Are Wealth Taxes Constitutional?
According to the U.S. Constitution, direct taxes must be apportioned among the states according to their population. Some people argue that wealth taxes would be unconstitutional because they would be direct taxes that cannot be fairly apportioned among the states. But are wealth taxes direct taxes? Did the Founding Fathers even consider wealth taxes? And does the Constitution apply to wealth taxes?
The Advantages of Taxing Wealth
Tax law is complex, consisting of millions of words. Judicial decisions on the tax code consists of millions of more words. Much of this complexity results from the unfairness of the tax code, giving wealthy people vastly more benefits than poor people. Moreover, such complexity leads to unintended consequences, such as the many tax loopholes that allow wealthy people to escape even more taxes. So, wealthy people benefit both from the unfairness of the tax code and from tax loopholes. People who work are paying higher tax rates than many wealthy people. Indeed, people who work are paying higher rates because the wealthy are paying lower rates. A wealth tax, easy to implement and hard to avoid, is the best way to make wealthy people pay more taxes. A wealth tax applies a tax rate to the net worth of an individual or to specific types of property, such as a property tax on real estate. A wealth tax would be assessed annually, just like property taxes, which are a form of wealth tax. However, some people say that wealth taxes are unconstitutional. But are they?
What the Constitution Says About Taxation
While the United States Constitution gives Congress the broad authority to lay and collect taxes so that it can carry out its duties, some provisions added some vagueness as to what taxes would be constitutional.
Article I, Section 2 stipulates that “direct taxes shall be apportioned among the several states … according to their respective numbers ... by adding to the whole number of free persons ... excluding Indians not taxed, 3/5 of all other persons”. However, the U.S. Constitution does not define direct taxes.
Article I, Section 8 gives Congress the power to tax and to make all laws deemed necessary for the federal government to function. It also requires that all duties, imposts, and excises be uniform throughout the United States. This indicates that the Founding Fathers wanted taxes to be fair, at least among the states, since they were the ones agreeing to the U.S. Constitution.
Article I, Section 9, Clause 4 stipulates that no capitation, or other direct, tax should be laid unless it is proportional to the Census or enumeration of the states. This clause seems to specify that direct taxes are taxes on people. The 1828 Webster dictionary defined capitation as a tax or imposition upon each head or person; a poll tax.
In 1895, the Supreme Court decided that some income taxes were direct taxes. Thus, a federal income tax on investment income was a direct tax, so it was unconstitutional because it was not apportioned among the states according to the US Census. (However, this same conservative court said that an income tax on employment income would be constitutional, rationalizing that such a tax would be an excise tax rather than a direct tax.) The 16th Amendment was passed to nullify this Supreme Court decision, to allow the federal government to collect income taxes from whatever source derived, without apportioning the tax among the states. But were the Founding Fathers meaning to include income taxes when they talked about direct taxes. Were they even considering income taxes?
Moreover, under the Articles of Confederation, the federal government had no taxing power. Instead, it received its tax revenue from the states. Under this circumstance, it would make sense that the larger and more populous states would pay more in taxes to the federal government. Fairness would dictate that each state pays a portion of the federal revenue requirements according to its population. Here, the apportionment clause makes sense.
The problem with the word direct, like most general abstract words, is that it can mean different things in different contexts. However, in studying how the word is used in The Federalist Papers and in other historical documents, direct taxes seem to be any taxes applied to people in contrast to things, such as excise taxes. The historical record shows that direct taxes were taxes on people or on what they own, such as land, distinct from taxes on consumption, such as excise taxes or duties on imports.
Many taxes were flat taxes, a specific dollar amount for each taxpayer, such as $1 for each person. Taxes were often specific amounts because it was easier to implement. In colonial times, it would be difficult for the government to determine the income or wealth of individuals, so it could not rely on a tax based on those properties. Even taxes on real estate, such as houses, were probably flat taxes based on the number of structures or on the number of acres rather than their value, which would have been difficult to determine then.
The stipulation that a direct tax should be proportional to the Census or enumeration of the states may have referred to the application of the tax in contrast to the tax revenue it would generate, since although a tax on income or wealth would be somewhat proportional to population, such taxes would not be directly proportional, since income or wealth would vary by locality. However, direct taxes on people may have been considered proportional to population if they were uniformly applied, and that the number of people subject to the tax should be proportional to the population.
When talking about direct taxes, did the Founding Fathers mean to apply them to taxes based on valuation of property or income or were they thinking of direct taxes as flat taxes, such as capitation taxes, which would have been much easier to assess and collect and to satisfy the apportionment clause?
The main constitutional problem with wealth taxes is whether they are direct taxes, as the Founding Fathers meant it. This is what the Supreme Court has said about federal taxation and direct taxes.
1796 Hylton v. United States, Tax on Carriages
The Supreme Court decided in 1796, Hylton v. United States, that a tax on “carriages” to be indirect because it applied to the use of the carriage rather than to the property itself. The court defined a direct tax as one that applies to land or directly to humans “without regard to property, profession, or any other circumstance”. In other words, direct taxes were flat taxes.
