed that, by interpreting the 1913 statute as not taxing stock dividends, the Towne opinion had left open the possibility that stock dividends could be subject to taxation under the 16th Amendment. Now Justice Holmes stated that, indeed, stock dividends could be taxed under the 16th Amendment on the theory that stock dividends constituted income, within the plain meaning of the word "income."76

In contrast with the Holmes dissent, the Brandeis dissent was lengthy. A key point the Brandeis dissenting opinion made was that a stock dividend was the functional equivalent of a cash dividend with a shareholder election to purchase newly issued shares with the money produced by the cash dividend.77 That situation would clearly have been taxable. However, Justice Brandeis's argument had been effectively dealt with in Justice Pitney's majority opinion, under the theory that the shareholders in question would have been free to use the distributed cash in any manner they wished.78 The Brandeis dissent also observed that the relevant share of a partnership's undistributed profit was taxed to the partners and that there was no reason to treat corporate shareholders differently from partners.79

The majority opinion in Eisner represented an extension of Pollock beyond the existing case law. Even if it had been stipulated that a tax on a pro rata stock dividend was in fact a tax on invested capital, it still was not inevitably a direct tax. A tax on stock dividends would not have been a tax on invested capital as such, but only on personal property of specified type, as in Patton (tax on manufactured tobacco) or Pacific Insurance (tax on business assets of insurance companies); also, it would not have been a tax that was subject to absolute and unavoidable demand, as required by Thomas and Flint. There would have been no tax payable on the shareholders on account of the undivided profits of the corporation until a stock (or cash) dividend had been distributed. Nevertheless, the majority opinion in the case at hand did not analyze the tax on stock dividends any further than to assert that the tax in question was a tax on capital that it had not been apportioned, and therefore the taxing statute was invalid. Accordingly, Pollock was extended to a case in which the capital taxed was only a particular type, and only under the contingency of a stock dividend.


XXV. Bowers v. Kerbaugh-Empire Co.80

In this case, a corporate taxpayer borrowed funds from a German bank. The taxpayer received American dollars and was obligated to pay back American dollars, but the amount of dollars to be paid back was to be equal to the then-current number of German marks equivalent to the debt. Thus, when the taxpayer borrowed dollars in 1913, the German mark equivalent was DM 8,341,337.50, but when repaid in 1915, the indebtedness in marks was far less: DM 3,216,445. Despite the currency gain enjoyed by the taxpayer, the borrowed funds were used by the taxpayer in projects that lost money in excess of the currency gain. The taxpayer argued that the currency gains were not income within the meaning of the 16th Amendment. Justice Pitney, writing for the Court, noted that the overall transaction resulted in a loss, albeit a smaller loss then that which would have been suffered if the German marks had maintained their dollar value. Accordingly, there was no income at all.81

XXVI. Bromley v. McCaughn82

The taxpayer in this matter had made taxable gifts after the applicable effective date of the Revenue Act of 1924. The taxpayer asserted that the gift tax was a direct tax, and since it had not been apportioned among the states by population, it was unconstitutional. Justice Harlan Fiske Stone83 wrote the majority opinion, which upheld the gift tax. The basis of the decision was that a tax on a single use of property, or the exercise of a single power of property, was not a direct tax.84 Also, Justice Stone noted that a legacies tax had been upheld in Knowlton and that a successions tax had been upheld in Scholey.85

Justice George Sutherland wrote a dissenting opinion in which Justices Willis Van Devanter and Pierce Butler joined. In the view of the minority, the right to give property away was such a fundamental right of ownership that a gift tax, measured by the value of the property, was, in effect, a tax on the property itself.86


XXVII. Tyler v. United States87

The statutes involved in this matter were the Revenue Act of 1916 and the Revenue Act of 1921. The statutes imposed a tax on the transfer of the net estate of decedents. Included in the tax base were properties held by decedents jointly, with right of survivorship, or as tenants by the entirety, unless it could be shown that the properties had been originally owned by the survivors and had never belonged to the decedents. In the case at hand, the plaintiff asserted that the tax in question was an unapportioned direct tax. The plaintiff's theory was that property held by the entirety was something that the survivor already owned, so the tax was not a transfer tax, but rather a tax on the property as such and, accordingly, a direct tax. That theory was based on the common-law fiction that husband and wife are a singular unit, and that on the death of one of the spouses, property held by the entirety does not pass to the survivor, by virtue of the fact that the survivor was always the owner.88

