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War Taxation


_Some Comments and Letters_


OTTO H. KAHN


1917




War Taxation

_Contents_


Some Comments                                     Pages 7 to 42

Letters

I
THE INCOME TAX                                   _Pages 43 to 60_

II
RETURN UPON TAXABLE AND TAX-EXEMPT SECURITIES    _Pages 61 to 70_




_War Taxation_


The recent publication of a little pamphlet entitled "Some Comments on
War Taxation" elicited numerous interesting comments by the readers.
The points to which these comments mainly related were the statements
contained in the pamphlet that:

_First._ If our neighbor Canada continues her present policy of not
taxing incomes, or if she imposes only a moderate tax while rates of
income taxation in America are fixed at oppressively and unnecessarily
high rates, there can be little question that the ultimate result will
be an outflow of capital to Canada, and that men of enterprise will
seek that country.

_Second._ Moneyed men not having their capital engaged in active
business, if they are so constituted that their consciences permit them
to evade their share of monetary sacrifice, can put their funds into
tax-exempt securities.

In reference to the foregoing points, I have written two letters in
answer to correspondents. These letters contain an elaboration of
certain arguments and viewpoints set forth in the original article on
War Taxation and also refer to some additional phases of the subject.
Those who have done me the honor of perusing that article may possibly
be interested in reading these letters.

In order that they may be presented as a part of the argument as a
whole, the original article with a few additions and slight revisions
is printed in the first part of this pamphlet, followed by the letters.

O. H. K.

52 William Street,
New York, July 5, 1917.




SOME COMMENTS ON WAR TAXATION


    _This is a reprint, somewhat amplified, of an article printed
    recently in the New York Times. The original article was written
    before the recommendations of the Ways and Means Committee of the
    House of Representatives were reported._


In a time of patriotic exaltation and of universal obligation and
readiness to make great sacrifices to bring a most just and righteous
war to a successful conclusion, the voice of sober argument and matter
of fact considerations is apt to grate upon the ears of the people.

That voice is all the less likely to be popular when the arguments it
puts forth may easily lend themselves to the interpretation of being
actuated by solicitous care for selfish interests.

I am fully aware that by publishing the following observations I am
exposing myself to that interpretation and to criticism of, and attack
upon, my motives.

Yet, seeing that certain measures now under consideration threaten to
take shape in a way which, from my practical business experience and
after mature deliberation, I am bound to regard as faulty and as indeed
harmful to the country, I believe it to be right and proper to
contribute my views to the public discussion of the subject, for
whatever they may be worth.

I can only hope, then, that in what I am going to say I shall be given
credit for endeavoring to speak conscientiously and to the best of my
knowledge and judgment from the point of view of the welfare of the
entire country and not of the welfare merely of the well-to-do.

I shall address myself to the practical aspect and to a few phases only
of the question and shall not attempt to enter into the economic
theories and the broader and deeper considerations involved.

I shall assume in my argument that what Congress is seeking to
accomplish is to impose taxes justly, effectively and scientifically
with the desire to disturb the country's trade and commerce as little
as possible and to avoid as much as may be the evils of financial
dislocation.

I shall take it for granted that at a time when more than ever the
unity of the country should be emphasized, sectional selfishness will
find no place in the taxation program, and that, should it be attempted
nevertheless, the congressional delegations of the States which would
be unjustly affected, would resist, regardless of party affiliations,
harmful discrimination against their constituents and their States.

I shall assume that it is not the purpose and intent of Congress, under
the guise of the necessities of the war situation, to embrace the
doctrines of Socialism.

Our present economic system, our present method of wealth distribution
may or may not stand in need of change; the fact remains that Congress
has no mandate to effect a fundamental change.

The consequence of such a change would be so immensely far-reaching
that no government has the right to sanction steps to bring it about
until the subject has been fully discussed before the people in all its
bearings and the people have pronounced judgment through a Presidential
or other election.

I will first state what in my opinion ought not to be done:




I


I take it that not many words need be used to expose the fallacy of the
argument, heard even in the Halls of Congress: "If men are to be
conscripted, wealth also must be conscripted."

_Men will be conscripted to the extent that it is wise and just and
needful. So, and no other, should wealth and the country's resources in
general be conscripted._

And, are not the children of the well-to-do conscripted equally with
the children of the poor?

Indeed, the proportion of the sons of the well-to-do on the actual
fighting line is bound to be a predominating one, because vast numbers
of wage workers in the industries and on the farms will necessarily
have to be retained at their accustomed vocations in order to maintain
the output of our factories and farms.

Have the children of the well-to-do been backward in volunteering? Were
they not, on the contrary, amongst the very first to offer to serve and
to fight?




II


_There appears to prevail amongst not a few people the strange delusion
that America's entrance into the war was fomented by moneyed men, in
part, at least, from the motive and for the purpose of gain._

_Were there any such men, no public condemnation of them could be too
severe, no punishment would be adequate. I am absolutely certain that
no such hideous and dastardly calculation found lodgment in the brain
of any American, rich or poor._

Moreover, is it not perfectly manifest that any rich man in his senses
must have known that his selfish interest was best promoted by the
continuance of the conditions of the last three years in which America
furnished funds and supplies to Europe at huge profits, whilst our
entering the war was bound to diminish those profits very largely
(indeed, to entirely eliminate some of them), to interfere with
business activity in many lines and to compel the imposition of heavy
taxes on wealth?

