Economics and The Public Welfare

Chapter 58

Taxation Under the New Deal—The Redistribution of Wealth

Taxes in 1934 in Upper Brackets Highest in World—Redistribution of Wealth. The New Deal tax policy from the beginning has been more concerned with the redistribution of wealth than with raising revenue. When the Congress, in the period of the interregnum between the election of 1932 and the Inauguration on March 4, 1933, was pledging a balanced budget and when something like an agreement had been reached that a sales tax would be employed in the effort to reach a balanced budget, President-elect Roosevelt intervened with a protest1 which led to the abandonment of the sales tax proposal. Revenue legislation in 1933 raised income tax rates very sharply in the higher brackets and imposed a 5% withholding tax on corporate dividends, a tax subsequently abandoned. In 1934 there were further drastic increases, both in income tax rates, particularly in the higher brackets, and in Federal estate taxes, bringing them to levels unmatched in the rest of the world.

Huey Long Frightens Roosevelt in 1935. Then suddenly in 1935, in the midst of the summer heat, President Roosevelt demanded of the Congress immediate action on a new and incredibly drastic tax proposal. Senator Huey Long of Louisiana had “stolen the show.” He had made an immense propaganda over the radio for a “Share the Wealth” programme. It seemed that there was danger that Senator Long rather than the President might become the leader of the radical New Deal movement.

President Demands Unconstitutional Tax Rider on Senate Bill. The President demanded that great increases in taxes be added as a rider to a pending Senate bill, and put through with great speed, despite the constitutional provision that tax bills must originate in the House of Representatives, and despite the obvious need for careful study if sound tax legislation were to be adopted. An immense protest went up over the country. Mr. Walter Lippmann, in particular, did valiant service in demanding more time for the study of such a proposal. Denial was made for the President that he had demanded that this change be made as a rider to a Senate bill. Senator Pat Harrison, Chairman of the Senate Finance Committee, protected the President by taking responsibility for the action, but nobody believed Senator Harrison’s statement. Everybody knew that Senator Harrison was far too sound and sensible a man to have originated such an idea himself, and there was general expression of respect rather than condemnation for the Senator as he assumed the role of “goat” for the Administration.

But Public Protest Forced Constitutional Procedure—The Revenue Bill of 1935. A more regular procedure was adopted, and the proposal2 was embodied in a House of Representatives bill, H. R. 8974.

This measure proposed in the first place a drastic increase in the Federal personal income tax rates. The following table shows these proposed rates, and also shows how high the rates had already gone in the 1934 tax legislation.

Existing and Proposed Personal Income Tax Rates *
Income magnitude	Existing rates, Federal and New York State combined	Proposed Federal and existing New York rates combined
$20,000	13.5	13.5
30,000	18.4	18.4
100,000	37.7	41.3
200,000	51.0	55.2
300,000	56.7	62.5
1,000,000	65.3	76.1
5,000,000	69.9	83.8

* Chase Economic Bulletin, Aug. 6, 1935, p. 10.

Federal Inheritance Tax to Be Added to Federal Estate Tax. A second major proposal in the bill was the addition of a Federal inheritance tax to the existing Federal and State estate and inheritance taxes.

An estate tax is one levied on the estate as a whole without reference to the size of the individual shares in the estate. An inheritance tax is a tax imposed upon the distributive shares to each of the separate heirs. The following table shows how high these taxes had already gone in the upper brackets before the new Federal proposal, shows the proposed additional Federal inheritance tax, and shows the total rate if the pending tax bill were to be enacted. For simplicity in calculation, the assumption is made that there is only one direct heir.

Existing and Proposed Rates of Death Duties *
Net estate (before exemption)	Federal estate tax (1934 rates) (%)	New York State transfer tax rate (%)	Total tax rate before proposed Federal inheritance tax	Tax rate, proposed Federal inheritance tax	Total rate if proposed bill enacted
$20,000	........	0.75	0.75	........	0.75
50,000	........	0.90	0.90	........	0.90
100,000	1.50	0.95	2.45	5.338	7.66
200,000	5.20	1.225	6.425	13.099	18.68
400,000	8.70	2.362	11.063	20.64	29.42
1,000,000	13.59	4.245	17.835	29.24	41.86
4,000,000	23.62	8.786	32.404	41.85	60.69
10,000,000	33.20	13.354	46.555	49.77	73.16
20,000,000	38.59	16.672	55.271	57.19	80.85
50,000,000	41.84	18.669	60.508	66.77	86.88

* Chase Economic Bulletin, Aug. 6, 1935, p. 9. Only one direct heir.

These rates, before the proposed increases, far outran any rates to be found at that time in any part of the world. The top British rate on death duties, which were the highest in the world, was 50%, with an additional 1% inheritance tax or succession duty on direct heirs—the succession duty ran up to 10% for bequests to strangers in England. The next highest rate in foreign countries was in Saskatchewan, where the figures ran from about 13% on estates of a million dollars to 24% on estates of 50 million dollars.