Justice Sutherland, the author of the dissenting opinion in Bromley, wrote for a unanimous Court in Tyler. He observed that death duties had been upheld in Knowlton (tax on legacies), and that the common-law fiction did not form an adequate basis for overturning a revenue statute. Justice Sutherland pointed out that the surviving spouse received a fuller measure of ownership on the death of the other spouse, including the sole right of possession and the sole right of sale. Moreover, the statute excluded from tax those properties that the surviving spouse had originally owned. As a result, the Court held that the tax at issue plainly was not a direct tax.89


XXVIII. Helvering v. National Grocery Co.90

This case involved the 1928 version of the accumulated earnings tax.91 The corporate taxpayer asserted that the tax was a direct tax because it was imposed on the purpose of preventing the imposition of surtaxes on the shareholder that would have been applicable had dividends been paid, and not on the accomplishment of that purpose. Accordingly, the corporate taxpayer asserted that the tax had been imposed on a state of mind and, as such, it was an unapportioned direct tax.92

In the opinion of the Court, authored by Justice Brandeis, the tax was not laid on a state of mind, but on the net income of the corporate taxpayer. As such, the tax at issue was an income tax within the meaning of the 16th Amendment.93 The requisite state of mind was merely a condition precedent to the imposition of the tax on net corporate income.


XXIX. Graves v. People of the State of N.Y.94

This case did not deal with the issue of direct taxation. Nevertheless, it is important to the discussion herein because the holding in this case completely negated the theory on which Chief Justice Fuller's majority opinions in the two Pollock decisions rested. The Pollock decisions held that a tax on rental income was tantamount to a tax on real property. Because a tax on real property had been viewed as a direct tax since Hylton, for Chief Justice Fuller a tax on rental income was a direct tax. Additionally, Pollock held that a tax on personal property was a direct tax and went on to reason that a tax on income from invested capital was tantamount to a tax on invested capital. Accordingly, a tax on income from invested capital was a direct tax, in the eyes of Chief Justice Fuller. Moreover, Pollock held that a tax on interest income from bonds issued by a state (or a political subdivision of a state) was equivalent to a tax on the issuing state; accordingly, it was unconstitutional as a matter of intergovernmental immunity. Finally, Pollock had confirmed that taxes on income from personal services, trade, or business operations were not direct taxes, under the authority of Springer, but then had held that the Income Tax Act of 1894 was not severable, so the entire act was unconstitutional. The key to the majority reasoning in Pollock was the theory that a tax on income from a particular source was, in substance, a tax on the source itself. That theory was supported by Day. Graves specifically overruled Day.

Justice Stone authored the majority opinion in Graves. The taxpayer in the case at hand was an employee of the federal government (the Home Owners' Loan Corporation) and was a resident of the state of New York. New York had a general personal income tax and had included the taxpayer's salary in the base on which the state income tax was imposed. The majority opinion upheld the New York state income tax on the taxpayer's salary. The Court noted that Congress could have exempted salaries paid by the federal agency from state income taxes but had not chosen to do so. Further, those salaries were not automatically exempt because the theory that a tax on income is the same thing as a tax on the source of the income was no longer tenable. Day was overruled.95

Chief Justice Charles Evans Hughes concurred in the result, but did not contribute a concurring opinion. Justice Felix Frankfurter did contribute a concurring opinion. He stated that he joined in the majority opinion but wished to add a few remarks. Justice Frankfurter traced the doctrine of intergovernmental immunity, which had just been struck down by the majority opinion, to a comment made by Chief Justice John Marshall in McCulloch v. Maryland96 that "the power to tax involves the power to destroy."97 Justice Frankfurter viewed that famous statement by Chief Justice Marshall as a rhetorical flourish that had been mistaken for a constitutional mandate. Justice Frankfurter warned against making unwarranted constitutional interpretations based on judicial rhetoric, and urged that interpretations of the Constitution be based on textual analysis instead.98

Justice Butler contributed a dissenting opinion in which Justice McReynolds joined. For the dissenters, the case at hand was controlled by Day, which in their view should not have been overruled. In the opinion of the dissenters, the taxpayer should not have been taxed by the state of New York on his salary from the federal government.99

With its holding in Graves, the Supreme Court by 1939 had made the 16th Amendment superfluous. While the 16th Amendment permits Congress to impose an income tax without resorting to apportionment, Graves had made the holdings in Pollock concerning the income tax absolutely untenable. That is, a tax on rental income was not the same as a tax on real property, and a tax on interest, dividends, royalties, and the like was not the same as a tax on invested capital.