It is to the credit of our rich men that, though fully realizing the
extent of the monetary loss and sacrifices which war between this
country and Germany must necessarily bring to them, there were but very
few of them who supported the Peace-at-any-Price Party or favored the
avoidance of America entering into the war when it had become plain
that our participation in that war could not be avoided with honor and
with due regard for our duty to our own country, or to the cause of
right and liberty throughout the world.

Yet, somehow, the pacifists seem to have singled out the rich as mainly
responsible for the war.

It may be due, consciously or unconsciously, to a resulting feeling of
resentment that _the proposal to confiscate during the war all incomes
beyond a certain figure is actively promoted by leading pacifists_--a
proposal based upon ignorance of, or disregard for, the laws of
economics, teachings of history and practical considerations.

If any such scheme were to be adopted, the consequences to the country
at large would be far more serious than to the victims of the proposed
action.

If such a measure of outright confiscation were seriously apprehended,
at a time moreover and under conditions which are far as yet from
calling for extreme measures, capital would cease to flow in its
accustomed currents and some of it would seek other channels
legitimately open to it.

It would certainly cease flowing into constructive use and would
instead confine itself, to an extent at least, to municipal, state and
federal tax-exempt securities. Enterprise would be seriously hampered
and in some respects brought to a standstill entirely.

Many thousands of workmen would be thrown out of employment. Many
businesses and shops would close.

There would ensue, as a natural consequence and without any conscious
determination, a nation-wide strike of constructive activity and
enterprise in commerce and finance, because men will not look upon it
as a "square deal" if they are to take all the risk and responsibility,
all the hard work and ceaseless strain and care of business effort,
whilst the Government would _needlessly_ take from them an unduly large
share of the fruit of their labor, let alone all of it except an
arbitrarily fixed sum.

I say "needlessly" because, _were it really needed, business men would
willingly sacrifice their entire income for the country's cause._

They would work for patriotism, without any recompense whatever, just
as hard and harder than they do for gain or for ambition, if the
occasion required it.

But, of course, everyone knows that nothing remotely approaching such
drastic taxation is required in this country at this time.

It is absolutely right to proclaim and to enforce by legislation that
no man, as far as it is possible to prevent it, shall make money _out
of a war_ in which his country is engaged, but there is all the
difference in the world between that just and moral doctrine and
between the doctrine that no man shall be permitted to have more than
an arbitrarily fixed income _during_ a war.

If $100,000 or any fixed sum is the limit of what may be permissible
income during war time, why not by and by a lesser sum?

If the principle is once admitted, where will its application stop,
even in time of peace?

Why is not the proposed plan, or anything in the nature of that plan,
simply license for the materially unsuccessful to despoil the
materially successful?

History shows more than one instance where this road inevitably leads
to when once entered upon.

And who are our successful men? The vast majority of them are self-made
men who started at the bottom of the ladder.

It is trite to say that inequality of endowment and therefore
inequality of results in human beings, as well as in inanimate things,
is a law of nature. The capacity for creating, organizing, leading,
etc., in short, the possession of those qualities of brain and
disposition which beget success, is rare.

It is in the interest of the community, whilst carefully guarding and
fostering the rights, the opportunities and the well-being of all of
its members, to give liberal incentives to men possessing those gifts
to put them to active and intensive use. It is hardly open to doubt
that, generally speaking, the work of able men, engaged in serious and
legitimate business (I am not speaking of gamblers and parasites),
whilst naturally benefiting them, benefits the community a great deal
more.

The income of hospitals, orphan asylums, institutions of learning and
of art and many other altruistic enterprises depends largely upon the
voluntary taxation, aggregating a great many millions annually, to
which those men in America who have attained financial success have
always willingly submitted themselves--more so, probably than in any
other country.

Who is to take care of all of those institutions if extreme taxation
compels the rich to cease their contributions?




III


The arguments above set forth apply likewise, though naturally not
quite in the same degree, to the proposal of levying an income tax
rising to an excessively high level, as, for instance, the suggested
tax of fifty per cent. on incomes over $500,000.

There, again, the test should be whether so radical a tax is wise and
required by the necessities of the country.

The nations in Europe have been fighting for nearly three years and
have been under an infinitely greater financial strain than our country
is or will be, yet none of these nations have resorted to extreme
taxation of income.

_Even in Great Britain_, whose financial burden is the heaviest of all,
whose debt is many times the total of ours and who has loaned about
$5,000,000,000 to her Allies, the highest income tax rate, the maximum
percentage in the graduated scale of taxation, is to-day no more than
approximately forty per cent.

In the last budget, introduced a couple of weeks ago, the British
Chancellor of the Exchequer declined, so I am informed, to consider an
increase in the income tax rate, because of the damaging effect which
such increase would be apt to have on the country's business and
prosperity.

In France and Germany the burden laid on incomes is much lower than
in England. _In Canada_ where war loans have been raised equivalent
on the basis of comparative population to what would be more than
$10,000,000,000 for America, _no Federal Income Tax exists at all_.

