National Tax Association

TAXATION OF INCOMES IN NORTH CAROLINASource: The Bulletin of the National Tax Association, Vol. 4, No. 6 (March, 1919), pp. 148-152Published by: National Tax AssociationStable URL: http://www.jstor.org/stable/41785292 .

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148 BULLETIN OF THE NATIONAL TAX ASSOCIATION [Vol. IV

$8,146,519. In 1916, 17,508 registrations were issued, but the following April only 11,151 cars were returned for taxation. As we go backward in the figures a con- sistent discrepancy between the registration and the inventory appears, which indicates that there are a surprisingly large number of automobiles in New Hampshire which do not exceed $100 in value.

Thus it is readily seen that the motor

vehicle adds to the ever present and per- plexing problem of how to make it impos- sible for any citizen or group of citizens to escape his or their fair contribution to the public treasury. The present speaker has nothing to urge either for or against any specific measure calculated to remedy ex- isting discrepancies, as the problem is not within the purview of the motor vehicle department.

TAXATION OF INCOMES IN NORTH CAROLINA Letter of A. J. Maxwell to Governor T. W. Bickett as Chairman of the Special Tax Commission of

North Carolina, October 22, 1918 It has been a matter of surprise to me

that in all the discussions of constitutional changes we have had in this state there has been no suggestion of repeal of the one clause in it that to my mind is most out of joint with the times in which we live, and the repeal of which would in my judgment meet with the strongest public approval, if submitted, and that is the prohibition of taxing incomes derived from property, or unearned income. This provision of our constitution is as follows :

" The General Assembly may also tax trades, professions, franchises, and incomes : Provided, that no income shall be taxed when the property from which the income is derived is taxed.'*

It will be a long time before the opinion of Premier Lloyd George will fail to pass current in any company that can fairly ap- praise statesmanship. Before the exigencies of the present war he stated as a conclusion that had found universal acceptance that unearned income should be taxed - not equally with earned income - but at a higher rate than earned income. Since this memorandum was prepared our own Secre- tary McAdoo has insisted that in the prep- aration of the new federal revenue bill there should be a differential of 3 per cent in the tax on unearned incomes, or that the tax on unearned incomes should be 25 per cent greater than the tax on earned in- comes.

Our method of handling income taxation is to tax earned incomes - that which is the product of the personal toil, the personal skill, or the intellectual achievement of the citizen, while we stand under this prohibi- tion of levying any tax at all upon that class of income which comes through no

personal effort but which flows as the nat- ural result of the ownership of property.

W e have in this state the citizen whose personal income from ownership of prop- erty approximates a million dollars per year, which we leave, as I mean to demon- strate before I am through, absolutely un- taxed , while we tax the modest income of his secretary, his engineer, his lawyer, his doctor, and every employee whose salary exceeds $1,250 per year.

We tax a class of incomes which impose a real burden upon those taxed, but do not yield large revenue, and leave untaxed the class of income that could be paid without personal sacrifice and that would yield abundant revenue.

I have a full share of reverence for "the wisdom of the ancients." Generally they builded wisely with the material at hand, and with due deference to the wisdom of experience behind them. I can find much in the conditions of the past to justify the false philosophy upon which this provision of our constitution was founded. Property consisted largely of unproductive and un- cultivated lands. That which was culti- vated was made to serve mainly the per- sonal needs of the owner, and when the property was taxed the owner was taxed.

That is absolutely not true of property in general today. Taxes do not apply against the owner of the property, but against the user of the property, or against the one who in the last analysis uses the product of the property. The tax against property is a tax against the owner so far, and only so far, as the property is used personally by the owner. To the extent that the man of wealth uses a more costly home, furnishings, automobiles, etc., and

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No. 6] MARCH, 1919 149

returns them for taxation, to that extent he pays a larger property tax than his neigh- bor. But as to all of his property that is successfully put to the production of in- come, the tax is paid by those who use it or who use its product.

The tax upon a cotton mill is just as much a part of the expense of operation of the plant, that goes into the cost of pro- ducing its product, as the cost of the coal that feeds its boilers, or the labor that runs its machinery, and goes into the price of its product and is paid for (with added inter- est) by those who purchase its product. The tax is no more a personal charge against the owner than is its coal bill, its labor bill, or any other expense of its oper- ation.