XXX. Helvering v. Griffiths100

The Treasury Department was not happy with Macomber. In Griffiths, the taxpayer was taxed on a pro rata, common-on- common, nonelective stock dividend, as was the case in Macomber. The relevant provisions of the applicable statute, the Revenue Act of 1936, imposed a tax on stock dividends, except when those distributions did not constitute income to the shareholder within the meaning of the 16th Amendment.101

Justice Robert Jackson delivered the majority opinion. The majority interpreted the statute to mean that Congress intended not to tax stock dividends that were within the scope of Macomber. Accordingly, the taxpayer in the case at bar should not have been taxed on the stock dividend in question, as a matter of statutory construction. The majority refused to rule on whether or not Macomber was still good constitutional law.102

Justice Wiley Rutledge did not participate in the consideration or in the decision in the case. Justice William O. Douglas contributed a dissenting opinion in which Justice Hugo Black and Justice Frank Murphy joined. The dissenting opinion was rather forthright. In the view of the dissenters, Macomber should have been overruled. For the dissenters, the issue of whether or not to make the receipt of a stock dividend an occasion of taxing the shareholder on the accrual of wealth it represented was within the competence of Congress under the 16th Amendment.103 In the eyes of the dissenters, the 16th Amendment did not require that income must be realized before it was taxed as income.


XXXI. South Carolina v. Baker104

In 1982 Congress passed legislation that denied federal income tax exemption to interest paid on long-term bonds issued by states (and by their political subdivisions) unless the bonds were issued in registered form. Accordingly, long-term bearer bonds issued by states would no longer yield interest that was exempt from federal income taxation. The legislation was challenged by the state of South Carolina. One of the grounds argued by South Carolina was that such interest could not be taxed by the federal government because of the doctrine of intergovernmental immunity, as held in the first Pollock decision. In Baker the Supreme Court acted in its original jurisdiction. The government had advanced an alternative argument that, because registered bonds remained tax-exempt, the intergovernmental immunity doctrine was not implicated. The special master's report adopted that view.

Justice William Brennan delivered the majority opinion, in which he was joined by Justices Byron White, Marshall, Harry Blackmun, and John Paul Stevens, and, on the issue of intergovernmental immunity under the first Pollock decision, he was also joined by Justice Antonin Scalia. Chief Justice William Rehnquist filed an opinion concurring in the judgment, but it is not clear if he agreed with the majority regarding the first Pollock decision or if he agreed with the government's alternative argument. Justice Sandra Day O'Connor filed a dissenting opinion concerning the first Pollock decision. Justice Anthony Kennedy did not participate.

Justice Brennan's majority opinion expressly overruled the first Pollock decision and held that the federal government had the power under the Constitution to tax interest on state obligations as part of a general income tax. Justice Brennan reasoned that, as had been discussed in Graves, a tax on income was not the same thing as a tax on the source of the income so taxed.105 Thus, after Baker, Pollock had no more continuing vitality regarding federal income taxation.

Justice Stevens's concurring opinion emphasized that although the majority was correct, no opinion on the wisdom, as opposed to the constitutionality, of taxing interest on state bonds had been expressed.106

In her dissenting opinion, Justice O' Connor, a former state legislator, indicated that she viewed taxing the interest on state bonds by the federal government as a threat to state sovereignty.107


