Treasury portfolio in 1814 he condemned in no uncertain
language the policy which had been so closely followed.
He attributed the breakdown of the credit machinery to
the failure to use adequate taxation to form a basis for
credit expansion. His foremost proposal, in an effort to
retrieve the mistakes of his predecessors, was to put into
force an adequate system of taxes.

The Civil War. The system adopted to finance the
Civil War was practically a repetition of that of the War
of 1812. The same general plan was followed with the
same general results. Almost exclusive reliance was
placed upon borrowing, followed by a collapse of the credit
system. The real difference was the step in advance of
thr earlier policy when the treasury notes, or greenbacks,
were given legal tender qualities to settle individual debts.
No comment is needed, to those who are familiar with our
economic history, upon their rapid depreciation and con-
sequent economic effects. Secretary Chase, in his recom-
mendations to Congress, advised taxes of sufficient amount
to take care of ordinary expenses of interest on the debt
obligations, and of a start toward a sinking fund. Some
new taxes were proposed, but these were intended to
make up the deficit in the revenue caused by the war.
The most important of these was the inauguration of
income taxes and internal revenue duties. The war had
progressed nearly three years before Congress could be
made to realize that the loan policy was proving disas-
trous. The interest rate had to be increased and the dis-
count at which the bonds sold was becoming more marked.
When Congress became convinced, near the end of 1863,
that resort must be made to other than borrowing, a
vigorous tax plan was pursued, with most gratifying re-
sults. Not only was it demonstrated that the citizens
seemed willing to meet the tax burden, but that many
appeared anxious to do so. Had this vigorous tax policy
been pursued earlier in the conflict, the credit of the
government, without question, would have remained more

30



464 OUTLINES OF PUBLIC FINANCE

firm, the effect of which upon the South and upon foreign
countries would have been quite salutary.

232. The United States Made Extensive Use of Taxes
in Financing the Great War. In a discussion of methods
used to finance war, those used by the various countries
to provide funds for the recent world conflict command
the interest of students of fiscal problems. A brief review
of some of the more important attempts to secure revenue
in the principal combating countries is all that can be
undertaken here. Neither is there space for any extended
criticism of these measures.

Revenue Act of 1916. The United States, in reality,
began her provision for war revenue before a state of war
actually existed. The Revenue Act of 1916 was largely a
preparedness measure, as was also in some respects the
Revenue Act of 1914. The revenue provisions of the law
of 1916 dealt particularly with income taxes, inheritance
taxes, a tax on the manufacture of munitions, and some
miscellaneous taxes. The changes in the income tax were
noted in the chapter on Income Taxes. 1 The inheritance
tax was introduced as a Federal measure for the first time
since 1902. The tax was imposed upon the transfer of
the entire net estate, less certain allowances, rather than
upon the amount of each share, and made no differentia-
tion between collateral and direct heirs. The rate was
progressive from 1 to 10 per cent, and the gradations
ranged from $50,000 to $5,000,000. A tax of 12J^ per cent
was placed upon the net profits of manufacturers of
munitions. Under the title of miscellaneous taxes the
duties were increased upon a number of commodities, such
as liquors and tobacco, and some changes were made in the
treatment of corporations, amusement houses, and brokers.

This law was amended in some ways before it was made
the basis for the War Revenue Act, signed October 3, 1917
the one real revenue Act of the war. The Act contained thir-
teen provisions, most of them dealing with various classes

igee. 303.



FINANCING AN EMERGENCY 465

of taxes. The provisions of this law did not repeal previous
legislation, but, with a few exceptions, supplemented it for
the purpose of securing a war revenue. The most impor-
tant item in the Act were titles I and II, which dealt with
income taxes and excess profits taxes, respectively.

Income Tax of 1 91 7. 1 Drastic changes were made in
the taxation of incomes. To the normal rate of 2 per
cent, under the 1916 law, there was added another normal
rate of 2 per cent for war purposes. The exemptions,
moreover, were reduced from $3,000 and $4,000 to $1,000
and $2,000. This placed a normal tax of 4 per cent on
all incomes of more than $3,000 or $4,000. The Act
imposed a surtax to be added to the additional taxes im-
posed by the former laws. The number of grades was
large, and the rates steeply progressive, from 1 per cent
on the amount of income between $5,000 and $7,500, to
50 per cent on the amount of income over $1,000,000.
Most incomes were thus subject to four taxes. The in-
come of more than $1,000,000 of an unmarried person was
subject to the normal tax of 2 per cent on all income above
$3,000, and the war normal of 2 per cent on all over $1,000.
To this was added the additional taxes up to 13 per cent
on the various grades of income, followed by the war sur-
plus taxes up to 50 per cent on the amount of income over
$1,000,000. This made a total income tax which ap-
proached, but of course fell somewhat short of, 67 per cent
an extreme which was approximated in no other country.