This rule will hold true of all property that is successfully put to the earning of income and to the extent that it is taxed equally with other property competitive with it. The composite tax rate in the city of Raleigh is 2% per cent of assessed value of the property. Who pays this tax upon rental property - the owner or the user? To ask the question is to answer it. Would any one contend for a minute that rentals are not made sufficiently high to cover the taxes in addition to a fair return on the property? If the necessity should arise for doubling this tax, would not rentals be raised to meet the increased tax and per- haps leave the landlord a little extra sti- pend to salve his feelings for the additional tax he was passing on to his tenant? Yet we tax the modest salary income of the tenant and exempt the unearned income of the landlord, and the untaxed landlord gets his exemption upon the payment of a tax which the taxed tenant furnishes him the money to pay.

This principle that the user pays the tax on property is of such universal application that it has been said, and I believe with exact accuracy, that there are only two forms of tax that cannot be passed on down the line to the purchasing public - the per- sonal income tax and the inheritance tax. The accuracy of this principle is so well recognized in Wisconsin that they not only tax the income of the landlord, from prop- erty, but they charge the landlord with in- come on the rental value of his own home to equalize the tax equity as between home- owners and home-renters.

The personal income tax hugs the person

against whom it is assessed. He can find no way to shake it off. It applies against a privilege personal to himself. A scheme of taxing incomes that exempts the income that earns itself - that income which repre- sents the natural increase of property - while taxing earned incomes, is shockingly inequitable and should not be permitted to continue. If we cannot find the means of taxing unearned incomes we ought to ex- tend our exemptions to cover earned in- comes.

In my opinion our income tax should be extended to cover income from all sources against persons and corporations, and used as a substitute for so much of the general property tax now levied for state purposes as cannot be made up from other sources of revenue.

By universal consent the general prop- erty tax is relied upon as the main source of county and municipal revenues in all states. It is subject, however, to one fun- damental infirmity that will always, and under the most scientific methods of ad- ministration, stand in the way of its ability to carry the total revenue needs of state, county, and city ; which will always defeat the purpose to require every citizen to con- tribute to the support of government in proportion to his prosperity ; and which makes necessary an auxiliary support that the income tax is almost perfectly fitted to meet.

The general property tax depends first upon an appraisal. The appraisal of value must be made with reference to its earning capacity, and here we meet its incurable infirmity. Earning capacity is a highly speculative element, and as tax administra- tion must always be conservative, its prob- able earning capacity in the future is dis- counted by every element of chance and value is appraised upon what would be found as its assured, or minimum, earning capacity.

No principle of science has yet been found by which we can look into the future and discover where and when unusual profits are to be made. Following a gen- eral rule of averages, it is about as likely to come to the industry that is having its period of depression today. But as it is presented to the tax assessor nearly all property has misfortune behind it, with it, or just ahead of it, which must have its in- fluence upon the value placed upon it for

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150 BULLETIN OF THE NATIONAL TAX ASSOCIATIOSN [Vol. IV

future taxation, and the valuation pace is set by the cripples in the race.

The disposition to give the property owner the benefit of every possible doubt is well illustrated by the familiar instance in every city where some citizen has held a tract of land off the market until the city had grown up around it. In spite of every admonition from supervising authority, and with full knowledge of its enhanced value, local assessors continue to assess it as farm lands, until finally sold off in lots, at from ten to a hundred dollars a front foot, and the proceeds invested in non-taxable secur- ities or some form of intangibles that could be secreted from the taxlister. The same kind of treatment is accorded the most prosperous business in the community. The more prosperous it may have been the more it will be contended that its previous pros- perity was abnormal and could not be ex- pected to continue, and could not, there- fore, be fairly used as the basis of apprais- ing its value for the future.

The owner is given the benefit of every doubt, and, to state it in the most conserva- tive terms, the public loses the right to participate in any abnormal or speculative earnings. Under this system the persistent tendency is for prosperity to go untaxed ; the richest part of the harvest escapes the tax gleaner. The general property tax can't reach it, and we are not permitted to reach it through an income tax.

As an instrument for taxing a fair pro- portion of prosperity, the income tax is as much superior to the general property tax as hindsight is superior to foresight, or, as an ascertained fact is superior to a poor guess. The genuine income tax doesn't speculate; it doesn't look to the future; it attaches itself to the achieved result; it plays no favorites ; it commits no wrong ; it leaves untouched the unfortunate ; it is gen- erous with wealth that for the time is un- productive ; but it exacts its full toll where and when fortune favors, and permits the state to share, in equitable proportion, in the prosperity of her people.

