The methods of taxation compared with the established principles of justice

Contents

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Introduction vii

Chapter

Introduction

So many theories and problems are comprised under the general name of taxation as to make it difficult to treat them systematically. But, on examination, we discover principles that may be made to bring some order out of the apparent chaos. These principles may properly be called the methods of taxation; although the term " method," as here employed, is not quite free from ambiguity. It is often used as synonymous with measure; but the measures of taxation devised by legislators are infinite in number. It is obviously necessary to classify these measures, if we treat them at all, and the process of classification according to rational principles exemplifies what is correctly denominated a method. At the same time, the practical applications of these principles are in common speech called methods, and it would be pedantic to ignore this usage, at least where to adopt it will cause no obscurity.

There can be no really adequate criticism of the methods of taxation without some consideration of the right of property. To tax is necessarily to interfere with this right; the revenue of rulers is drawn from the revenue of subjects. !N"or can we determine the extent and manner of this interference without referring to the commonly accepted principles of justice. For certain purposes we may speak of the wealth of a people as an aggregate ; but we may not in practice disregard the fact that this wealth is owned by a vast multitude of individuals, whose re-

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spective contributions cannot be arbitrarily fixed. If we would examine the methods of taxation, therefore, we must first ascertain what views prevail concerning the institution of property, and what rules or standards of justice are generally recognized in dealing with it.

No writer appears to have devoted himself to this specific inquiry. Works on taxation are numerous; but they are usually either historical and descriptive, or intended to apply particular theories. Most of the manuals of political economy have something to say about taxation, and many valuable monographs deal with problems that have from time to time demanded immediate solution. But we still lack a critical exposition of the relations of existing measures and systems of taxation to the rational bases of its methods; nor, perhaps, is it too much to say that the principles implied in such an exposition have never been clearly formulated. Hence many vigorous and really able commentaries on measures and systems of taxation have been comparatively ineffective. No one can scientifically criticise the laws actually adopted by legislators without having some ideal method in his mind; and he can hardly influence public opinion unless he not only makes this ideal intelligible, but also establishes it on rational grounds.

No doubt there may be permanently inconsistent ideals ; and in that event there will probably be permanent inconsistencies in the laws regulating taxation. But, on examination, these inconsistencies may be found to be less than would naturally be inferred from the animated conflicts which have raged over particular problems ; less, perhaps, than the participants in these conflicts themselves suppose. The controversy between the intuitional and utilitarian

INTRODUCTION ix

schools of ethics has been prolonged and frequently acrimonious; but when the rival methods are put to the test of practice, they are found to be surprisingly similar in their operation. Such may prove to be the case with other conflicting ideals ; but whether this be true in the case of taxation, or not, the inquiry can hardly fail to be useful. "No one is satisfied with the practical methods employed in assessing and collecting taxes, but there is little agreement concerning the reform of these practices. The first step in such a reform is to ascertain what these practices imply; not merely to catalogue them as formulated in laws, but to explain their results and compare them with the purposes which these results indicate, and with the ideals which are more or less clearly defined in public opinion.

It should be borne in mind throughout the discussion — although the examination of the subject must be deferred to a later stage — that altogether the most prolific source of confusion, both in practice and in theory, is the prevalent ignorance concerning the process commonly called the diffusion of taxes. Much reasoning, whether it relates to proportionate, or progressive, taxation, is vitiated when the nature of this process is recognized. Provided the individual who pays the tax can without greater exertion increase his revenue to the extent which the tax decreases it, it is not very material to him whether the tax is proportionate or progressive, or indeed whether it is high or low. To a certain extent, the truth of this principle appears to be recognized, as in the case of customs duties. The importer of dutiable goods pays the government its tax, but he is believed to reimburse himself for his increased expense by selling the goods at an x INTRODUCTION

enhanced price. The American Sugar Refining Company, for instance, pays a great many millions of dollars in taxes on the sugar which it imports, but in the public belief it recovers these taxes, and perhaps more than recovers them, from its customers, who in turn recover them from the consumers of sugar. On the other hand the same public apparently supposes that an income tax must reduce the incomes of those only who pay it. The conclusions are on their face inconsistent, and there is perhaps no clear understanding of the logical process by which they are both maintained.