XXXII. Direct Taxes Today

A. Realization

Most tax lawyers do not consider Macomber to be a correct statement of constitutional law.108 The Internal Revenue Code of 1986 imposes tax liability, on a nonelective basis, on unrealized income in a number of instances. An example is the tax on U.S. shareholders, as defined, of controlled foreign corporations, as defined, with respect to some types of income earned by CFCs (or even with respect to some types of assets owned by CFCs).109 Other examples include the mark-to-market rules of sections 475 and 1256 and the original issue discount rules of section 1272. The foreign personal holding company regime of sections 551 et seq. was another example, but those provisions were repealed in 2004.110 There are several alternative reasons for believing that a nonelective federal tax on unrealized income is valid without apportionment among the states by population:
The foreign personal holding company regime was challenged as an unapportioned direct tax in Eder v. Commissioner,111 but the Second Circuit (Judges L. Hand, A. Hand, and Frank) upheld the tax on vague and general grounds, without much articulated analysis, in a terse opinion by Judge Frank. Thirty years later, the constitutionality of the subpart F regime was upheld by the Second Circuit (Judges Smith, Mansfield, and Oakes) in Garlock Inc. v. Commissioner.112 Judge Oakes's opinion in Garlock indicated that the taxpayer's constitutional argument, in light of Eder, "borders on the frivolous."113 While the Supreme Court had not directly overruled Macomber on whether there is a realization requirement in the Constitution, to overturn the subpart F regime now would seriously damage United States taxation of multinational businesses and is simply unimaginable. Given the many instances in which, on a nonelective basis, the code imposes a tax on unrealized income,114 it is absolutely clear that Congress does not view realization as a constitutional requirement.

B. 'There Is No 16th Amendment'

Each year some misguided souls refuse to pay their federal income tax liability on the theory that the 16th Amendment was never properly ratified, or on the theory that the 16th Amendment lacks an enabling clause. Not surprisingly, neither the IRS nor the courts have exhibited much patience for that sort of thing.115 If, strictly for the purposes of this discussion, the 16th Amendment could be disregarded, the taxpayers making those frivolous claims would still be subject to the income tax. In the first place, income from personal services is taxable without apportionment in the absence of the 16th Amendment. Pollock specifically endorsed Springer's holding that such income could be taxed without apportionment. The second Pollock decision invalidated the entire 1894 income tax act, including its tax on personal services income, due to inseverability; but, unlike the 1894 act, the current code contains a severability provision.116 Also, given the teaching of Graves -- that the theory that taxing income from a particular source is, in effect, taxing the source itself is untenable -- the holding in Pollock that taxing income from property is the same thing as taxing the property as such cannot be viewed as good law.117

C. Hypothetical Consumption Tax

A national retail sales tax would clearly be an indirect tax, as would a VAT (another species of sales tax). Even one of Pollock's most articulate contemporary defenders, Prof. Erik Jensen, has concluded as much.118 Another version of a consumption tax is a conventional personal income tax that provides for a deduction for additions to designated savings vehicles, and for an addition to taxable income for withdrawals from those savings vehicles. Although Jensen indicates that he thinks it would be wrong from a doctrinal point of view, he concludes that no American court would consider such a taxing scheme as anything other than a valid, nonapportionable income tax.119

D. Hypothetical Corporate 'Capitation'

Suppose Congress were to enact a flat, annual tax of a fixed amount, payable by every limited liability business entity engaged in business in at least one state or in the District of Columbia. It is hard to imagine that such a tax would be treated as anything other than an excise on the privilege of limited liability.120 Moreover, even if the second Pollock decision were viewed as good law on the issue of whether a tax on capital is a direct tax, such a corporate "capitation" would not result in a general tax on all invested capital, but merely on property of a very specific type with a specific purpose, and thus should be viewed as other than a direct tax under the reasoning of Patton. Of course, Treasury would have the argument that a tax on capital or any personal property is not a direct tax, on the theory that the second Pollock decision was wrong and the only direct taxes are capitations and taxes on land, as was the law before Pollock.

E. Hypothetical Net Worth Tax

While untenable for political reasons, a federal net worth tax, not apportioned among the states by population, would surely test the meaning of direct tax. Each of the Justices writing a full opinion in Hylton agreed that if a tax would produce unjust or unfair results if apportioned, it is not a direct tax. Applying the pre- Pollock rule that the only direct taxes are capitations and land taxes, the hypothetical net worth tax should be viewed as not direct. For example, one taxpayer could be completely landless, but could have exactly the same net worth as another taxpayer with substantial real estate holdings. Moreover, the tax liability would not increase as land ownership increased. The reason for that is that the tax base would be the excess, if any, of the fair market value of the taxpayer's assets (of all types) over the total amount of the taxpayer's indebtedness, if any. Apportionment of such a tax would produce unfair results. For example, a taxpayer living in a state with a low per capita net worth, such as Mississippi, would face a higher tax bill than would a taxpayer with the identical net worth, but living in a state with a higher per capita net worth, such as New Jersey. Similarly, the injustice of apportionment is the reason that any tax on personal property, such as the carriage tax in Hylton, would not be a direct tax. The second Pollock decision is simply wrong on that point.121 However, given political reality, a federal net worth tax is as unlikely as a federal capitation.


