The First Income Tax

In 1863, the federal government collected the first income tax. This graduated tax was similar to the income tax we pay today. Those who earned $600 to $10,000 per year paid at a rate of 3 percent. A higher rate was paid by those who earned in excess of $10,000. A flat-rate tax was imposed in 1867. Five years later, in 1872, the national income tax was repealed altogether.

Spurned on by the Populist Party's 1892 campaign, Congress passed the Income Tax Act of 1894. This act taxed 2 percent of personal income that was more than $4,000, which only affected the wealthiest citizens. The income tax was short-lived, as the U.S. Supreme Court struck it down only a year after it was enacted. The justices wrote that, in their opinion, the income tax was unconstitutional because it failed to abide by a Constitutional guideline. This guideline required that any tax levied directly on individuals must be levied in proportion to a state's population.

In 1913, the income tax became a permanent part of the U.S. government. Congress avoided the constitutional roadblock mentioned above by passing a constitutional amendment. The 16th Amendment reads, "The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration." The 16th Amendment gave the government the power to levy taxes on individuals regardless of state population. The Underwood Tariff Act of 1913 included an income-tax section that initiated the system we use today. During World War II, the federal government began withholding taxes, also known as the pay-as-you-earn taxation system. This gave the government the steady flow of money needed to finance the war effort.