It follows that we must distinguish between permanent and temporary measures of taxation, for in most cases a tax, when first imposed, will diminish the revenue of certain persons, but if it continues to be levied will diminish the revenue of others. In fact, temporary taxes hardly admit of scientific treatment, but must be regarded as forced contributions; for we cannot draw logical inferences unless we assume some degree of permanence in our premises. Our reasoning therefore must relate, for the most part, to a stable system of taxation, with some allowance for moderate changes. And this suggests a further caution, that no final judgment can be pronounced or any tax considered by itself, but only as related to the whole system of which it is a part.

While such an inquiry as this is chiefly of scientific interest, there are two practical reasons for undertaking it. In the first place, the present laws and their administration in many cases oblige men to conceal their wealth by deceit, falsehood, and perjury; or else to withdraw from certain occupations because they cannot compete with those who employ these agencies. For the same reason,

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the great class of helpless persons whose property is controlled by trustees is everywhere subjected to exceptionally heavy taxation. In the second place the aggregate of taxation has so enormously increased, and shows so marked a tendency to increase, as to make the future condition of the mass of our people a matter of grave concern. They are eventually the chief, although the ignorant, victims of misgovernment. " The common people of England," exclaimed Adam Smith, " so jealous of their liberty, but like the common people of most other countries, never rightly understanding wherein it consists ! " — and we cannot except our people from this description. History warns us that progress can be checked by oppressive taxation, and we may well inquire into the tendencies of our present system.

Chapter I The Three Methods Of Taxation

The evident sincerity with which, men advocate measures of taxation that are theoretically irreconcilable is a striking proof of the confusion of thought prevailing on the subject. Probably most of this confusion is due to ignorance; we are often unaware of the extent to which the ideals and methods that recommend themselves to us have been tested and condemned in the past. But the confusion does not all arise from this source. It is not uncommon for men to be influenced unconsciously by conflicting ideals, and to favor at different times and under different circumstances practices conforming to one or another of these ideals, without being aware of any inconsistency ; or at least without perceiving the cause of it.

Thus, if we define taxation as the process by which some of the wealth of the subjects of a government is transferred to their rulers, to be employed for public ends, perhaps most men would at first assent to the proposition that this process attained ideal perfection when the smallest possible quantity of this wealth was used up in the transfer; for even those who contribute gladly to public ends dislike to have much of their contributions remain in the pockets of the tax gatherers. So, too, the proposition that the best system of taxation is that which least interferes with the accumulation of wealth would probably command general assent. But it is conceivable that the expense of collecting the taxes so as to attain this result might be greater than if another end were in view. For, under a different system, there might be features so favorable to large creations of wealth by the " captains of industry " as to make the greater cost of collection of slight consequence. Protective duties, for example, are commonly declared to be advantageous, in spite of their cost, because they increase the prosperity of the whole people. But many would question the proposition altogether, holding the acquisition of wealth not the supreme end, either for individuals or for nations. One country, they would say, may be much richer than another of equal population; but the second country may be the happier. Were there no extremes of wealth and poverty, many of the problems which darken the future of modern societies could not arise, and the greater comfort of the common people might outweigh the diminished luxury of the rich.

Such inconsistencies are by no means peculiar to the views of the ordinary man. They are illustrated to a remarkable extent in Adam Smith's classical chapters on taxation. The enduring merits of his presentation of the subject would in any event make it desirable to consider it ; and on account of its very inconsistencies it is the more instructive. As it would be a departure from the usual practice of writers on taxation not to quote the celebrated four maxims, they are given here, in a somewhat condensed form.

I. The subjects of every state ought to contribute toward the support of the government, as nearly as possible in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the state.

II. The tax which each individual is bound to pay ought to be certain and not arbitrary. The time of payment, the manner of payment, the quantity to be paid, ought all to be clear and plain to the contributor and to every other person.

III. Every tax ought to be levied at the time, or in the manner, in which it is most likely to be convenient for the contributor to pay it.

IV. Every tax ought to be so contrived as both to take out and to keep out of the pockets of the people as little as possible over and above what it brings into the public treasure of the state.

The second and third of these maxims have been generally accepted as indisputable; but they evidently involve much contentious matter. Eor, if it be desirable that the time of payment should be certain, and clear and plain to everyone, it might be necessary to fix the time and the manner of payment without reference to the convenience of the contributor. Taxes on real estate, for example, are almost everywhere made payable at a certain time, and the contributor is subjected to a penalty if he does not pay them at that time, whether it suit his convenience or not. Moreover, what are known as indirect taxes have been generally favored because those who indirectly contribute them are not aware of it, and are thus kept in ignorance, not only of the time and manner of payment, but also of the quantity to be paid. So the suggestion that every person should know what others pay seems to imply some political end which is not self-evident; and we see that in England much care is taken that the quantity of the tax paid by the individual on his income shall not be disclosed to the public.

