A Taste of Income Tax History

By Jeffery Levine, IRA Technical Expert  

Follow Me on Twitter: @IRAGuru4EdSlott

The 2014 tax season is quickly coming to a close and chances are you either have grumbled over your tax bill, or soon will. The question is, when you do that, should you be longing for “the good ol’ days” when taxes were lower, or should you be counting your blessings that you have today’s tax rates to contend with and not those of years’ past? In all likelihood, a little bit of both is true.

Was there always an income tax?
No. The federal income tax, as we know it, actually required an amendment to the Constitution. The amendment was passed by Congress in 1909, but wasn’t ratified until February 3, 1913. 1913 then became the first year with a federal income tax, so while we haven’t always had an income tax, there are very few people who are alive that can remember a time when we didn’t.

The actual text of the 16th amendment reads “The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration.” If you’re so inclined, you can view the actual document here, which is pretty cool.

Were the tax rates always this high?
No, but they’ve also been a lot worse. In fact, for a period of time during World War II, the top federal income tax rate was 94%. No, you didn’t read that wrong… 94%!! If you’re wondering what type of income you needed to “have the privilege” of saying you paid the top federal income tax rate in US history, the answer is $200,000. Of course, $200,000 in the mid 40’s is worth a lot more than today. If you factor in inflation to the mix, the 94% rate would have impacted someone making a little over $2.5 million today.

Now for the flip side of the coin. As mentioned above, there were also times in the past where the rates were much lower than they are today. For instance, the tax rates for 1913 – the first year we had a federal income tax – ranged from a low of 1% all the way up to a top tax rate of – get ready for this – 7%! And here’s the part that’s even crazier… when you factor in inflation, you would have needed to make more than $450,000 in today’s dollars to push yourself out of the 1% and into the 2% bracket. Oh, and in case you’re wondering just how much income you would have needed, in today’s dollars, to pay income tax at the top 7% rate, the answer is well over $11 million. To be fair, there weren’t always all the deductions, credits, exemptions we have today that can reduce your tax liability, but still…

That’s crazy! How long did those bracket last?
Not long. Within just a few years, World War I was putting a dent in the United States’ finances and so, in order to raise more money, Congress more than doubled the top rate, effective for 1916, to 15%. Then, the following year (1917), they more than quadrupled that to a top rate of 67%! Don’t feel too bad though. In order to pay the top rate in 1917, a person would have needed income in excess of an obscene $36 million in today’s dollars. From then on, it’s been a rollercoaster ride for rates. So sit back, relax, and “enjoy” the ride.