I doubt whether this latter fact is generally known in this country and
whether its significance is receiving the measure of serious
consideration which it deserves.

I understand that it is the deliberate policy of the Dominion
Government to endeavor to avoid resort to an income tax in order to
attract capital to Canada.

There can be little question that if our income taxation is fixed at
unduly and unnecessarily high rates, whilst Canada has no or only a
very moderate income tax, men of enterprise will seek that country and
there will be a large outflow to it of capital in course of time--a
development which cannot be without effect upon our own prosperity,
resources and economic power.

The financial dislocation, the discouragement and the apprehension
caused by unduly heavy taxation of incomes will not only act as a drag
on enterprise and constructive activity, but will make it exceedingly
difficult, if not impossible, for corporations to sell securities in
sufficient volume and thus to obtain adequate funds to conduct their
business--especially also as investors will be fearful that high rates
of taxation once established will not easily be reduced to normal
levels, even when the present emergency is passed.

Extravagance, log-rolling, the unwise and inefficient expenditure of
money by governmental bodies are amongst the besetting sins of
democracy. The formula once found, the machinery once employed for the
raising of huge revenues, are apt to make the way of wasteful
governmental spending all too temptingly easy.

It must not be forgotten that taxation must necessarily by that much
diminish the surplus income fund of the individual and that both
theoretically and actually the spending of money by the government
cannot and does not have the same effect upon the country's prosperity
and enterprise as productive use of his surplus funds by the
individual.

The sentimental, and thereby the actual, effect of extreme taxation
will not be confined to the relatively small number of people in
possession of very large incomes. The disturbance and fear caused by
the contemplation of an excessively high ratio of taxation, even when
applied to a relatively few, is bound to spread to those also of more
moderate incomes.

Capital is proverbially timid. It will not take risks, except in the
expectation of commensurate reward, and if it sees the danger of its
reward being unduly infringed upon by excessively rigorous income
taxation, it will anticipate that menace by withdrawing from the field
of constructive investment to the greatest extent possible.

So much is this the case that I incline to the belief that _taxation so
graded as to result in a maximum average of say 33-1/3 per cent. would
produce at least as great a revenue as a maximum average of 50 per
cent_.

It is one of the oldest principles of taxation that an excessive impost
destroys its own productivity.

The flood of securities which would be coming for sale in order to
escape extreme income taxation would create a grave condition of
demoralization in the investment markets of the country, with the
resulting inevitable effect upon the country's general business, and
upon its capacity to absorb Government loans.




IV


The tax recently enacted by Congress imposing a burden of 8 per cent.
on business profits over and above 8 per cent. on the capital employed,
regardless of whether such profits have any relation to war conditions
or not, is unscientific and unsound.

(Incidentally, it is a strange provision of that law that it applies
only to co-partnerships and corporations, whilst an individual engaged
in business, however profitable, is not taxed.)

It is unquestionably right and in accordance with both good morals and
good economics, to prevent, as far as possible, the enrichment of
business and business men through the calamity of war.

But the recently enacted so-called excess profit tax which it is now
proposed to augment largely does not accomplish that. It taxes not
merely the exceptional profit, _i.e._, the war profit. It lays a burden
not on business due to war, but on all business.

It does this at a time when it is more than ever necessary that energy,
enterprise, efficiency, the commercial and financial brain and
work-power of the nation, be stimulated to their utmost in order to
make good, as far as possible, the waste and destruction which go with
war.

Any scheme of taxation which imposes an unnecessary burden upon
commercial enterprise and thereby handicaps the nation in its business
activities--especially in world competition with other nations--is
unsound and bound to be gravely detrimental, both to the business men
and still more to the wage-worker; in fact, to every element of the
population.

It is worth noting that England, the conduct of whose finances, based
upon the experience of many generations as the leading financial power,
has always been a model for other nations to follow, has imposed an
excess profit tax on business during the war _merely_ to the extent
that such profits are attributable to the war, _i.e._, to the extent
that they exceed the profits of normal years.

In principle, direct taxation of business activities should be avoided
as much as possible, apart from a _war profit excess_ tax.

Care should be taken lest the wealthy man least entitled to
preferential consideration, _i.e._, he who neither works nor takes
business risks or business responsibilities, be favored as against the
man who puts his brains, his capacities and his money to constructive
use in active business.

The idle man possessing capital, much or little, if he is so
constituted that his conscience permits him to evade his share of
monetary sacrifice, can put his money into tax-exempt securities. The
man of means who toils in business or a profession must pay a heavy
income tax, an excess profit tax, etc. To an extent this undesirable
differentiation is probably unavoidable, but it is neither fair nor in
the interest of the community that it be accentuated.




V


It seems to me so manifest as to hardly require argument that a
retroactive income tax, such as has been suggested, is wrong both in
morals and in economics.

If the foregoing reasoning is correct, these conclusions would seem to
follow:

1. There ought to be a substantial and progressive increase in the rate
of income taxation during the war, together probably with a lowering of
the existing limit of income tax exemption. I believe that in practice
the best result would be obtained if the rates of taxation were not to
exceed a scale producing from maximum incomes an average tax of 33-1/3
per cent., at any rate for the first year of the war.