For similar reasons, the fourth maxim seems not to be always reconcilable with the second and third, although the inconsistency may not be of great importance. And, practically, it may be urged, the three rules are but more specific statements of the principle that taxes should be so levied as to cause the least possible discouragement to the accumulation of wealth. As Adam Smith observes, although vexation is not, strictly speaking, expense, it is certainly equivalent to the expense at which every man would be willing to redeem himself from it. No doubt indirect taxes seem to take out and to keep out of the pockets of the people a great deal more than direct taxes, over and above what they bring in to the public treasury ; yet the manner in which they are levied is so convenient for contributors as greatly to diminish the force of this objection. It would be reasonable to maintain, however, that the convenience of the contributor is to be consulted through the imposition of such taxes as are really least expensive for him, rather than those that cost him more without his perceiving it. In this view the third maxim is subordinate to the fourth, and the three together may be treated as cases under the general principle of economics above stated.

The first maxim, however, introduces a principle of an entirely different character, failure to notice which has occasioned later writers some perplexity. The last three of the maxims, as we have seen, relate to the economy of the process of taxation in the aggregate ; but the first lays down a rule of justice with reference to the rights of individual taxpayers. It does not state an economic principle, and has no apparent relation to the accumulation of wealth. A tax may be certain, convenient, and economical, without being at all proportioned to the revenue of the taxpayer. In fact, such a tax might be collected entirely from the revenue of a small class in the community. On the other hand, a tax proportioned to the revenue of the tax payer might be both inconvenient and wasteful. If we could discover a tax that was at the same time economical and proportionate to revenue, it would accord with all four maxims; but it is significant that of the twelve classes described by Adam Smith, all, with one possible exception, offend against one or more of his maxims, and nearly all offend against the first.

These maxims, therefore, must be regarded as illustrating rather than as dispelling the confusion which prevails concerning the methods of taxation. They are conflicting, and they contain nothing which enables us to say which should prevail. The fact that Adam Smith's treatise was largely descriptive and historical perhaps caused him to overlook this inconsistency; and, in fact, he introduces in his recommendations for reform a principle repugnant to his first maxim. But as this maxim evidently implies a fundamental principle, it has been scrutinized by later writers, and some of their criticisms will aid us in distinguishing the chief methods of taxation.

The comments of the late Professor Fawcett may be quoted mainly because they illustrate a misconception that still prevails. He observes : " Notwithstanding the deference due to such a high authority, we believe that it will be found that, if the language employed by Adam Smith is closely analyzed, his first maxim of taxation is not only expressed in words which are obscure, but that it is almost useless for any purposes of practical application. It will be observed that Adam Smith, in the first place, affirms that the subjects of a state ought to contribute to the support of the government in proportion to their respective abilities: then he professes to make this statement of his principle more clear by enunciating it in different terms ; for he explains that ' contributing to a government in proportion to a person's abilities ' is the same thing as ' contributing in proportion to the revenue which he enjoys under the protection of the state.' These two statements of the principle, if they have any precise signification, do not mean the same but entirely different things."

It is clear, however, that when Adam Smith said that ability to contribute was to be measured by revenue, he meant precisely what he said. The fact that other writers have used the term " ability " in a different sense is immaterial, so long as Adam Smith defines the sense in which he uses it. Were there any obscurity in his language it would be wholly removed by the illustration of his meaning which he at once gives. He says : " The expense of government to the individuals of a great nation is like the expense of management to the joint tenants of a great estate, who are all obliged to contribute in proportion to their respective interests in the estate." The meaning of this comparison is unmistakable. !No matter what the circumstances of the shareholders in a common enterprise may be, or what the inequality of their shares, the principle of contribution stated by Adam Smith is recognized by law and usage.

Mill's criticism is from a different point of view. He does not expressly state what construction he puts on the first maxim, but he evidently disapproves of Smith's use of the term " ability." " Equality of taxation," he declares, " as a maxim of politics, means equality of sacrifice. It means apportioning the contribution of each person towards the expense of government, so that he shall feel neither more nor less inconvenience from his share of the payment than every other person experiences from his. This standard, like other standards of perfection, cannot be completely realized, but the first object in every practical discussion should be to know what perfection is. . . . Setting out, then, from the maxim that equal sacrifices ought to be demanded from all, we have next to inquire whether this is in fact done, by making each contribute the same percentage of his pecuniary means. ... To take a thousand a year from the possessor of ten thousand, would not deprive him of anything really conducive either to the support or to the comfort of existence ; and if such would be the effect of taking five pounds from one whose income is fifty, the sacrifice required from the last is not only greater than, but entirely incommensurable with, that imposed upon the first. The mode of adjusting these inequalities of pressure which seems to be the most equitable, is that recommended by Bentham, of leaving a certain minimum of income, sufficient to provide the necessaries of life, untaxed."