Excess Profits Tax. The use of taxes upon excess
profits was practically an innovation in our fiscal policy.
The embryo of this might be found, however, in the tax
on the profits of munition manufacturers, which began to
take definite form in the March, 1917, Revenue Act. The
tax was evidently designed to take, for the benefit of the
government, a part of the profits created by the war.
The rule provided for arriving at excess profits was to
deduct the average rate of profits earned upon the capital
invested in the three pre-war years (1911-1913), provided

1 For changes made in 1921 see note p. 483.



466 OUTLINES OF PUBLIC FINANCE

this rate was between 7 and 9 per cent. Whatever the
previous return, however, the minimum deduction in any
case was 7 per cent, and the maximum 9 per cent. The
tax applied to corporations, partnerships, and individuals,
the only distinction being that the maximum exemption
allowed to corporations was somewhat smaller than that
allowed to individuals and partnerships. The rates were
progressive, according to the following schedule:

Per Cent Profit Rate of Tax

Between 7 to 9 and 15 20 per cent

" 15 " 20 25 " "

" 20 " 25 35 " "

25 " 33 45 " "

Over 33 60 " "

Inheritance Tax and Other Provisions. Another impor-
tant modification of the previous law was the increase in
the inheritance tax rates. The 1916 schedule of rates had
been modified earlier in the year to range from lj/2 to 15
per cent. By the revenue law under discussion, additional
rates were imposed upon the same grades from J^2 of 1
per cent on the lowest grade to 10 per cent on the highest
the amount by which a bequest exceeded $10,000,000.
The maximum inheritance tax which could be collected,
therefore, would be 25 per cent.

Other provisions of the Act, which can only be indicated
here, were concerned with increasing tax rates upon goods
which were already taxed, and with tapping new sources
of revenue. The taxes upon distilled spirits, beer, and
tobacco were raised materially. The search for new
sources of revenue resulted in the placing of tax levies in
many new and unexpected fields. Freight, express, and
passenger transportation, and telegraph and telephone
messages, were made taxable. The manufacturers of a
large class of semiluxuries, such as automobiles, musical
instruments, jewelry, sporting goods, and many other
articles, were required to pay a tax on their product. A
10 per cent tax, to be paid by the purchaser, was placed
upon tickets of admission, and also upon the dues, initia-



FINANCING AN EMERGENCY 467

tion, and membership fees of various clubs. Postal rates
were modified so as to bring a greater return, and a long
list of legal papers were made subject to stamp taxes.

Revenue Act of 1918. Just as some of the measures
enacted before the opening of hostilities should be classed
as war legislation, so the revenue measure which was
passed within a few weeks after the signing of the armis-
tice was in large part a war revenue bill. It was largely
formulated before hostilities ceased, and the need for
huge expenditures did not stop with the signing of the
armistice. The previous revenue bill was closely followed,
and only a few of the more important changes can be
noticed. The law of 1918 modified the income tax sched-
ule as to normal rates, which were to be 6 per cent on the
first $4,000 income above the exemption, and 12 per cent
on the remainder. The exemptions remained the same
as in the preceding law, except that $200 was now allowed
for each dependent instead of for each dependent child.
In each succeeding year after the 1919 income tax pay-
ment, the normal rates are to be 4 and 8 per cent, respec-
tively, while the surtax rates remain the same. The
graduation was slightly modified and strengthened, so
that the maximum surtax is 65 per cent.

Under the law of 1918 the income of an unmarried per-
son of over $1,000,000 for the calendar year of 1918
would be subject to the 6 per cent normal tax on $4,000,
and the 12 per cent normal tax on $995,000. In addition
to these normal taxes there were the surtaxes on the dif-
ferent grades up to 65 per cent on the amount over $1,-
000,000. This made the total tax approach the limit of
77 per cent. Since there was an exemption, and only a
6 per cent normal tax on $4,000, and since all the grades
were not subject to the 65 per cent surtax, the total tax
would be much less than 77 per cent of the entire income.

The excess profits tax was somewhat clarified and modi-
fied under this new legislation, and, due to the pressure
from the states, the rates on inheritances were lowered.



468 OUTLINES OF PUBLIC FINANCE

The reductions are in the lower grades, for the rate on the
amount of inheritance over $10,000,000 is still 25 per
cent. Taxes were extended to a number of consumption
goods, either with the hope of securing revenue or of dis-
couraging the purchase of goods. 1

Corporation Taxes. Under each of these revenue Acts
the tax upon the net income of corporations was increased.
The 1916 law placed it at 2 per cent, while the Act of 1917
imposed an additional tax of 4 per cent, making a total
tax of 6 per cent. The Act of 1919 went still farther and
made the rate 12 per cent for the calendar year of 1918,
and 10 per cent for each succeeding year. Many details
exist in the law as to exemptions, deductions, evasions,
calculation of income, and administrative procedure.