A materially higher rate would not, in my opinion, yield a
substantially higher aggregate of revenue to the Government (if as high
an aggregate), while at the same time, if only for sentimental reasons,
and even though only applied to very large incomes, it would be apt to
cause financial dislocation and <DW44> business activity and
enterprise.

It would seem advisable that such portion of a person's income as is
devoted to charitable and kindred purposes should be, if not entirely
free from income tax, at least subject to a reduced tax only, so as to
counteract the tendency which experience has shown to follow in the
wake of heavy taxation, of greatly diminishing charitable
contributions.


2. There _ought to be an excess profit tax which might well be at a
considerably higher rate than the present 8 per cent., or even the
proposed 16 per cent._, but it should only be applicable to the extent
that business profits exceed the profits of say a certain average
period before the war and thus may justly be held to be attributable to
war conditions.

In determining the basis for calculating excess profits, an offset
which might be fixed at say 10 per cent. per annum, due consideration
being given to the question of depreciation and to special
circumstances, ought to be allowed on all new capital invested in
business since the beginning of the war.

I think for the purpose of figuring the excess profit tax the five,
four or three years _before America's entrance into the war_ would
probably form the most appropriate basis. The aggregate industrial
plant of this country, the entire scale and scope of our commerce and
its concomitants, have been so completely modified in the course of the
European war that a comparison which leaves out of account the years
1915 and 1916 does not seem to me to fit the case. I believe, both from
the point of view of economics and of public opinion, a tax of say 32
per cent. or even 40 per cent., or eventually, if needed, a still
higher percentage, calculated on a reasonably high average of earnings
(that is, an average including 1916) is preferable to a tax of 16 per
cent. or 20 per cent. on an inordinately low average.

I believe that as between the proposed 16 per cent. profit tax and an
_excess_ profit tax on the British model, at the rate of say twice that
figure--to begin with--the general consensus of opinion would consider
the latter as much the fairer, much the less cumbersome to handle and
collect, and much the less hampering upon business activities. Yet,
statistics seem to show that such an _excess_ profit tax would bring
in a far larger return than the proposed 16 per cent. profit tax. From
figures which were shown to me it would appear that a 40 per cent. tax
on excess profits over and above the average earnings for the past
three years would yield for the present year the amazing total of at
least $800,000,000 (in addition to the yield from the corporate income
tax taken at the rate of 4 per cent.).

These figures are based on the assumption that the aggregate profits
for 1917 will approximately equal those of 1916--a not unreasonable
assumption provided always that unscientific taxation or other unwise
measures do not destroy prosperity. (As a matter of fact, the profits
for the first half of 1917 are likely to exceed those for the same
period of 1916.) The three-year average was selected on the theory that
1914 was an exceedingly poor business year, 1915 was a year of fair
prosperity and in 1916 the full effect of our stupendous war business
had come to raise profits to an exceedingly high level.


3. There are very numerous forms of taxes, stamp-taxes, etc. (such as,
for instance, a 2 cent tax on checks), which, whilst they would mainly
fall on the well-to-do, would be in no way burdensome, and would
produce a very large aggregate of revenue.

What seems to me in principle a very sensible tax, has been suggested,
namely, _a tax on purchases_ (_i.e._, each single purchase) of all
kinds of merchandise (excepting foodstuffs, and probably raw material)
of one cent for each dollar or greater part thereof, exempting single
purchases of less than say five dollars.

This tax, _which should be paid by the purchaser_, would produce a very
large revenue. It would be borne mainly by the well-to-do, would be
more widely distributed than almost any other form of taxation and
would be felt but very little. It would be easily and cheaply collected
and would begin to accrue much sooner than most other taxes.


4. I am not convinced that the total amount which needs to be spent or
which as a matter of fact can be spent in the course of the year
requires so huge a sum to be raised by taxation as our legislators
appear to contemplate.

The policy of raising a large portion of war expenditures by taxation
is wise and sound. But to be iconoclastic in applying that policy, to
make that portion so large as to chill the spirit and lame the
enterprise of the country is neither good politics nor good economics.

The present has its rights as well as the future. Sacrifices should be
reasonably averaged. An annual sinking fund of 5 per cent. would
extinguish the war debt in fifteen years.


5. Democratic England under two Prime Ministers belonging to the
Liberal party has shown how huge amounts of increased revenue--much
greater relatively and greater even absolutely than are required in
this country during the first year of the war--can be obtained by
taxation without undue dislocation of the existing economic structure
and without banefully affecting the country's prosperity. While it
would not do for us to follow the English method of taxation in all
respects, it would seem the part of wisdom for us to profit from her
successful experience. And I hope it will not be deemed presumptuous if
I venture to suggest that it might not be amiss for our Government in
this connection to permit to the practical experience and judgment of
business men some recognized scope in the deliberations, as I
understand was freely done in England. I am entirely certain that the
spokesmen for the business community would give their time, their best
thought and their disinterested service to the task of co-operating in
devising a wise and fair scheme of taxation as fully, readily and
patriotically as they have done and are doing to the task of placing
the Liberty Loan.


6. In determining upon the scheme and detail of taxation, it should be
borne in mind that the intent of the proceedings is not punitive,
neither is it to apply practical Socialism under the guise of war
finance.