Increased Rates Could Add Little to Revenue. There was resistance of a sort to the drastic proposals. The Treasury estimates of the additional yield from the new legislation showed that it could not make any real contribution to Federal revenues. We had already reached the point of diminishing returns. It was a measure aimed at the redistribution of wealth.

Federal Inheritance Tax Rejected, but Estate and Income Taxes Radically Raised. The proposal to add a Federal inheritance tax to the existing Federal estate tax was defeated, but the Federal estate tax was increased. The proposed increases in Federal income taxes were accepted pretty much as they were made. The following tables show taxes after the 1935 legislation was completed.

Tax Rates in 1936 *
Estate Taxes			Income Taxes †
Net estate (before exemption)	Total Federal and New York estate taxes	% Tax to estate	Net income	Total Federal and New York State income tax	% Tax to net income
$50,000	$500	1.000	$2,000	$......	0.000
100,000	5,000	5.000	4,000	98	2.450
200,000	20,900	10.450	8,000	508	6.350
300,000	40,300	13.433	12,000	1,148	9.567
400,000	61,100	15.275	16,000	1,918	11.988
1,000,000	220,100	22.010	20,000	2.783	13.915
2,000,000	569,300	28.465	40,000	8.773	21.933
3,000,000	982,500	32.750	80,000	27,263	34.080
4,000,000	1,459,700	36.493	100,000	40,063	40.063
9,000,000	4,517,300	50.192	200,000	110,938	55.469
10,000,000	5,204,300	52.043	240,000	140,488	58.537
20,000,000	12,303,300	61.517	280,000	170,638	60.942
30,000,000	19,602,500	65.342	320,000	201,388	62.934
40,000,000	26,902,500	67.256	400,000	263,788	65.947
50,000,000	34,202,500	68.405	600,000	425,688	70.948
75,000,000	52,702,100	70.269	1,000,000	758,638	75.864
150,000,000	108,202,100	72.135	2,000,000	1,608,613	80.431
			4,000,000	3,328,588	83.215

* Prepared by Tax Department of the Chase National Bank, and reproduced in Chase Economic Bulletin, May 12, 1936, p. 11.

† Income Taxes. Exemption—Married man with no dependents. Earned income credit of $300.

Dividend Income—Where dividends from domestic corporations are included in net income, reduce amount of tax by 4% of dividend income.

Rates Paralyzed Initiative of Rich Men. It will be seen from the tables above that the top rate on income taxes went practically as high as the President’s proposal, but that the rate on death duties, which would have been 86.88% on an estate of 50 million dollars if the President’s proposal had been adopted, was made only 68.405%. But these rates were high enough to paralyze initiative on the part of men of large fortunes.

The Case of a Man with $30,000,000. Reasonably typical is the case of one rich man who, at the age of 25, had inherited an estate of about 12 million dollars—some thirty years before these 1935 taxes came. He had nursed his 12 million dollars into an estate of about 30 million dollars during those thirty years. He had done it by a kind of activity particularly helpful and useful to the country, the financing of new inventions and new explorations, the purchase of shares in new and promising businesses. He had taken a great many risks, knowing that many of them would turn out badly, but counting on a few of them to turn out well enough so that the profits on the successful ones would offset the much more numerous losses on the unsuccessful ones.

New ventures are usually not financed through the sale of securities to the public. In buoyant stock markets, when speculative excitement runs high, exceptions occur, as the recent Kaiser-Frazer automobile venture shows. In this case however, the new venture was led by men who had previously had business success, who were conspicuous, and who were supposed to be rich. But the general rule is that before public issues can be made successful, the enterprise must have established itself, must have an earning history, must give evidence of stability.

The mortality among new ventures is high, and this is particularly true when the new venture means, not merely the starting of a new firm, but also a real innovation. It sometimes happens that such ventures can be financed by men of small means but great enthusiasm, who convince other people that the project is workable and thus accumulate the necessary funds for making a start. But in American economic history such new ventures have often been financed by men of fortunes sufficiently large so that they could scatter their risks. The small capitalist cannot afford to put everything he has into one of these ventures. The hazard is too great. The large capitalist can scatter his risks.

In the case of the individual above referred to, a vigorous man fifty-five years old, the effects of the new taxes were paralyzing. More than three-fourths of any profits which he might have from a new venture would be taken away from him by income taxes. Any losses which he might incur from a new venture would be his own. But further, if he should die, his estate would have to pay to the Federal Government and to the State of New York (but chiefly to the Federal Government) $19,602,500, or 65.243% of the estate. How could an estate pay this tax if it were spread out in new ventures, in assets for which no ready market existed, in assets which could not be liquidated without great loss? It was a painful thing to watch him turn his energies from creative production to consultation with tax lawyers as to how he could save as much as possible for his heirs. It was a painful thing to watch a vigorous man of fifty-five turning from creative activities to preparation for death.

He fought hard against the advice of his business advisers and the advice of his lawyers. He still wanted to take part in enterprise. But their arguments were overwhelming, and he had to yield, with the thought of his family in his mind. He carried some 10 million dollars in cash to have it ready to pay the first installment in death duties. He withdrew as far as possible from illiquid investments, and turned to investments of a high degree of liquidity, including municipal tax-exempt securities—not one of which he had owned before.