The reasoning that taxes levied upon in- come-producing property are paid by the user, rather than the owner of the prop- erty, is as sound as any law of economics, and would justify the taxing of the income of the owner in addition to the tax upon the property paid by the user. But even if this reasoning should not meet the assent

of the public mind, there can certainly be no sound objection, upon grounds of double taxation, to the taxing for the state of the income derived from property if at the same time we exempt the property from its payment of state taxes, and leave it to carry only its part of the burden of local taxes. Indeed it may be seriously argued that this may be done even under the exist- ing constitutional prohibition of taxing in- come derived from property taxed, upon the construction that the income cannot be taxed if the property from which derived is taxed for the same pur pos e , and that, if the property is relieved from state tax, an income tax for the state may be substituted for it. However, it would probably not be safe to launch out upon such a new course of taxation without removing this prohibi- tion from the constitution.

There has been for several years in this state a recognized need for relieving real estate of the burden of supporting both state and local governments. This com- bined burden has had the effect of running tax rates to unreasonable limits and has been found to be a substantial difficulty in the way of getting real estate properly as- sessed. Local communities have found the state tax upon real estate a sufficient excuse to hold down assessed values to such small percentages of real value as to threaten the whole structure of ad valorem taxation.

Without in any way weakening the pro- tection of the general principle of our con- stitution of taxation by a uniform rule, applying alike to all property and to all the people of the state, we can by this means leave to the local communities all the revenue from their physical properties, including the physical properties of private and public service corporations, and at the same time provide, through the means of this income tax, applying to income from all sources, a sufficient volume of revenue, supplementing the receipts from privilege, license, franchise and inheritance taxes, to meet generously the needs of the state gov- ernment. The income tax, unrestricted ex- cept by a nominal exemption, can be made to yield any desired amount, within reason, depending upon the rate and graduation of the tax, the amount of exemption, etc.

The income tax could be made to cover the unearned increment in real estate values by a legislative construction that all profit from the sale of real estate should be

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No. 6] MARCH, 1019 151

deemed to be income for the year in which sold, and such profit returned for income tax.

Adoption of the income tax as a substi- tute for the general property tax for state revenue would permit the state to get rev- enue from the foreign corporations doing business in the state. A large number of the most important manufacturing enter- prises in the state are organized under char- ters from Jersey or some other state, so that under our general property tax we cannot assess their capital stock for taxation, and this results in quite a discrimination against those manufacturing enterprises which are organized under our own state laws. But while we cannot reach the capital stock of such corporations for ad valorem taxation, under an income tax law we could tax so much of the income of such corporations as was earned in this state, and from this source alone a very considerable part of the revenue now received by the state from its tax on property could be made up, and upon a basis that would be exactly fair as between domestic and foreign corporations.

The state income tax is growing in favor with recognized authorities on taxation as the soundest method of relief from intol- erable rates of the general property tax, and as furnishing an auxiliary support to it that is sound* in every particular. With moderate rates of exemption it would take its contribution from every class of citizen in every community having an income above that necessary for actual support, and grade the tax in direct proportion to his prosper- ity. In Wisconsin, where since 1911 they have taxed income from all sources, the personal exemptions begin with $800 per year for the unmarried; $1,200 for hus- band and wife, and $200 additional exemp- tion for each child under 18 years of age. The Wisconsin income tax rate graduates from 1 to 6 per cent, reaching 6 per cent above $12,000.

Our neighbor state, Virginia, has adopted a tax upon income from all sources in its new scheme of taxation, with personal ex- emption of $1,200; for husband and wife, $1,800, and for each child under 21 years of age $200.