Taxation is a problem in mathematics and national economics. It cannot
be tackled successfully by hit or miss methods, or upon the impulse of
the moment. It needs to be approached "_sine ira et studio_" if the
best results are to be obtained for the country at large.

Congress and public opinion might well ponder the advice recently
cabled here by one of the leading financial writers in England: "You
should go slow in your tax plans. Too violent a financial dislocation
would be caused, unless taxation is most judiciously and scientifically
apportioned."

The desire to place the financial burden incident to war preponderantly
upon the wealthy is just and right, but even in doing things from
entirely praiseworthy motives, it is well to remember the old French
saying, that virtue is apt to be more dangerous than vice, because it
is not subject to the restraint of conscience.

                     *      *      *      *      *

Since this article was published, I have received several letters
stating that, owing to the excessively high cost of living and for
other reasons, men of small means could not afford and should not be
asked to bear additional taxation to any appreciable extent and that
therefore the proposed vast increase in the income tax is a necessity.

I fully agree with the premise, but not with the conclusion. Economics
are stubborn things and cannot be successfully dealt with emotionally.
I yield to no one in my sympathy for those who have to struggle to make
both ends meet and in my desire to see their difficulties lightened. I
quite agree that the financial burden of the war should be made to
weigh as little as possible upon the shoulders of the poor and those of
small means. Will a two-cent tax on checks be a burden upon the poor
and those of small means? Will a five-cent tax on single purchases
(excepting foodstuffs) of $5? Will an excess-profit tax on the lines
which I propose? The list of similar queries could easily be continued.

The present cost of living is undoubtedly alarmingly high. I believe
this condition of affairs, to a certain extent at least, could be
alleviated by appropriate measures and that every effort should be made
to that end. But a huge increase in the income tax and unwise business
taxation will not accomplish this. It will, in fact, rather accomplish
the opposite, apart from lessening employment.




LETTERS

I

The Income Tax


    Dear Sir:

    I fully agree with you in the principle of your conceptions of the
    duties of moneyed men towards the country. They must be willing not
    only to surrender such part of their income, indeed of their
    fortune, as the necessities of the country require, they must be
    ready not only to relinquish their affairs and to put their time,
    their energies, capacities and experience at the disposal of the
    Government in time of war, but they must be prepared to offer their
    very lives if the country calls for them. Those are the duties, of
    course, of every citizen, but they are doubly the duties of those
    who have won success. I am firmly convinced that capitalists as a
    class will not fail in them during the war.

    My article on war taxation was not written with any idea of
    questioning these manifest and uncontrovertible truths, but solely
    with the purpose of contributing to the discussion of the taxation
    proposals certain considerations which I believe to be well founded
    in economics and history no less than in experience and reason, and
    the disregard of which would be apt, I think, to lead to
    consequences gravely detrimental to the commonwealth.

    The question to which my article addressed itself was not what
    sacrifices capital should and would be willing to bear if called
    upon, but what taxes it was fair, reasonable and, above all, to the
    public advantage to impose on capital, seeing that there is a point
    at which the country's economic equilibrium would be thrown out of
    gear and at which the incentive to use capital constructively and
    productively and to take those business risks which are incident to
    all business activity, would be killed.

    I greatly regret if what I said on the subject of Canada being free
    from income tax gave the impression of being a suggestion for the
    evasion by wealthy men of taxation during the war. The fact that
    capital is not subject to income tax in Canada was, of course, well
    known to men of wealth. I thought it a point and a fact of
    sufficient importance as bearing upon our own taxation program to
    deserve to be made generally known. That this might be considered
    as either a suggestion or a threat of what capital might do during
    the war, never, I confess, entered my mind, _for it would, of
    course, be little short of treason for capital and capitalists to
    take advantage of Canada's propinquity while the war is on._

    You speak of the possibility of legislation to prevent this. If
    capital meant to leave the country to evade taxation, there would
    have been ample time and opportunity for it to do so during the
    past six weeks. The price of exchange would indicate if that had
    been done to any appreciable extent, and proves, as a matter of
    fact, that it is not being done. If it were being done, I quite
    agree with you that legislation should be sought to prevent it and
    to punish the attempt. But I am entirely certain that moneyed men
    will not think of evading whatever sacrifice may be required of
    them by their country under war conditions.

    What I meant to intimate in saying that capital and men of
    enterprise would seek Canada if there was no income tax, or only a
    moderate one, in that country, whilst America at this time imposed
    excessive and practically punitive income taxation, was this:

    Capital has a long memory. Capital is proverbially timid. I am not
    referring only to large aggregations of capital but to all capital.
    I am not referring only to the capital and capitalists of to-day,
    but to those who accumulate capital by practising thrift and to
    those who by invention, by conspicuous organizing or other ability,
    by originality of method, etc., are instruments in the creation of
    capital and will be, presumably, amongst the future owners of
    capital.

    The possessors of capital, present and future, would not easily
    forget if, in the very first year of the war capital in this
    country were to be taxed at far higher rates than prevail in any
    European country after three years of war. Even if such
    extraordinary taxation was removed at once, after the termination
    of the war, capital would remain disquieted by the fear that the
    machinery of excessively high income taxation, once used and found
    easy of motion, might be used again for purposes of a less serious
    emergency than now exists. Those seeking capital for other
    countries--_and there is bound to be a very keen contest for
    capital after the war_--would not fail to make use of these
    arguments. Moreover, experience has proved that very high rates of
    income taxation once adopted, are not easily reduced to the level
    from which they started.