The tax was upheld, in part, reasoning that apportioning such a tax made little sense, because it would have required taxing carriage owners at dramatically different rates depending on how many carriages were in their home state.
Pollock v. Farmers’ Loan & Trust Co. (1895) on Income Tax
In 1895, in Pollock v. Farmers’ Loan & Trust Company, the Supreme Court held that taxes on personal income derived from real estate investments and personal property, such as stocks and bonds, was unconstitutional as an unapportioned direct tax, distinguishing it from a tax on business or employment income, which the Court described as a permissible excise tax, an indirect tax. (We can see here that the court’s 5-to4 decision obviously favored the wealthy. As Justice Henry Billings Brown noted in his dissension: “The decision involves nothing less than the surrender of the taxing power to the moneyed class.” After all, if a tax on employment income could be classified as an excise tax, why would a tax on investment income not also be classified as an excise tax?)
Flint v. Stone Tracy Co. (1911): The Court reasoned that the original income tax applied directly to humans, while the corporate income tax applied through the corporate entity: humans might suffer the tax through higher prices or lower profits, but they would do so indirectly.
National Federation of Independent Business v. Sebelius, 567 U.S. 519 (2012):
- In 1880, for example, we explained that “direct taxes, within the meaning of the Constitution, are only capitation taxes, as expressed in that instrument, and taxes on real estate”. Springer, supra, at 602.
National Federation of Independent Business v. Sebelius, 567 U.S. 519 (2012)
In 2012, in National Federation of Independent Business v. Sebelius, the Supreme Court decided that the shared responsibility payment required by the Affordable Care Act is not a direct tax because, even though it was a tax directly on people, it varied depending on whether the person had health insurance and other factors. This coheres with the 1796 Supreme Court decision that a direct tax applies to land or directly to humans without regard to property, profession, or any other circumstance. Thus, income or wealth taxes would not be direct taxes under these definitions since income or wealth taxes would depend on the income or wealth of the people.
Applying the Apportionment Clause to Income or Wealth Would Be Unfair
The Constitution does not forbid income or wealth taxes. Indeed, income or wealth taxes could be constructed to satisfy the apportionment clause, but they would be grossly unfair. This concrete example should more clearly show how the apportionment clause could lead to constitutional taxes that would be grossly unfair.
- Population of Pennsylvania = 3 Million
- Population Georgia = 1 Million
Case #1: Average Income = Same in Both States
- Tax Rate of 10%
- Revenue from Pennsylvania = $300,000
- Revenue from Georgia = $100,000
Case #2: Average Income in Georgia = ½ of Average Income in Pennsylvania
- Revenue from Pennsylvania = $300,000
- Revenue from Georgia = $50,000
- This no longer satisfies the capitation clause.
Case #3: An Grossly Unfair Income Tax Satisfying the Apportionment Clause
- Tax Rate of Pennsylvania = 10%
- Tax Rate of Georgia = 20%
- Revenue from Pennsylvania = $300,000
- Revenue from Georgia = $100,000
This satisfies the capitation or apportionment clause, even though it is grossly unfair, but it would have been allowable under the Constitution if the apportionment clause was applied to taxes on income or wealth. Clearly, the Founding Fathers did not intend the federal government to allow such an unfair tax, so it seems reasonable to suppose that they were only considering capitation taxes or other flat taxes on people.
What Can Be Concluded?
There is no express prohibition in the U.S. Constitution against income or wealth taxes. According to some courts, even direct taxes would be constitutional if they were apportioned to the states. However, there is reason to doubt that the Founding Fathers wanted to apply the apportionment restriction to a tax based on value, since such taxes would not make sense. Instead, they were probably thinking about flat taxes, such as capitation taxes, which could easily be apportioned to the states according to population if the tax was simply applied to everyone or to most people. If a capitation tax applied only to slaves, then the apportionment clause would prevent that, which is the probable reason for this restriction.
If the Founding Fathers thought it was important to prohibit income or wealth taxes, they would have adopted clearer language. Apportioning the tax according to a census makes no sense for income or wealth taxes, which is a strong reason to conclude that the Founding Fathers had no intention of using the apportionment clause to exclude such taxes by the federal government. Income or wealth taxes would have been difficult to implement in the colonial times, given the lack of technology, which is why such taxes were probably not even considered.
However, it is easy to understand why a capitation tax, which would be a flat tax on each person, would be unconstitutional if it applied only to slaves, and it is easy to understand why it would be a greater burden on the southern states. Because the United States Constitution was an agreement among the states to be their governing document, it would make sense that the Founding Fathers would add the capitation provision to allay the fears of southern states that Congress would impose onerous taxes as a way to eliminate slavery, especially since many people in the North opposed slavery.
Moreover, trying to distinguish between vague terms like direct or indirect seems like a useless court exercise. More importantly, the United States should be able to implement taxes to fund itself and to assure a fair distribution of the tax burden, “To make all Laws which shall be necessary and proper for carrying into Execution the foregoing Powers”. Furthermore, the court should give greater weight to the reality of today rather than relying on vague statements made more than 2 centuries ago by men who lived in a society much different from our society today.