XXXIII. Conclusion

Reviewing Supreme Court cases from 1796 through 1988 leads to the inevitable conclusion that Pollock represented a sharp change in direction for the Supreme Court. For almost a century the case law had provided that only capitations and land taxes were direct taxes, and that any tax that would create highly unjust results on apportionment was not a direct tax. Pollock was at odds with that doctrine. A later Supreme Court clearly considered Pollock a mistake.122

Four prominent jurists, each of whom had been active in the creation or in the adoption of the Constitution, had ruled in Hylton that the carriage tax was not a direct tax. That ruling is irreconcilable with the view expressed in Pollock that a tax on invested capital would be a direct tax. For example, carriages could represent the invested capital of the owner of a carriage-for- hire business. Hylton, the work product of actual Founders, should be seen as the deciding rule on direct taxes. The apportionment requirement for direct taxes should never hamper public finance.


Postscript: Murphy v. IRS123

On August 22, 2006, the U.S. Court of Appeals for the District of Columbia Circuit (Chief Judge Ginsburg and Judges Rogers and Brown) held that taxation, as income, of a tort recovery for emotional injuries was unconstitutional because those recoveries were not income within the meaning of the 16th Amendment. The D.C. Circuit's opinion did not mention the apportionment requirement for direct taxes. Indeed, the opinion did not state that a tax on tort recoveries for emotional injuries was a direct tax. Rather, the opinion seemed to assume that Congress could not impose an income tax at all in the absence of the 16th Amendment.

Prognostication is always treacherous, but it is fairly easy to predict that the Supreme Court will overturn the D.C. Circuit's holding and rule that the recovery in question was, in fact, income within the meaning of the 16th Amendment. It would be most interesting if the Supreme Court were to uphold the tax at issue as not being a direct tax. The theory would be that a federal tax on tort recoveries or settlements of tort cases would not be a direct tax under the Hylton view that only capitations and land taxes are direct taxes in the constitutional sense. A tax on tort recoveries would be neither. Perhaps a future Supreme Court concurring opinion will so state.


FOOTNOTES

1 "'No one answd.,' Madison noted on August 20, when 'King asked what was the precise meaning of direct taxation.'" Rakove, Original Meanings (Knopf 1996), pp. 179, 180, quoting James Madison. Throughout this article, reference will be made to direct taxes, on one hand, and to indirect taxes, or not direct taxes, on the other. Some courts and some commentators have made the verbal distinction as being between direct taxes on one hand, and excises on the other. Also, it should be noted that the notorious federal ratio was eliminated by the 14th Amendment.

2 Hylton v. United States, 3 Dallas (3 U.S.) 171 (1796).

3 The two judges on the circuit court were split, but Hylton confessed to judgment so that the case could be brought to the Supreme Court.

4 Marbury v. Madison, 1 Cranch (5 U.S.) 137 (1803).

5 Pacific Ins. Co. v. Soule, 74 U.S. 433 (7 Wallace) (1868).

6 Veazie Bank v. Fenno, 75 U.S. 533 (8 Wallace) (1869).

7 75 U.S. 533, 542, 543.

8 75 U.S. 533, 543, 544.

9 75 U.S. 533, 544.

10 75 U.S. 533, 544.

11 Chief Justice Chase, a former Treasury secretary, also provided a very interesting history of the efforts to create a national, regularized money supply during the Civil War.

12 Collector v. Day, 78 U.S. 113 (11 Wallace) (1870).

13 78 U.S. 113, 127, 128.

14 Graves v. New York ex rel. O'Keefe, 306 U.S. 466 (1939).

15 Collector v. Hubbard, 79 U.S. 1 (12 Wallace) (1870).

16 Scholey v. Rew, 90 U.S. 331 (23 Wallace) (1874).

17 90 U.S. 331, 347.

18 90 U.S. 331, 347, 348.

19 90 U.S. 331, at footnote 25.

20 Springer v. United States, 102 U.S. 586 (1881).

21 102 U.S. 586, 602. Also, Justice Swayne noted the injustice that would result from the attempt to apportion an income tax, and that lent support to the conclusion that an income tax was not a direct tax. 102 U.S. 586, 600.

22 102 U.S. 586, 596-598.