    Therefore, in the case to which my argument was addressed, _i.e._,
    unduly high income taxation in this country and no, or only very
    moderate, income taxation in Canada, there can be little doubt that
    _after the war_ there would be an outflow of capital to Canada, and
    that--which is still more important--men of enterprise, especially
    young men, will be apt to seek in that and other countries, fields
    for their activities if the reward of enterprise is too greatly
    diminished in America as compared to what it is elsewhere. Such men
    would be doing nothing else than what many thousands of
    American-born farmers have done within recent years in transferring
    themselves, their capital and their working capacity to Canada.

    _Not a single one of the leading European nations, after three
    years of the most exhausting war, has an income taxation schedule
    as high as that adopted by the House of Representatives; neither
    Republican France, nor Democratic England, nor Autocratic Germany._
    Of these three countries, England has imposed the highest income
    taxation; yet, _the maximum rate in England is almost fifty per
    cent. less than the maximum rate in the House Bill. The Cabinets in
    these countries have undergone many changes in the course of the
    war. They include Socialists and Representatives of Labor._ In the
    determination of their taxation program, they have had the
    assistance of the best economic brains in Europe. Those nations
    have had far longer experience than we in the science of government
    financing.

    Yet not one of them has deemed it wise and advantageous to the
    state to impose rates of income taxation as high as those fixed by
    the House of Representatives. Surely, this fact and the economic
    considerations underlying it, are deserving to be seriously weighed
    by our legislators.

    Does not the attitude of all the leading countries plainly indicate
    their recognition of the fact that the action and reaction of
    excessive income taxation create a vicious circle from which the
    governments of all belligerent nations even in their extremity have
    shrunk?

    And is it not a manifest dictate of reason that such burden of
    taxation as must be borne should be imposed gradually, as was in
    fact done everywhere in Europe, so as to give to all concerned a
    chance to adjust themselves to the new conditions, and not with one
    violent jerk? England imposed her present rate of income and excess
    profit taxes not in the first year of the war, but started on a
    much lower scale and by successive steps, in the course of nearly
    three years, attained the figures now prevailing.

    We know that man and beast are capable of carrying far heavier
    weights if the strain is gradually increased than if the whole of
    the burden is dumped on their backs at once. The same holds good of
    economic strain.

    Is it not plain that if the unprecedentedly high income taxation of
    the House Bill--exceeding as it does any rates ever imposed by any
    of the leading nations of the world--is enacted into law, the
    Government will find itself crippled in respect of taxable
    resources during the second year of the war; the very year which,
    if the war does last beyond the present one, will presumably be the
    crucial period.

    Of course, the cost of the war must be laid according to the
    capacity to bear it. It would be fatuous folly and crass
    selfishness to wish it laid or endeavor to have it laid otherwise.
    All I am advocating in effect is that in the public interest not
    too much be exacted at once, but that by dividing the burden over a
    reasonable number of years, capital in no one year and especially
    not during the first year of the war, should be so excessively
    taxed as to produce an unscientific and dangerous strain.

    In addition to the concrete factors, there enter into this question
    certain psychological elements of a somewhat subtle character, but
    sufficiently definite and potent to be plainly discernible to those
    who are experienced in dealing with business affairs and with men
    of business, large and small.

    I believe an income tax greatly increased over the rates heretofore
    prevailing, yet keeping within the bounds of moderation, would
    produce at least as large a total revenue as an exceedingly high
    one. And the consequences of the economic error of placing too vast
    a burden direct upon incomes would be more serious, I think, to the
    people in general than to the individuals directly concerned. The
    question of the individual is not the principal one. The essential
    thing is that no undue strain be placed upon that great fund of
    capital as a whole which is derived from incomes of all kinds. It
    is this fund which in its turn is one of the vital forces necessary
    for the normal activities and progress of industry. If that fund is
    suddenly and too greatly reduced, the effect upon commerce and
    industry is liable to be abrupt and withering.

    I yield to no one in my desire to see the burden upon the poor and
    those of moderate means lightened to the utmost extent possible.

    I realize but too well that the load weighing at this time upon
    wage earners and still more perhaps upon men and women with
    moderate salaries is almost too great to be borne and certainly
    much greater than it should be. I wish a commission might be
    appointed, consisting of those best qualified in the entire
    country, to apply themselves to this most serious, difficult and
    complex problem, indeed to the entire problem of excessively high
    prices. I hope they would discover means, if not to remedy the
    situation entirely, at least to alleviate it.

    But I am convinced that relief cannot be found in taxation of
    incomes at rates without a parallel anywhere, and in unduly
    burdensome imposts upon business activities. I am convinced that
    certain theories being urged upon Congress and the people and to
    which the House War Revenue measure is in part responsive, while
    doubtless meant to tend and seemingly tending to a desirable
    consummation, are in fact bound, in their longer effect, to bring
    about results harmful to the community at large, rich and poor
    alike.