We have here a definition of equal taxation essentially different from that formulated by Adam Smith. He maintained that every subject should contribute in proportion to his revenue. Mill maintains that every subject should contribute in inverse proportion to the discomfort which he suffers from making his contribution. Now it is evident that a psychological investigation into the quantity of pain endured by every individual taxpayer in a nation is impracticable: it would be necessary to ascertain the amount of the wealth owned by the individual, and then to estimate the pain or discomfort caused by the various rates of deduction through taxation. Some allowance may perhaps be made for certain peculiarities in the circumstances of individual taxpayers ; their net wealth, we may say, rather than their gross wealth, should be estimated. But the point is that we must assume a quantitative relation beween feeling and material possessions; the possessor of large wealth must be held to suffer less pain from the decrease of his revenue by a proportionate part than the poor man suffers by a corresponding decrease. Hence the conclusion follows that every subject should contribute not in a simple proportion, but in some geometrical proportion to his wealth or revenue. Mill indeed seems inclined to go somewhat further than this, and to hold that the very poor should pay no taxes at all. As taxation according to this principle has come to be known as " progressive," it will be convenient, in referring to it, to adopt that term.

Here, then, we find illustrated three quite distinct and apparently conflicting methods employed by men in their reasoning about taxation. As we have said, the method suggested by Adam Smith in his first maxim may be designated the proportionate method; that proposed by Mill may be called the progressive method ; and that deducible from Smith's other maxims we shall term the economic method. The ideals implied in these methods are presumptively inconsistent. The ideal of the proportionate method is simply proportionality : that taxation should be contrived with the purpose of taking from every subject the same proportionate part of his wealth. This ideal might be defined with reference to the subject as quantitative, or mathematical, equality. The ideal of the progressive method may be called socialistic. The existing distribution of wealth is deemed unjust. A part of the possessions of those who have greater wealth should be taken from them, and given to, or applied to the use of, those who have less; and taxes should be contrived with this purpose in view. The ideal here is apparently equality, or equalization, of sacrifice on the part of the subjects. The ideal of the third, or economic, method seems to be predominantly fiscal. The first and second ideals are personal in character; they have reference to the circumstances of the individuals constituting the state. The third is impersonal; it is concerned with the total amount of wealth, not with its ownership or distribution, although it seems to imply that the increase of the wealth of human beings is a desirable end, and that taxation should be contrived with the purpose of interfering as little as possible with its attainment.

Still, we are not compelled to assume that these ideals are necessarily attainable only by their respective methods. Taxes might conceivably be levied in accordance with either the first or the second ideal, and attain the third. We might find that the wealth of the community reached the highest possible figure under a progressive income tax, or under a general property tax, and in either case the fiscal ideal would be realized. But the converse of this seems less easily conceivable. It might be true that taxation according to the economic method would result in quantitative equality, but no one appears to contend that such taxation would bring the socialistic ideal to pass.

But however this may be, these ideals must be respectively supreme in their different methods. A socialist might hold that, in taxation, the proportionate or the fiscal ideal was most satisfactory ; and those who accept the fiscal ideal are by no means committed to the proposition that the present distribution of wealth is ideally just, or even the best practically obtainable. They might even judge a state where there was less wealth, equally distributed, to be happier than one where there was more wealth but less equality. But they would hold either that the present order is so rooted in the nature of things that it cannot be altered by legislation, or that the proper way to reduce excessive accumulations of wealth in the hands of individuals is not to confiscate them after they have been acquired, but to remove the causes that enable men to acquire them ; for if those causes cannot be removed, the evil might be aggravated rather than cured by taxation. It is the end to be attained in levying taxes that differentiates the methods. In every method a certain purpose must control. Other purposes must be collateral and subordinate; and it is immaterial to this inquiry that such purposes exist, or even what Utopias men imagine, except in so far as we find them conflicting with the premises necessary to rational procedure.

