1940: Taxation

Federal Taxation.

Defense Authorizations.

The third session of the 76th Congress, primarily devoted to the problems of national defense and foreign affairs, established a new record in United States peacetime preparedness programs. In its unprecedented authorization of defense spending of $13,000,000,000, Congress provided for a two-ocean navy, a mechanized 1,200,000 man army, with reserve equipment for 800,000 more, and an air force of approximately 35,000 planes. In addition, it authorized the Reconstruction Finance Corporation to make loans for plant expansion to munitions makers and other defense industries, and to extend credit through the Export-Import Bank for the stimulation of inter-American trade in the Western Hemisphere. An appropriation of $50,000,000 was also made for the relief of European war sufferers. Commitments for the production of war materials, for which appropriations have not yet been made, ran into several billions more. Despite these enormous allocations of money for a comprehensive program that will require a five-year period for full completion, it was freely predicted by government spokesmen that expenditures for armaments would rise into still higher brackets — perhaps as high as $35,000,000,000 in the aggregate.

Because of the lag in getting started on these new national defense measures, full effect will probably not be given to these extensive provisions for Federal disbursements until 1942. While current expenditures for the Navy and War Departments show a sharp rise over the trend for previous periods, they are but conservative forerunners of the levels soon to be established.

Defense and Other Expenditures.

In the fiscal year ending June 30, 1940, Federal expenditures were $9,666,000,000 or approximately $400,000,000 more than was spent in the previous fiscal year. This rise was almost entirely accounted for by the increases of $219,000,000 for the Navy Department, and $178,000,000 for the War Department national defense programs. Disbursements for recovery and relief were pared by $700,000,000 principally in the Work Projects Administration which spent $1,478,000,000 compared with $2,240,000,000 in 1939. This shrinkage in Federal costs was, however, counteracted by a rise of $100,000,000 in interest on the public debt, an increase of $230,000,000 in the cost of the Agricultural Adjustment Program, further capital outlays of $50,000,000 for work on rivers, harbors, the Panama Canal, and reclamation projects, a rise of approximately $100,000,000 in Social Security expenses and Retirement Fund transfers, and by increases in the sinking fund for debt retirement and other capital adjustments. The balance of Federal disbursements remained at relatively constant levels.

In the first half of the 1941 fiscal year this trend was continued. Further reductions were seen in relief appropriations, notably for the Public Works Administration and the Work Projects Administration. Simultaneously, national defense expenditures for the half-year reached a total of more than $1,500,000,000 — a level as high as that for the full year of 1940, and half again as great as that for the 1939 fiscal year.

Federal Revenues.

Revenues lagged behind expenditures in their rate of growth with the result that the 1940 fiscal year again ended with a deficit — the tenth successive deficit since 1930. On June 30, 1940, the Federal debt stood at $43,000,000,000, and by Dec. 31, 1940, it crossed the $45,000,000,000 mark — the maximum debt limit that Congress had originally set, but which was raised to $49,000,000,000 during the 1940 session. The leading sources of revenue in the 1940 fiscal year were the internal revenue taxes on liquor and tobacco, and a long list of miscellaneous excises which yielded $2,344,625,000. Next in rank came the income taxes on individuals and corporations, which yielded $2,125,325,000. Social Security taxes amounted to $712,218,000 and customs duties were $349,000,000. The balance of Federal receipts consisted of special taxes on carriers, interest income, tolls and seigniorage, bringing the total revenues to $5,925,000,000. During the first half of the 1941 fiscal year, revenues were approximately five hundred million dollars greater than in the corresponding period in the previous year. (See also SALES TAX.)

Revenue Acts of 1940.

In order to help finance the defense program, additional Federal tax burdens were provided for in the Revenue Act of 1940 passed in June, and in the Second Revenue Act of 1940, enacted in October. Under the First Revenue Act of 1940, the individual income tax base was broadened by lowering personal exemptions from $1,000 to $800 for single persons, and from $2,500 to $2,000 for married persons or heads of families. The normal tax rate of 4 per cent was retained, but surtax rates were scaled higher in the income brackets up to $100,000. Surtax rates apply to net taxable incomes in excess of $4,000, starting at 4 per cent on incomes between $4,000 and $6,000 and rising progressively to 6, 8, 10 and 12 per cent, respectively, for every increase of $2,000 in the base. As the base becomes larger, the rate of progression increases rapidly so that on surtax net incomes over $50,000 and up to $60,000, the surtax rate is 44 per cent; on blocks of income between $70,000 and $80,000 it is 50 per cent; between $90,000 and $100,000 — 56 per cent, etc. The highest surtax rate is 75 per cent on incomes exceeding $5,000,000 per annum. The graduated rates of tax on incomes of small corporations earning net profits of less than $25,000 per year were raised one per cent to 13½, 15, and 17 per cent, respectively. (See also INCOME TAXATION.)