    It is only that conviction which has emboldened me to state my
    views publicly. In doing so I fully realized that I was running the
    risk of having my action misunderstood or misconstrued, and to be
    charged with selfishness and lack of patriotism.

    Yet, I feel certain that in the end just recognition of their
    motives will not be withheld from those who, in defiance of the
    fleeting popularity of the plausible, venture to point out the
    dangers of impetuous action, however well intentioned, in the
    present emergency, and to urge that moderation and that regard for
    the lessons of history and of economics which can be left aside
    only at the peril of the general welfare.

    Very faithfully yours,

    (_Signed_) OTTO H. KAHN

    P.S.--That you or any one else should even for a moment attach
    credence to the monstrous suggestion that capitalists fomented
    America's entrance into the war because they feared that otherwise
    the amounts loaned by them to the Allies might be jeopardized or
    lost, is a truly distressing manifestation of the willingness of
    some of our people--I trust not many--to believe evil of men simply
    because they have been materially successful.

Leaving aside the cruel injustice of such an imputation, it attributes
to moneyed men a degree of stupidity and of ignorance as to their own
interests, of which they are not usually held guilty.

America loaned to the Allied nations, prior to our entrance into the
war, roughly speaking, $2,000,000,000, of which sum all but a small
fraction was loaned to England and France.

These loans were made almost entirely in the shape of bond issues which
were widely distributed amongst individuals and institutions throughout
this country. Therefore, no very large portion of the aggregate is in
the hands of any one person or institution.

To any one acquainted with financial affairs it is absolutely
inconceivable that England or France would have defaulted on the
relatively moderate amount of their foreign debt, whatever might have
been the outcome of the war, if America had not joined.

Let us grant, for argument's sake, the wildly far-fetched supposition
that in one way or another their internal debt might have become
affected; it would still be utterly inconceivable that they would have
permitted a default in their foreign debt, because it is, of course,
suicidal for any nation to jeopardize its world credit.

But let us go still a step further and assume, in defiance of all
reason, that even this totally inconceivable thing were to have
happened. It would have meant, of course, not a total and irrecoverable
loss to the holders of obligations of the Allied countries, but merely
a more or less temporary shrinkage of the value of such holdings.

_A single year's war taxation will take out of the pockets of
capitalists a great deal more than they could possibly have lost
through depreciation in value of such amount of Allied bonds or loans
as they may hold._

If you add to these considerations the circumstance that, owing to the
intervention of our Government in financing and otherwise providing for
the Allies, the commissions and profits of those who have heretofore
dealt with the Allies will be largely cut off; that business will,
quite rightly, be subjected to a large excess profits tax; that capital
for years to come will have to pay increased taxes to provide for the
debt incurred through the war, for pensions, etc.; if you will reflect
on these and various other patent considerations, you will realize that
any rich man, fomenting for selfish reasons our entrance into the war,
would be a fit subject for the immediate appointment of a guardian to
take care of him and of his affairs.




II

_The Actual Return Upon Taxable and Tax-Exempt Securities_


    Dear Sir:

    Your letter indicates that you do not sufficiently realize the
    enormous advantage in interest yield which under the income tax
    schedule as fixed in the House Bill is possessed by tax-exempt
    securities as compared to taxable securities, especially, of
    course, in respect of large incomes.

    Permit me to call your attention to the following eloquent facts:

    The yield of tax-exempt securities at prevailing prices ranges from
    3-1/2% to nearly 4-1/2%. _Under the rates fixed in the War Revenue
    Bill as it passed the House of Representatives, a taxable 6%
    investment_ would yield:

                               PER ANNUM
        2.28% on incomes over $2,000,000
        2.34%  "    "     "    1,500,000
        2.40%  "    "     "    1,000,000
        2.69%  "    "     "      500,000
        2.97%  "    "     "      300,000
        3.26%  "    "     "      250,000
        3.54%  "    "     "      200,000
        3.90%  "    "     "      150,000
        4.20%  "    "     "      100,000

    Or, to put it in another way, the investment in 3-1/2% "Liberty
    Bonds" is thus equivalent to investing in a taxable security
    yielding:

                                          PER ANNUM
        9.21% in respect of incomes over $2,000,000
        8.97%  "     "    "     "     "   1,500,000
        8.75%  "     "    "     "     "   1,000,000
        7.82%  "     "    "     "     "     500,000
        7.07%  "     "    "     "     "     300,000
        6.45%  "     "    "     "     "     250,000
        5.93%  "     "    "     "     "     200,000
        5.38%  "     "    "     "     "     150,000
        5.02%  "     "    "     "     "     100,000

    The investment in, say, New York City Bonds, being tax-exempt, at
    their present yield of 4.20%, would represent the following rates
    of income as compared to investments in taxable securities:

                                           PER ANNUM
        11.05% in respect of incomes over $2,000,000
        10.76%  "   "     "     "      "   1,500,000
        10.50%  "   "     "     "      "   1,000,000
         9.38%   "   "     "     "      "    500,000
         8.48%   "   "     "     "      "    300,000
         7.74%   "   "     "     "      "    250,000
         7.12%   "   "     "     "      "    200,000
         6.46%   "   "     "     "      "    150,000
         6.02%   "   "     "     "      "    100,000

    Of course, all these figures hold good only for the period during
    which the proposed rates of income taxation would prevail. As the
    income tax rate decreases, the yield from tax-exempt securities
    diminishes proportionately.