Yet so many complaints are heard of the tendency of existing measures of taxation to encourage dishonesty, as to make it worth while to inquire whether we should not recognize a fourth method. The ideal of such a method would seem to be the promotion of virtue, and the purpose to be attained in taxation would be predominantly ethical. Taxes should be so levied as to elevate the morals of the taxpayer, or at least not to deprave them. It is certainly paradoxical to deny such a proposition, for we consider that the whole system of legislation should promote virtue, and the laws regulating taxation are a part of this system. Hence we seem committed to a political and ethical inquiry of rather wide scope.

Now, to a certain extent, this is what is contemplated in the present investigation ; for both the proportionate and the progressive methods make professedly ethical claims, which it is our business to test. These methods, as we have seen, are personal; they propose in adjusting taxation to regard the circumstances of every individual. And as their very aim and purpose is declared to be the attainment of justice, it seems absurd to say that the effect of such adjustment on the morals of the individual is immaterial. For, however we define the concepts of virtue and justice, we certainly do not think that justice can be attained by discouraging virtue. Should it appear, therefore, that the practical application of the first two methods actually hinders virtuous action, the fact that they profess the attainment of justice as their ideal would not save them from condemnation.

It is true that the economic method makes no such claims. It professes to be impersonal; it is apparently concerned with the increase of wealth rather than the increase of virtue. Indeed, as we shall see, it abandons the attempt to ascertain the wealth of the individual as futile ; and if we cannot even find out how rich every man is, we certainly cannot estimate the extent of his virtue. Nevertheless, the moralist can say that the promotion of virtue is a criterion to which the economic method, like the others, must submit. For if we should find by experience that this method does deprave men, we should certainly condemn it ; and hence it is legitimate to inquire into its ethical results.

And, as a matter of fact, the advocates of this method claim as one of its chief merits that in practice it removes much temptation to falsehood and dishonesty, and relieves virtuous people from the penalties to which they are subjected by the other methods. These claims, of course, challenge examination, and imply the supremacy of the standard that might at first seem irrelevant. Yet, after all, a standard so purely formal as this seems to be properly described as a test or criterion of methods of taxation, rather than as itself a method.

It is to be added that the fact that taxes, however levied, are always and necessarily paid by persons, is a dominating consideration. The exaction of these payments cannot be successfully carried on in defiance of the convictions of those who make them. Every taxpayer is disposed to scrutinize the amount of his contribution and the manner in which it is collected, and to compare his payments with those of his neighbors. Under such conditions the legislators cannot ignore ethical considerations; their demand for recognition is so imperative as to make the fiscal end appear subordinate. If taxation is to be scientific, it must be a continuous and substantially permanent process, which it cannot be if its practical applications are condemned by public opinion. That opinion would incessantly interrupt and alter the process, thereby destroying the economic gain of permanency. The fiscal method, in short, would be impracticable if men were rationally convinced that it was unjust.

As has been intimated, however, there is in theory nothing incompatible between a fiscal and an ethical end. The two ends may coincide; and in the sequel we shall perhaps find reason to believe that they tend to coincide.

But this is far from self-evident, and in such a community as ours, with such a confusion of taxes as here exists, it would be idle to examine methods of taxation without some preliminary inquiry concerning prevalent conceptions of justice. Under a despotism, or even under an aristocracy, taxation, when not very oppressive and vexatious, may be regulated without asking whether its methods would meet the approval of the mass of the subjects, if they were consulted. The two hundred and fifty millions of people inhabiting British India, for example, are taxed at the discretion of a very few men, according to principles which the taxpayers no more think of questioning — or of understanding — than they do the causes of the monsoon. Much the same is true of taxation in such a country as Russia ; but in a community where public opinion is alert, no system of taxation can be accepted as permanent unless rational grounds are offered for holding it just; or, at least, as resulting in as near an approach to justice as could be attained under any other system.

But when we ask what is meant by justice, we find ourselves at once perplexed. Philosophers, from Plato to Spencer, have labored to define it. The search has been instructive and fruitful, but it has not resulted in a definition that has been universally, or even generally, accepted, or that appears to apply satisfactorily to all the cases arising in practice. In truth, the word has many meanings. The standards of morality are not the same for all races, or for all members of the same race. They vary in different sections of the same country, and among different classes in the same community. In the last analysis every responsible human being must have his own standard of right and wrong, and it is only by yielding and modifying his own convictions that he can attain a modus vivendi with his neighbors. Hence if any standard of right or justice can be said to prevail in a society, it must be the result of compromises so numerous and so extensive as to make scientific definition very difficult. To compromise is to deviate from a standard; and, where many individuals are concerned, the degrees of variation and the reasons for them become quite incalculable.