This Act also provided for certain temporary increases in the internal revenue laws for a period of five years, designated as 'defense taxes.' These emergency levies are of the character of a 'supertax' — i.e., a tax on a tax, amounting to an additional 10 per cent of taxes previously payable. This provision applies to individual and corporate income taxes, the capital stock tax, and the estate and gift taxes. Miscellaneous excise taxes were extended for five years and rates were increased. Thus, alcoholic beverage taxes were scaled from 20 to 37½ per cent higher; cigarette taxes were increased from $3 to $3.25 per thousand, and the taxes on a long list of commodities including playing cards, firearms, radios, refrigerators, and toilet preparations, were increased 10 per cent.

The Second Revenue Act of 1940 increased the tax on normal incomes of corporations earning more than $25,000 a year, to 24 per cent. It also imposed a new excess profits tax designed to place particularly heavy burdens upon companies deriving large profits from war and defense activities. According to the law, excess profits are determined by either of two formulas to be selected by the taxpaying corporation: (1) profits in excess of 95 per cent of average earnings for the period 1936-1939; or (2) profits in excess of 8 per cent of taxable invested capital. For all excess profits determined by either method, an exemption of $5,000 is provided. Above this level, a graduated tax rate of 25 to 50 per cent is applied. A further feature of this Act, designed to encourage construction of industrial plants needed for national defense work, is a provision for the amortization of the total cost of such facilities out of tax-free earnings over a period of five years.

State and Local Taxation.

Expenditures.

There was little change in the finances of state and local governments. Aggregate costs stood at the $10,000,000,000 level, with approximately $4,000,000,000 for state and $6,000,000,000 for local expenditures. Education ranked highest among state and local costs, followed in importance by highways, welfare, charity and relief, unemployment insurance compensation, health and sanitation services, and police and fire protection.

State and Local Revenues.

State revenues were derived mainly from general and selective commodity taxes and excises. Heading the list were revenues from gasoline taxes, followed by general sales or gross receipts taxes, taxes on motor vehicles, and liquor and tobacco taxes. The remainder of state revenues was drawn from payroll taxes for unemployment insurance, personal and corporate income taxes, franchise taxes, property taxes, estate and inheritance taxes, and petty administrative fees and tolls. Over 90 per cent of the local revenues were raised by taxes on property, with general and specific sales taxes and local administrative charges accounting for most of the balance.

Changes in State and Local Tax Policy.

State and local legislatures introduced a number of important changes in tax policy. The legalization of pari-mutuel betting in New York and New Jersey provided these states with new revenue sources in the form of horse-racing taxes and licenses. Receipts from this source during the first trial year in New York exceeded $6,000,000. Louisiana enacted a gift tax ranging from 2 to 10 per cent, the rate depending upon the relationship of donor to donee. This raises the number of states having gift taxes to nine. A few states, including Alabama, Louisiana, South Carolina, and Virginia, extended the application of gasoline taxes to Diesel motor fuels. Mississippi and Kentucky adopted chain store taxes with graduated rates ranging from $10 to $300 and $25 to $200, respectively — the rate depending upon the number of stores, wherever located, in the chain. These taxes resemble the Louisiana law enacted in 1934. Liquor taxes were raised on some items in the states of Kentucky, New Jersey, South Carolina, and Virginia. Municipal cigarette taxes were imposed by Denver, Colorado and Kansas City, Missouri. Personal and corporate income taxes were increased in Louisiana and Mississippi. In the latter state, franchise and utility taxes were also raised. Notable among tax reductions or surrender of tax revenue sources were the elimination of the Rhode Island and New York City taxes on cigarettes, the repeal of the general sales and use taxes in Louisiana, and the abandonment of the South Carolina tax on incomes from intangibles.

Summary of 1940-1941 Tax Trends in United States.

The net result of the tax legislation in 1940 was an unmistakable upward trend in the tax burdens imposed by Federal, state and local governments. Tax collections in 1940 for all three branches of government were from $14,000,000,000 to $15,000,000,000, or slightly more than 20 per cent of the national income. Total expenditures were close to $20,000,000,000. Of this sum, only $1,500,000,000 was for direct payments for national defense. With defense costs in 1941 and 1942 conservatively estimated at $5,000,000,000 and $10,000,000,000, respectively, aggregate public expenditures may jump to $25,000,000,000 or even $30,000,000,000. Reductions in non-defense items may help to offset the larger amounts required for defense, but not sufficiently to prevent the need for heavier taxes. The 1940 crop of Federal taxes, coupled with a rising national income, will provide more revenue in the 1941 fiscal year. New taxes, further increases in existing rates, and the consideration of another extension in the debt limit are on the 1941 agenda for Congress.