233. Administrative Problems Developed from the Tax
Laws. Such a wide expansion of existing taxes and the
adoption of so many new forms of revenue precipitated,
as might be expected, a number of problems with which
the administrative officials had to cope. It was extremely
fortunate, however, that the income tax was already in
operation, that its administrative machinery was organ-
ized, and that it was capable of such a wide expansion.
The difficulties which arose from the extensive use of this
tax were therefore reduced to a minimum.

Much difficulty arose, however, in obtaining satisfac-
tory results from the excess profits tax. Profits were to be
calculated on the amount of invested capital, but the
amount of invested capital was not always easy to deter-
mine. The administrative machinery became swamped
with cases held under advisement, and millions of dollars
of potential revenue were held up until proper adjustments
could be made. The progressive levy worked injustice in
the cases where the returns were divided among several



1 An attempt to go into the details of this law as it relates to incomes
and excess profits would take us too far afield. A number of technical
treatises have been published and are available to anyone wishing to make
a more thorough study of these forms of taxes in the United States.



FINANCING AN EMERGENCY 469

owners as against a comparatively close division that is,
it was not based upon the ability to pay. Difficulty arose,
also, in attempting to get a semblance of justice between
businesses of different forms of organization. In the re-
vision, the tax was made to apply only to corporations,
with the expectation that partnerships would be reached
through the individual members. The arrangement, even
yet, cannot be said to be satisfactory, and tax injustices
between close competitors, with different forms of busi-
ness organization, frequently occur. The fact that the
tax was made one upon excess profits rather than upon
profits arising from war, suggests the intention that it
might continue as a part of the peace-time taxes. The fact
that it retained such an important place in the important
post-war Revenue Act also points to the same conclusion.
Much agitation has arisen for its repeal, however, and it
may be given up in the not distant future.

A nation could not hope to make such an extensive use
of taxes without some friction and dissatisfaction. On
the whole, the taxes fulfilled what was expected of them.
It is perhaps true that more energy was exerted in at-
tempting to find fields for new and increased taxes than
was exerted in establishing the machinery to take care of
the taxes as they were levied. A large part of the dissatis-
faction which was voiced arose from this cause. There
appeared little unwillingness to bear tax burdens, but
individuals did object to bearing heavy burdens when
others equally able to bear burdens were escaping. The
sooner the administrative machinery can be so perfected
as to be able to iron out these inequalities, the more suc-
cessfully, extensively, and peacefully can taxes be used to
meet the burdens of reconstruction.

234. The United States Borrowed Extensively During
the Great War. In spite of the strenuous efforts to secure
revenue from taxes, it was found necessary to secure the
larger part of the needed funds by borrowing. The dif-
ferent loans were well organized and were carried through



470 OUTLINES OF PUBLIC FINANCE

very successfully. The existence of the Federal Reserve
banking system proved of inestimable worth. The Fed-
eral Reserve Act provides that these banks could be made
to act as fiscal agents of the government, and the Secre-
tary of the Treasury was not slow in enlisting their serv-
ices. Each of the twelve reserve banks acted as centers
and were responsible for making the loan projects success-
ful. These banks and their members, as well as the other
banking institutions, were enthusiastic agents of the gov-
ernment in taking subscriptions for the loans, and were
large purchasers of the bonds themselves. The advance
of money and credit which they continually made to the
government was another valuable service.

Bond Issues. Five issues of bonds were floated, and the
success of each issue left nothing to be desired. Strong
appeal was made, both to patriotic and economic senti-
ment, and the pressure exerted at times was so strong
that subscription became more nearly coercive than vol-
untary. Wide publicity was given through newspaper,
magazine, and poster advertising, as well as through short
speeches at moving picture theaters, churches, and other
public gatherings. Various organizations throughout the
country took up the burden of enlightening the public
and securing subscriptions to the bonds. The issues were
made in convenient denominations, the fifty dollar "baby
bond" being especially designed to attract the small in-
vestor. The privilege of paying for the bonds on the in-
stallment plan was a further aid in securing subscriptions.

Treasury Certificates. In anticipation of the return
from the various loans and taxes, an extensive use was
made of the treasury certificates. These were carried
very largely by the banks, and were canceled when the
anticipated revenue was realized. By this process the
government did not have to wait for funds, but was
financed from the credit which banks could extend, and
a large part of the expected revenue was actually spent
before it was received.