Gross Income Attitudes

January 28th, 2010 - by Quincy

It is income tax season again, and as you pore over your records to discover how much the IRS siphoned from your paycheck and whether you have to fork over more, consider this frightening fact. From the government’s perspective, they could have taken much, much more. As proof of this, I present two pieces of evidence: the definition of “income” found in the Internal Revenue Code, and the concept of tax expenditures.

As you fill out your income tax forms, you will likely have to compute your gross income. The number you come up with, however, does not even come close to what the government’s tax theory says your gross income really is. As defined in Section 61 of the Internal Revenue Code, gross income is “all income from whatever source derived.” This is not terribly troubling until you understand the scope of the term “income.” As defined by the Supreme Court, “income” is any increase to wealth. See, e.g. Commissioner v. Glenshaw Glass Co., 348 U.S. 426 (1955); see also Henry C. Simons, Personal Income Taxation 50 (1988). This isn’t just the money you earn; it includes the value of any services you receive (even those services you provided for yourself) and the value of any property rights you used. So in a world in which we strictly followed the government’s tax theory, you would include in your gross income calculation the value of cleaning your house, washing your car, brushing your teeth, and so on. You would include the value of living in your home, driving your car, wearing your clothes, etc. Happily, for now, the administrative costs of discovering the value of all these “accessions to wealth” limits the tax man’s reach. But as technology advances, who knows, you might be listing items like this on your income tax forms.

Understanding the government’s perspective on income is important because it reveals a dangerous attitude towards individual autonomy. Every productive act you do and everything you enjoy is taxable. There is nothing—at least nothing recognized by the government—in the legal foundation undergirding Congress’ authority to tax that prevents them from taxing anything and everything.

Now, some of you tax-savvy readers may be shaking your heads and thinking, “What about all the deductions, exemptions, and exclusions? Surely this is solid evidence that the government recognizes that there are some things that simply should not be taxed.” To disabuse you of this overly-charitable idea, let me introduce to you the concept of tax expenditures.

The concept of tax expenditures was invented by Stanley S. Surrey, a Harvard Law Professor and former assistant secretary of the United States Treasury. This concept profoundly influenced government budget analysis both in the United States and abroad. See Leonard E. Burman, Is the Tax Expenditure Concept Still Relevant? 56 National Tax Journal 614 (2003). The tax expenditure concept changed how the government calculated how much it was spending. The traditional method was simply to tally up the amount of money that the government expected to pay to cover its programs and projects. Mr. Surrey changed that method by proposing that the government include in its spending calculations the amount that it did not collect because of tax exemptions. The taxes that would have come from those portions of income that the government could have taxed but didn’t were, in Mr. Surrey’s method, uncollected revenue that should be accounted for. Adopting Mr. Surrey’s idea, the Budget Act of 1974 defined tax expenditures as, “those revenue losses attributable to provisions of the Federal tax laws which allow a special exclusion, exemption, or deduction from gross income or which provide a special credit, a preferential rate of tax, or a deferral of tax liability.”

Mr. Surrey’s upside-down method encouraged government to abandon the idea that some organizations and activities were simply beyond the reach of the tax code and to view any tax exemptions, deductions, or exclusions as monetary gifts from the government to the benefiting individuals and organizations. For example, under the Section 170 of the Internal Revenue Code an individual may be eligible for a tax deduction for the amount that he or she donates to a qualifying charitable organization. Under Mr. Surrey’s method, however, instead of recognizing that government simply should not be allowed to tax charitable donations, the government views the taxes that it could have taken but didn’t as a government subsidy—as if government itself were donating money by refraining from its “right” to tax. Rather than recognizing limits on its power to tax, government now views these exemptions, deductions, and exclusions as a form of discretionary spending justifiable only because it furthers political or social goals.

Putting together the two halves of the above discussion shows that government assumes that every productive or enjoyable thing you do is potentially taxable income and that by not taxing you to the full extent of its “rights,” it is generously giving you a gift. This attitude is particularly frightening in a time when unwise citizens continue to give political power to leaders who think they can spend their way out of any economic crisis or social ill, government budget deficits grow by the trillions of dollars, and academia continues to erode recognition of individual property rights. We have strayed very far from the relationship between citizens and government that the Declaration of Independence described. Do we still believe that the government is the servant of the people? For our government’s attitude about taxes is a strange attitude for a servant to take.

2 Responses to “Gross Income Attitudes”

  1. Sean says:

    So where is the line on what is taxable and what isn’t? If I’m a subsistence farmer, should I be untaxable? If I barter my extra crops with others, should I be untaxable? If I convince a poor grad student to work for me for free (Kramerica Industries), should I be free of taxation for the valuable services they provide? Of course it does get ridiculous at some point, e.g. taxing single income families for the services of a stay-at-home mom, but I wonder if a bright line exists, and what criteria is most important to consider.

    On the second point, I wonder if our terminology matters substantively. If the government offers a deduction to someone, why not call it a subsidy, if it isn’t available to everyone? Does the terminology change the tax burdens we’re willing to impose or accept? At some point the line is blurred anyway, with negative taxation actually refunding people more than they paid, but I’m not sure that calling something outside tax law a subsidy or untaxable matters.

  2. Quincy says:

    The line delineating what is taxable and what is not must be derived from the principle which authorizes taxation. As I wrote in my earlier post, More on the Possibility of Legitimate Government, I do not accept the Anarcho-Capitalist proposition that all non-voluntary taxation is in fact nothing more than the use of violence or threat of violence by one group of citizens to take property from their fellow citizens. In other words, I do not believe that all taxation is illegitimate. To avoid illegitimacy, however, taxation must be justified by a legitimate claim by government to the property of its citizens. Labor certainly cannot provide this basis, for the fruits of labor are wholly the property of the laborer. To argue otherwise one must surrender important values like self ownership and human equality which are the foundations of liberty. So government cannot legitimately tax labor. Consequently, an income tax which claims authority to appropriate a portion of any increase in wealth is illegitimate, for much of what it takes is the exclusive property of the citizen over which government can have no legitimate claim. The only basis that I have been able to reason out which could justify taxation is the one I described in blog post cited above: real property ownership.

    Another way of saying this is that the line which divides the taxable from the untaxable is not one which government can draw based on its needs or political power. The line which divides the taxable from the untaxable is already drawn by the foundational principles of liberty and property, and the task of the legislator is simply to discover it and enact laws in harmony with it.

    As for your second point, I think that terminology does matter substantively for the following reason. When legislators and citizens begin calling tax exemptions subsidies there is a tendency to try to control what is done with the money. There is a tendency to prescribe rules of conduct over and above the core elements of the exemption to ensure that the exempt money is used in harmony with the political and social philosophies of the party in power.

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