23 102 U.S. 586, 599-602.

24 102 U.S. 586, 590.

25 102 U.S. 586, 602.

26 This notion appeared in Justice Chase's opinion in Hylton, in Justice Paterson's opinion in Hylton, in Justice Iredell's opinion in Hylton, in Justice Swayne's opinion in Pacific Insurance, and in Justice Swayne's opinion in Springer.

27 Pollock v. Farmers Loan & Trust Co., 158 U.S. 601 (1895), vacating 157 U.S. 429 (1895).

28 157 U.S. 429 (1895).

29 157 U.S. 429, 558.

30 157 U.S. 429, 558, 559.

31 White would become the chief justice of the United States in 1910.

32 158 U.S. 601 (1895), vacating 157 U.S. 429 (1895).

33 158 U.S. 601, 620, 621.

34 158 U.S. 601, 630.

35 158 U.S. 601, 632, 633.

36 158 U.S. 601, 668.

37 158 U.S. 601, 686, 687.

38 158 U.S. 601, 687.

39 158 U.S. 601, 695.

40 158 U.S. 601, 699, 700. It is now considered to be elementary that the economic burden of a tax is shifted, or not shifted, not by the nature of the tax in question but by the relative elasticities of supply and demand. See, e.g., Wessels, Economics, Barron's Educational Series (2000), pp. 520, 521.

41 158 U.S. 601, 702. On the issue of picking and choosing when foreign law is useful for guiding the Court in its decisionmaking, the current controversy over the use of foreign law was anticipated. The current controversy is discussed in Delahanty and Yoo, "Against Foreign Law," 29 Harvard J. of Law & Public Policy 291 (2005).

42 See note 41, supra.

43 Nicol v. Ames, 173 U.S. 509 (1899).

44 Knowlton v. Moore, 178 U.S. 41 (1900).

45 Patton v. Brady, 184 U.S. 606 (1902).

46 184 U.S. 608, 618, 619.

47 Thomas v. United States, 192 U.S. 363 (1904).

48 192 U.S. 363, 370. Chief Justice Fuller did not discuss the problem that a tax on rents, which he had held to be direct in the Pollock cases, was entirely contingent on leasing real property for valuable consideration. If the real property of the taxpayer were not leased out for valuable consideration, there would be no rental income, and accordingly, no tax on rental income would be exigible. Therefore, it would seem that a tax on rents would lack the element of immediate and unavoidable demand.

49 Spreckles Sugar Refining Co. v. McClain, 192 U.S. 397 (1904).

50 192 U.S. 397, 412, 413.

51 Flint v. Stone Tracy Co., 220 U.S. 107 (1911).

52 220 U.S. 107, 145.

53 220 U.S. 107, 151, 152.

54 Zonne v. Minneapolis Syndicate, 220 U.S. 187 (1911).

55 157 U.S. 429, 574.

56 See generally Trask, The War With Spain in 1898 (University of Nebraska Press 1996, originally published by The Free Press, 1981).

57 158 U.S. 601, 623.

58 The federal government does have a special source of revenue in times of international tensions through Congress's power to grant letters of marque and reprisal, under Article I, section 8 of the Constitution. However, by 1895, the year of the Pollock decisions, the days of Jean Lafitte were long gone.

59 158 U.S. 601, 632, 633. The unpersuasiveness of the argument was demonstrated in Justice Harlan's dissenting opinion. 158 U.S. 601, 678, 679. The injustice of apportioning an income was demonstrated in Justice Brown's dissent. 158 U.S. 601, 688, 689. Justice Jackson's dissent also pointed out the injustice of apportionment of the income tax. 158 U.S. 601, 704. For Justice White, such apportionment was simply unthinkable. 158 U.S. 601, 713.

60 McCoach v. Minehill & Schuylkill Haven R.R. Co., 228 U.S. 295 (1913).

61 228 U.S. 295, 306, 307.

62 228 U.S. 295, 312.

63 Stratton's Independence, Ltd. v. Howbert, 231 U.S. 399 (1913).

64 231 U.S. 399, 414.

65 Brushaber v. Union Pacific R.R. Co., 240 U.S. (1916).

66 240 U.S. 1, 13-17.

67 240 U.S. 1, 16.

68 240 U.S. 1, 15.

69 Stanton v. Baltic Mining Co., 240 U.S. 103 (1916).

70 240 U.S. 103, 112, 113.

