Individual Income Tax

Almost no one is excited about paying individual income tax. First, it is time-consuming. The research, reporting, calculations and the filling out of tax paperwork can be daunting. Even preparing taxes by computer tax software can be a hassle. Of course, you can hire a tax preparer to do this task, but you still must supply the information via receipts, bank statements and the like. You also must pay for these services.

Even after the income tax return is signed and filed, some people still spend time thinking of the “what is”. What if I miscalculated the amounts? Suppose I transposed a number or two? What if I took a deduction I was not qualified for? What if I missed a deduction? Will I be audited?

So, why do we have this process if it is so time-consuming, laborious, expensive, and (pardon the pun) so taxing? Well, taxes have been around for over 4,500 years. The earliest known tax took place in Mesopotamia where people paid their taxes in the currency of the time, i.e. livestock. That’s right, people paid their taxes with sheep, goats, cattle, etc. Imagine sending the Internal Revenue Service (IRS) a chicken with your income tax return!

Ironically, the United States was founded to avoid high taxes. Remember the slogan “no taxation without representation”? The King of England had taxed the colonists heavily on just about everything. In 1765, the Stamp Act required taxes to be paid on all legal and business documents. The colonists objected since this form of taxation did not give them any political voice or input regarding taxes. The colonists eventually revolted, most notably in the Boston Tea Party.

There were no taxes when the United States was first established. The first federal income tax was created in 1861 as a mechanism to finance the Civil War. By passing the Internal Revenue Act in 1862, Congress created the forerunner of today’s IRS, named the Bureau of Internal Revenue. Having placed excise taxes on just about everything, the Bureau and the tax lost support and was repealed in 1872. Congress passed the Wilson-Groman tariff in 1894 which established a tax rate of 2% for annual incomes over $4,000 or the equivalent of $118,000 in 2019 currency. The revenue from this tax was to replace the revenue lost by tariff reductions. However, in 1895, the U.S. Supreme Court ruled this income tax unconstitutional since it violated the 10th amendment to the U.S. Constitution forbidding any powers not expressed in the Constitution. Only power to impose a direct tax by apportionment according to each state’s population is granted in the Constitution to Congress.

Ratified in 1913, the 16th Amendment, granted Congress the power to tax personal income. The new tax system collected the taxes at the source, prior to employees receiving their paychecks. In 1914, the Bureau of Internal Revenue released its first income tax form, Form 1040, which is still the form individuals use to report their income tax today. However, no one paid any taxes during the first use of the form. They just submitted the form to the Bureau to be checked for accuracy. Ironically, even in 1915, both Congress and the public voiced concerns about the form’s complexity and its difficulty in preparing and filing their income tax returns. Sound familiar.

Our next blogs will discuss individual income taxes in further detail.

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