Taxation in Leading Foreign Nations.

With substantial increases in the cost of government in the United States virtually assured for some time to come, it becomes pertinent to consider comparative expenditures and tax burdens in other leading nations. Such an inquiry is naturally limited in view of the paucity of data emanating from the warring world powers.

Although France and Italy had per capita taxes much lower than those for the other countries listed, or than the American level of taxes, the percentage that these taxes bore to the national income was higher, because of the limited resources of these nations. In most instances public expenditures for this period were considerably in excess of tax revenues, resulting in deficits and increases in the national debts. Since 1938, tremendous expansion has occurred in the military disbursements of these nations. On the basis of present standards, a European army, thoroughly trained and mechanized, costs $10,000 per man, per year, if guns, motors, planes, and supplies are included. For an army of 1,000,000 men, this involves an expenditure of $10,000,000,000 per year, not including the heavy outlays for capital ships, which may run into many billions more.

Great Britain.

These staggering costs are dramatically illustrated in the British budget for 1940-41 amounting to $10,668,000,000 — the largest budget on record in the nation's history (equivalent to almost half of the national income) and involving an estimated war cost of $21,000,000 per day. Of this sum, $5,732,000,000 was borrowed; the remainder being financed by increased taxation. The basic rate of the British income tax was raised to 42.5 per cent. A purchase tax was imposed on the sales of many classes of commodities. The rates are 16 2/3 per cent and 33 1/3 per cent, depending upon the kind of merchandise. The government-owned telephone and telegraph service raised its rates from 15 to 25 per cent and postage rates were boosted 66 2/3 per cent. Liquor and tobacco taxes, business, and excess profits taxes were increased. Estimates of the costs of the war are constantly being revised upward. Sir Frederick Phillips, British Under-Secretary of the Treasury, indicated in December, 1940, that the costs were running as high as $45,000,000 a day. The Economist of London estimated that 1941-42 expenses might reach £4,000,000,000, or roughly $16,000,000,000. This would amount to a per capita cost of more than $300 a year.

Canada.

See CANADA: Appropriations.

Germany.

Conservative estimates place Germany's war expenditures at $14,000,000,000-$17,000,000,000 per annum. This is equivalent to about 50 per cent of the national income. According to other estimates, recent wartime expenditures of the Reich have mounted to a monthly average of from $1,500,000,000 to $2,000,000,000, or in the neighborhood of $20,000,000,000 per annum. More than one-half of this money is obtained through borrowing: the balance is met from tax revenues. Chief reliance is placed upon income and property taxes, but heavy increases have been made in excises, general sales taxes and business taxes. Industry is strictly regulated and controlled in the national interest. Some of the cost is probably borne by the people in the conquered areas. No official data are available to show actual distribution of these tax burdens.

Italy.

In Italy, the budget for 1940-41 was $1,850,000,000, of which 31 per cent was for military needs. Revenues from fiscal monopolies, together with excise, income, business and property tax receipts (including a new turnover tax and a capital levy), were expected to amount to $1,500,000,000 — the balance to be raised by a domestic bond issue. Debt service on the national debt is the largest item in the budget, and amounts to approximately $700,000,000 per annum. Since Italy entered the war, appropriations have undoubtedly exceeded budgetary allowances.

Future Defense Financing in United States.

The rapid spread of world conflict, accompanied by an increasing tempo of expenditure for armaments among the nations of the world, has forced upon the United States a major problem of defense financing. To the record-breaking budgets and deficit spending of the depression years must now be added extra billions if the United States is to be raised to a level of preparedness comparable to, or surpassing that of the aggressor powers of the world. Early in January 1941, President Roosevelt notified Congress that the budget for the 1942 fiscal year would probably come to $17,500,000,000, exclusive of funds that may be needed to finance aid to the warring democracies. Of this total, from $10,000,000,000 to $11,000,000,000 would be for the armament program. A budget of this size will no doubt lead to heavier income and excise tax burdens. Nevertheless, in spite of increased taxes, a deficit of from $8,000,000,000 to $9,000,000,000 is almost certain to arise. At this pace, the national debt would eclipse the $60,000,000,000 level within two years. See also EDUCATION; LAW AND LEGISLATION.