71 Towne v. Eisner, 245 U.S. 418 (1918).

72 245 U.S. 418, 425.

73 Eisner v. Macomber, 252 U.S. 189 (1920).

74 252 U.S. 189, 219.

75 252 U.S. 189, 218.

76 252 U.S. 189, 219, 220.

77 252 U.S. 189, 220.

78 252 U.S. 189, 215.

79 252 U.S. 189, 228, 229.

80 Bowers v. Kerbaugh-Empire Co., 271 U.S. 170 (1926).

81 271 U.S. 170, 174, 175.

82 Bromley v. McCaughn, 280 U.S. 124 (1929).

83 He would become the chief justice of the United States in 1941.

84 280 U.S. 124, 136, 137.

85 280 U.S. 124, 137.

86 280 U.S. 124, 141, 142.

87 Tyler v. United States, 281 U.S. 497 (1930).

88 281 U.S. 497, 502, 503.

89 281 U.S. 497, 503, 504.

90 Helvering v. National Grocery Co., 304 U.S. 282 (1938).

91 The current version of the accumulated earnings tax is imposed under section 531 of the Internal Revenue Code of 1986.

92 304 U.S. 282, 289.

93 Id. Although not discussed by Justice Brandeis in his opinion, a tax on the net income of a corporation was not a direct tax in any event, according to Flint.

94 Graves v. People of the State of New York, 306 U.S 466 (1939).

95 306 U.S. 466, 486.

96 McCulloch v. Maryland, 4 Wheaton (17 U.S.) 316 (1819).

97 4 Wheaton (17 U.S.) 316, 431.

98 306 U.S. 466, 491, 492.

99 306 U.S. 466, 492, 493.

100 Helvering v. Griffiths, 318 U.S. 371 (1943).

101 318 U.S. 371, 372.

102 318 U.S. 371, 404. As a matter of statutory construction, the Supreme Court held that a pro rata distribution of nonvoting preferred shares to the holders of voting common shares, which had been the only class of outstanding shares before the distribution under review, was not taxable in Strassburger v. Commissioner, aff'd sub nom, Helvering v. Sprouse, 318 U.S. 604 (1943). The Supreme Court also held in Sprouse, as a matter of statutory construction, that when a corporation had both voting and nonvoting common shares outstanding, a pro rata distribution of nonvoting common shares to all existing shareholders was not taxable.

103 318 U.S. 371, 409-411.

104 South Carolina v. Baker, 485 U.S. 505 (1988).

105 485 U.S. 505, 520.

106 485 U.S. 505, 529.

107 485 U.S. 505, 533.

108 Boris Bittker and James Eustice, Federal Income Taxation of Corporations and Shareholders, 7th Ed. (Warren, Gorham & Lamont 2002), at 8-94.

109 Section 951.

110 American Jobs Creation Act of 2004, section 413(c)(31).

111 Eder v. Commissioner, 138 F.2d 27 (2d Cir. 1943).

112 Garlock Inc. v. Commissioner, 489 F.2d 197 (2d Cir. 1973), cert. denied, 417 U.S. 911 (1974).

113 489 F.2d 197, 202.

114 See note 114 supra, and the accompanying text.

115 Notice 2006-31, Doc 2006-5168, 2006 TNT 52-10.

116 Section 7852(a).

117 See notes 98 through 103, supra, and the accompanying text.

118 Erik Jensen, "The Apportionment of 'Direct Taxes': Are Consumption Taxes Constitutional?" 97 Colum. L. Rev. 2334, 2405 (1997).

119 97 Colum. L. Rev. 2334, 2414.

120 See generally Flint v. Stone Tracy Co.

121 Bruce Ackerman, "Taxation and the Constitution," 99 Colum. L. Rev. 1, 29 (1999). Calvin Johnson, "Apportionment of Direct Taxes: The Foul-Up in the Core of the Constitution," 7 Wm. & Mary Bill of Rts. J. 1, 37 (1998).

122 See note 73 supra, and the accompanying text.

123 Murphy v. IRS, 460 F.3d 79, Doc 2006- 22626, 2006 TNT 215-20 (D.C. Cir. 2006). See Germain, "Taxing Emotional Injury Recoveries: A Critical Analysis of Murphy v. Internal Revenue Service," available at http://ssrn.com/abstract-942515.


END OF FOOTNOTES