It seems to me that this policy would leave us but one very perplexing problem, and that is the problem of taxing intan- gible personal property. This has been the most perplexing problem in every state. It

is the rock upon which the ad valorem sys- tem breaks with greatest force, and almost literally falls down. Experience is prac- tically universal that this class of property - intangible, easily concealed, and with in- come limited to a low level - will not sub- mit itself to the high rates of the general property tax and that it will find some way of avoidance even when the most drastic measures of " search and seizure " are re- sorted to. An infinitesimal part of it finds its way on the tax books. The local com- munities would lose but little revenue by releasing it from local taxes, and could well afford to do so in exchange for the re- lease of all real estate and tangible per- sonal property from state taxes. It should be exempt from the general property tax either by authority of constitutional amend- ment or by the expedient of leaving from the tax abstract, which the taxpayer is re- quired to return, any inquiry as to prop- erty of this class; and there should be substituted for it a tax upon the income derived from such property, at such rate as would constitute a fair contribution to gov- ernment by such property. This income should go to the state. This method has been adopted in a number of states with results that have been highly gratifying, both from the standpoint of largely in- creased public revenue, and of the distribu- tion of sources from which received, so that only a moderate tax was imposed upon any one. As a substitute for all other taxes on this class of property the income tax rate should be about 10 per cent of the income, without exemption, which would be equal, upon 6 per cent paper, to a rate of 60 cents per $100 of par value, or about 25 per cent of the present combined rate in muni- cipalities.

Let no man say again that North Caro- lina is a state where poverty abounds. Wealth has been accumulated so rapidly that it presents a serious problem if we are not prepared to use it wisely. The state tax commission gets a comprehensive view of this rapid growth of wealth in confi- dential reports that would thrill the public mind if visualized before it. We have be- come a wealthy state.

We have a very striking exemplification of this conclusion in the recent report by the treasury department that the federal government collected seventy millions of dollars in revenue in North Carolina the

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152 BULLETIN OF THE NATIONAL TAX ASSOCIATION [Vol. IV

past year. This sum is about equal to that which the state government of North Caro- lina has collected for its own uses from all revenue sources in all the years since the Civil War combined. The federal govern- ment collected more revenue in each one of several counties in this state last year than the state government collected in all the counties in the state.

But with all this production of wealth the state treasury still finds it difficult to make both ends meet, while it meets in a way grossly inadequate the proper demands of its institutions established to serve the needs of a rapidly growing state. We can- not adequately or equitably tax this pros- perity under tax laws that limit us to an appraisal of the basic value of the prop- erty that earns this wealth. We need to adopt, as auxiliary to it, this principle of taxation that leaves speculation to take care of itself, and which attaches itself to the accomplished result and takes its toll of the money that actually comes into the till.

The state is not maintaining the growth of its institutions and agencies of service with that of the wealth and progress of her people. This should be a matter of con- cern to all our people. The time is rapidly approaching when the people, in their prosperity and progress, are going to be ashamed that the state is not measuring its progress in education, in benevolences, and in its agencies of helpful service, with the material prosperity of her people.

After- the- war conditions will place new responsibilities upon us. Certainly we must go forward with a comprehensive program of public health protection, public road building and other public improvements and with enlarged and improved educa- tional facilities. Wealth will be a blessing to us only in proportion as we use it to serve worthy ends and purposes.

It will not be any problem to raise enough revenue, in this wealthy and pros- perous state, if we can find the means of meeting the demands of equity and fair-

dealing in raising it. The first requisite is tax laws that our consciences can approve.

We can render the state no greater ser- vice than in laying the foundation for ade- quate revenue for its progressive future upon sound principles of equity.

The tax program herein suggested would give us " the simplest, most logical and most satisfactory of all solutions " ; would unfetter local communities in giving to them all of the proceeds of the general property tax, and leave to the state an un- failing source of revenue, levied upon lines of exact equity, and limited only by the prosperity of its people.

It should be further borne in mind that this limitation in our constitution upon the taxing power of the state was put there when the revenue needs of the state were simple ; when public supervision of sanita- tion and health conditions had not been thought of ; when there was not a public road tax in any county in the state; when public education had not been in fact rec- ognized as a public obligation, and many years before there was a public graded school in the state. It has no place in the organic law of the modern state, and should be removed at the first opportunity.

The governing section of our constitu- tion on taxation now reads :

" Laws shall be passed, taxing, by a uniform rule, all moneys, credits, investments in bonds, stocks, joint stock companies or otherwise ; and, also, all real and personal property, according to its true value in money. The General Assembly may also tax trades, professions, franchises, and incomes : Provided , that no income shall be taxed when the property from which the income is de- rived is taxed."

This section should be changed to read : " Laws shall be passed taxing, by a uniform

rule, all real and personal property, according to its true value in money : Provided , the General Assembly may tax the income from credits, bonds, and other intangible personal property, in lieu of all other taxes on such property. The General Assembly may also tax trades, professions, fran- chises and incomes."

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