There is a common case law about contracts that when there is an ambiguity in the contract, the contract should be construed against the maker of the contract. A like provision should be applied to any interpretation of the United States Constitution. If it is not clear what its provisions mean — and when a provision is argued in court, it can be assumed that the provision is not clear, otherwise there would be no argument — then deference should be given to Congress, or, better yet, to interpret the provision that would be in the best interest of the people, since the primary purpose of the law is to allow people to live together for maximum benefit.
The capitation clause probably only applies to direct taxes on people. In the clause, the capitation tax is the first subject and the phrase “or other direct” is parenthetical, meaning that it is less important. It is easy to see how ludicrous this clause would be if applied the way the Pollock Court was trying to apply it.
A direct tax on people is not the same thing as a tax on income or wealth, because, unless there are exceptions in the provision, each person would be subject to a capitation tax simply by being a person. However, income or wealth taxes would not apply to people without income or wealth. Hence, these taxes would not be direct taxes as used in the apportionment or capitation clause.
So when the framers of the U.S. Constitution wrote the apportionment and capitation clause, they almost certainly were thinking about a capitation tax that could be applied just to slaves. Their parenthetical apposition “or other direct, tax” was most certainly a reference to a tax like the capitation tax, not to an income or wealth tax. The fact that the capitation tax was specifically referred to and other direct taxes parenthetically referred to indicates that it was the capitation tax or something like it that needed to be in proportion to a census. Any other interpretation would be ridiculous, so the only reasonable conclusion is that the writers of the Constitution inserted the apportionment or capitation clause to allay the fear of southern slaveholders that the United states might apply a capitation tax on slaves. Viewed in this way, the capitation clause makes sense. It does not make sense when trying to apply it to income or wealth taxes. In any case, a judge interpreting this clause in any other way would be legislating from the bench. If it is not clear what the writers of the Constitution meant, then deference should be given to Congress, especially since the Constitution is clear about allowing Congress to establish laws to help carry out its duties.
Most of the influential politicians in colonial America expected that most of the tax revenue for the federal government would come from excises, imposts, and duties on imports, not from the direct taxes, and not from income or wealth taxes. As Alexander Hamilton noted: "It is evident from the state of the country, from the habits of the people, from the experience we have had . . . that it is impractical to raise very considerable funds by direct taxation." The Founding Fathers probably never even considered income or wealth taxes, so there is no reason to believe they were trying to prohibit such taxes.
No Constitutional Problem in Applying Wealth Taxes to Irrevocable Trusts
While some judges may be okay with applying the apportionment clause to wealth taxes on people (certainly the Pollock Court would have been okay with that), especially since most judges are relatively well-off and so would benefit from interpreting the law that way, there would be no Constitutional problem in applying wealth taxes to irrevocable trusts, which are not people; they are separate taxable entities. Many wealthy people use irrevocable trusts to save or avoid estate and other taxes. Dynasty trusts, for instance, eliminate gratuitous transfer taxes for succeeding generations. Applying wealth taxes to irrevocable trusts would also be easier than applying them to people, since the total wealth held by a trust could easily be determined. A wealth tax on trusts is not a direct tax on people and would therefore be constitutional.
No Constitutional Problem in Applying Wealth Taxes to Business Entities
There is also no constitutional problem in applying wealth taxes to business entities, such as C corporations and pass-through entities: partnerships, limited liability companies, and S corporations. One type of wealth tax that could help many people is a tax on land owned by businesses.
Many businesses buy residential properties to rent out, which drives up the cost of housing for many. These businesses often buy multiple properties in desirable locations so that they would be the main landlord in that area, allowing them to raise rents even more. Businesses would not be able to pass the cost of the wealth tax onto renters because they still have to compete with people who own rental properties as individuals. Homebuyers would also benefit from lower real estate prices, though sellers would suffer.
A land tax on real estate owned by business entities would reduce the cost of housing for both renters and home buyers.
The Supreme Court Can Decide Whatever It Wants
Having argued the case that wealth taxes are constitutional, the Supreme Court could still declare that they are unconstitutional simply because there are no restraints on its decisions. Even if the decision is illogical or not based on facts or law. So the Supreme Court could decide that wealth taxes are unconstitutional, a result that may be more likely since they would benefit from their own interpretation of the law. This is why political parties want to choose judges, because judges can select the laws, reasoning, or facts to arrive at the conclusion they desire and ignore laws, reasoning, or facts that would justify a different ruling.
Since the Apportionment Clause is Ambiguous, the Supreme Court Should Defer to Congress
If constitutional provisions are unclear, then the Supreme Court should defer to Congress, since the U.S. Constitution does provide that Congress can enact laws to fulfill its mission. Since the wealthy find many ways to shift their tax burden to lower income people, by using tax loopholes or even tax evasion, Congress should have the right to enact wealth taxes to rectify this inequity.
The Founding Fathers have long been dead, so they cannot react to the present situation. Nor could they have envisioned the future as it is now. Therefore, shackling Congress to vague provisions in an old code should be avoided.