    The volume of tax-exempt securities at present outstanding,
    including the new "Liberty Loan," is estimated at not less than
    $8,000,000,000.

    The ability of corporations to find a ready market for their
    securities is a prerequisite for the continuance of business
    prosperity or, indeed, of adequate business activity. I need not
    elaborate the effect which the comparison of the income yield from
    tax-exempt securities as against taxable securities under an
    excessively high income tax schedule--even if confined to larger
    incomes--must necessarily have upon the eligibility of corporate
    securities for investment purposes. The conclusion seems
    unescapable that the resulting degree of disinclination to invest
    in such securities coupled with the impulse to dispose of existing
    holdings would bring about liquidation, severe shrinkage of values
    and more or less pronounced demoralization in the investment
    market--a condition of things which could not fail in a measure to
    affect adversely the country's business in general, and which could
    only partially be counteracted by Government expenditures, however
    large.

    As to your observations concerning the principle of tax-exempt
    issues, I believe the Government acted wisely, considering all the
    elements of the situation, in making its first great war issue, the
    Liberty Loan, tax free. But in the face of the figures above
    quoted, the question naturally presents itself whether our
    traditional policy of making Government issues tax-exempt should
    not be discontinued, which, of course, would mean that a materially
    higher rate of interest than 3-1/2% would have to be paid for
    Government borrowing.

    In theory, it seems to me, there can be little doubt that the
    balance of arguments is against the tax-exemption of Government
    loans. As an abstract proposition little can be said, I think, in
    favor of a policy the effect of which gives an advantage to the
    rich and well-to-do, militates against the widest possible
    distribution of Government issues amongst the people, tends to
    facilitate Governmental extravagance by concealing the true cost
    and establishes a fictitious basis of national credit.

    Thus, for instance, on the $1,000,000,000, or thereabouts, which
    our Government has loaned to the Allies at 3-1/2% interest, it is
    losing money, because, whilst it nominally borrows this money
    through the Liberty Loan at 3-1/2%, the cost to it is actually
    considerably higher because it loses the revenue which would accrue
    to it from the income tax if the bonds were not tax-exempt.

    Let me add that I do not wish to be understood as suggesting that
    our Government should charge to the Allied Nations more than the
    nominal rate at which it is borrowing. They have been fighting
    these three years and bringing unheard of sacrifices for a cause
    which we have recognized to be ours no less than theirs, and if we
    loan them money somewhat below its actual cost to us that item
    weighs but very lightly in the scale, especially also if we
    consider the immense monetary profits which our country has reaped
    from the sale to them of munitions, material and supplies.

    However, as against the theoretical objections, some of which I
    have mentioned, to the tax-exemption of Government loans, there are
    certain "imponderabilia"--things which cannot be exactly
    weighed--in favor of a low rate of interest for Government
    borrowing, even if the lowness of the rate is to an extent
    fictitious. There are also certain practical reasons for the
    maintenance of our traditional policy, and various concrete facts
    which must be taken into account. For instance, there is the
    problem of how to deal with the situation that might result from
    the withdrawal of deposits from savings banks and similar
    institutions, which probably would be liable to occur in case the
    Government offered a bond issue at the higher rate it would have to
    fix if the inducement of tax-exemption were removed.

    There is the problem of the existence of billions of municipal and
    state securities which offer to the holder the privilege of freedom
    from municipal, state _and Federal_ taxes. I understand that it is
    the consensus of opinion of our leading lawyers that under the
    legal theory which treats such issues as "instrumentalities of
    government" that privilege cannot be abridged and that Congress has
    no constitutional power to tax state and municipal issues.

    If state and municipal issues to be made during war time retain the
    feature of being free from taxation, can the Federal Government
    afford to make its war loans taxable, and thereby place itself in a
    position where it would have to borrow under conditions which would
    put it and its credit at a disadvantage as compared to state and
    municipal issues?

    The problem is a complex one altogether and, like all economic
    questions, requires to be approached in a dispassionate spirit,
    giving due consideration to the reasons for and against. The temper
    of the stump speaker is not appropriate for dealing with taxation
    problems.

    Let me add, in conclusion, that I fully agree that it is "sheer
    fiscal stupidity" and "socially inexpedient as well" to permit
    "mushroom fortunes" to be built out of war profits. I believe there
    ought to be imposed a large excess war profits tax on the English
    model upon a fair and well conceived average basis of earnings so
    calculated as to take account of the vast difference in the
    country's industrial plant to-day and before the European war. Such
    a tax may not be entirely free from objections in theory, but from
    the social and moral point of view it is, I am convinced,
    thoroughly sound and proper and called for. Appropriate taxation of
    excess profits, together with an adequately though not exorbitantly
    heavy income tax would go a long way to prevent the enrichment of a
    class through the calamity of war, without at the same time
    affecting wages or laming the enterprise and business activities of
    the country.

    Yours very truly,

    (_Signed_) OTTO H. KAHN





End of the Project Gutenberg EBook of War Taxation, by Otto H. Kahn

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