He had a beautiful country estate which had cost a quarter of a million dollars. This would have been a dreadful thing to die with, under the new tax laws. Nobody could afford to own it with the tax laws as they were, and it was absolutely unmarketable. But at appraised value as part of the estate it would have been subject to a 65% tax. He tried to give it away to the Boy Scouts and to the Y. M. C. A., but neither of them could afford to take it. He finally succeeded in giving it to the county.

One may well raise the question as to just what good it did to the people of the United States to put this typical man in this position.

The spirit of enterprise in this particular individual was not killed by four years of this kind of tax problem. In 1938 when Senator Pat Harrison finally succeeded in substituting a capital gains tax of 15% for the income tax on profits from capital assets held over eighteen months, he was jubilant. He broke away from his lawyers and his conservative financial advisers, and he undertook a new venture. He still knew that he must keep highly liquid in order to protect his estate at the time of his death, but part of his liquid capital he was going to use in doing things.

The Importance to the Country of Entrepreneurs—the Profit Motive. The man with a $2,000,000 estate, or with an $80,000 income, was greatly inhibited, as the foregoing table will show. It is difficult to exaggerate the importance to the country of the motives and attitudes of the men who have the management of and proprietary interest in the industries of the country. Leadership of economic activity rests with a body of dynamic men—enterprisers, risk takers, men fertile in new ideas and quick in the appreciation and evaluation of new ideas.

The profit motive and the desire for the accumulation of wealth are very powerful with these men. These are not their only motives. They desire also the approbation of their fellow men. They desire triumph in competition. They desire power. They find an immense satisfaction in achievement and in efficient work. They have the “instinct of workmanship.” But these motives are found also among men who choose other careers than the business career, and the distinguishing motive of the businessman, as compared with the man in certain of the less lucrative professions, is a much greater relative intensification of the profit motive.

The scholar may express his personality in a book which he hopes will live. The creative businessman expresses his personality in the development of a business which he hopes will live. And in order that the business may be created and may grow and live and may continue to express his personality, he must be able to acquire and to conserve economic resources. It is not necessarily profit for its own sake, but, in part at least, profit and wealth as instruments for carrying through his creative purposes.

The Continuity of Family Plans. In conspicuous cases, well advertised in the headlines, sons of rich men have had escapades which suggest that they may not be the best successors of their fathers in the conduct of great businesses. But the man who reaches his conclusions, not on the basis of the headlines, but rather on the basis of the study of the credit files of a great bank dealing with many business houses (including banks), reaches the conclusion, that it is usually fortunate when a son trained by an able father succeeds that father as the owner of a business. Such sons do not have prominent places in the sensational headlines and do not get into the statistics based on such headlines. Such sons are not always chosen by their fathers as the active heads of the businesses. Sons-in-law, other kinsmen, or capable and trusted lieutenants of the fathers may be chosen in that capacity. But the sons, as owners, tend to keep the continuity of organization and policy.

Family ties have weakened in the United States in the last generation, and family tradition and family pride are not so important with us as they once were. But the family is still a tremendously vital institution, with a vitally important social function, and is particularly significant from the standpoint of keeping the continuity of ideals, plans, purposes, and organization in our economic system. We should not ruthlessly destroy this family function.

The Limits of Desirable Death Duties. We should not be hostile to inheritance taxes and estate taxes as such. Rather, we should favor reasonable taxes of this kind, though recognizing that, to the extent that they are a tax on capital, the proceeds of the tax ought to be used by the State for capital purposes, including the reduction of public debt, rather than dissipated in operating expenditures. There is good ground for the belief that vast fortunes involve undesirable political and social potentialities, and that public policy should be directed: (a) toward making sure that such fortunes cannot be accumulated in antisocial ways, and (b) toward holding down the growth and the transmission of vast fortunes to the extent that this can be done without checking the accumulation of capital and the spirit of enterprise. The practical question how far we can go without damaging the community in these matters.

How far does concern for his children and his grandchildren and his greatgrandchildren constitute a stimulus which keeps a rich man of forty, fifty, fifty-five, or sixty active in business, when he might instead retire and enjoy himself in spending money? There can be little question, I think, that concern for his children is a motive of vast importance, and that concern for his grandchildren already born is a motive of vast importance. Concern for his great-grandchildren is more remote. It is there, but he would often be disposed to let them take their chances. Inheritance taxes, without slowing down the activities of the creative businessman, could be pushed far enough so that if a great fortune is to reach grandchildren and great-grandchildren, each generation must add very substantially to it by productive activity.

Estate and inheritance taxes graduated up to 50% in the case of a great fortune, with administrative procedure such that the problem of liquidation is a manageable one, might not spoil the incentives of the founder of the fortune, though 50% is dangerously high.

• 1This point will be discussed at length in Chap. 34.
• 2I have not been able to find that this article was ever published. However, the reader will find much of it in two books by Veblen: Imperial Germany and the Industrial Revolution, New York, 1915; and The Nature of Peace and the Terms of Its Perpetuation, New York, 1917.