CHAPTER I THE INCOME TAX There are now in effect two Federal Income Tax laws. One is the Act of September 8, 1916 and the other the Act of October 3, 1917. The former imposes the regular or ordinary income tax and the latter the War income tax. The Act of October 3, 1917 is supplementary to the Act of September 8, 1916. One of its provisions is that it shall be administered according to the method by which taxes are assessed under the Act of September 8, 1916. It imposes new taxes upon individuals and corporations but in its enforcement the Government will rely upon the system inaugurated under the old law, and both new and old laws will be administered together. In any study of the practice and policy adopted by the Government in the taxation of income the primary consideration is, therefore, an understanding of what has been done under the Act of September 8, 1916. There are a few points of difference between the two laws, but very few. The personal exemption is lowered by the Act of October 3, 1917, and the War income tax is made applicable, as far as individuals are concerned, only to those persons who are citizens or residents of the United States. More persons are subjected to the additional, or super, tax, and corporations are given certain privileges with respect to assessment of the War income tax that they do not enjoy under the assessment of the Regular or ordinary income tax. But the differences will be explained and taken care of in the computation. The important consideration now is that the administration of the Act of September 8, 1916 must be understood if either an indìvidual or a corporation expects to be able to take advantage of the rights allowed by law and to meet the obligations imposed. For this reason Income Tax instructions will be based almost entirely upon practice under the Act of September 8, 1916, which is still the principal income tax law with the War income tax serving, as it were. only to bring more persons under this system of taxation and make the incomes of those who have not heretofore enjoyed exemption bear a far heavier part of the country's tax burden. It is thought that the question of one's income tax liability (as either individual or corporation) can be ascertained by consulting the appropriate chapters, paragraphs or parts of the general income tax instructions that follow. Wherein any of such instructions do not apply to the War Income Tax is explained in the chapter on “War Income Tax." Only one return will be required of any individual or corporation for the assessment of income tax under both laws. The computation must, therefore, take cognizance of the rates imposed by both laws. And in order that the general scheme of computation of tax liability, according to the schedules of both laws, may be understood at the outset, a condensed version of it is given and illustrated in the next succeeding chapter. CHAPTER II THE INCOME TAX COMPUTATION OF INCOME TAX UNDER BOTH LAWS. There follow condensed instructions for computing both an individual and a corporation income tax under the rates of both Income Tax laws now in effect (Act of September 8, 1916 and Act of October 3, 1917.) All of the points in this chapter are explained in more detail elsewhere in this book under appropriate headings. It is not expected that instructions relative to the treatment of net income can be followed until the meaning of "net income," according to the law and regulations and Treasury Department practice, is understood-until the taxpayer will have submitted his own particular case to the definitions, explanations and illustrations given in succeeding chapters. But in order that the taxpayer may have in mind from the outset an administration of the two income tax laws together the combined computation is outlined here. Reference should be made back to this chapter as other chapters or paragraphs are consulted. 1.—WHAT IS MEANT BY "NET INCOME." The first thing to be understood is what is meant by “net income," as the phrase is used in the law. Many persons have their own ideas regarding that part of income which is "net," but these ideas will have to be laid aside if they do not agree with the significance of the term as used in the statute. The net income of either an individual or a corporation is the difference between total gross income and the aggregate of certain specified deductions. The net income of an individual is the difference between total gross income and the aggregate of deductions allowed for business expenses, taxes, interest, bad debts, losses and certain gifts to charitable, religious or educational organizations. Net income is ascertained before account is taken of any other credit allowed in the subsequent computation of tax. The net income of a corporation is, likewise, the difference between total gross income and the aggregate of allowable deductions— such deductions, in the case of a corporation, being for ordinary and necessary business operating expenses, losses, interest, and taxes. The result at this point is net income, within the meaning of the law, before account is taken of any other credit that may be considered later in computing tax liability. 2. THOSE WHO MUST FILE RETURNS. Under the operation of both laws a return must be filed by (a) Every individual who is a citizen or resident of the United States, and who, if single, has a net income of $1,000 or more, or, if married, a net income of $2,000 or more, for the Calendar year. (b) Every alien who is not a resident of the United States. and who has a net income from sources within the United States amounting to $3,000 or more for the Calendar year. (c) Every domestic corporation, whatever the amount of its income, and even though it have none, except those of a character specifically exempted. (See "Corporations Exempt.") (d) Every foreign corporation (subject to same exemption as to character) of its income from sources within the United States. (e) Certain estates, as explained in appropriate paragraphs. (See index). 3.-ONE RETURN UNDER BOTH LAWS. Only one return of income will be required by the Government from either an individual or a corporation. Upon the basis of net income shown by this one return total tax liability will be ascertained according to the rates imposed by both the old law (Act of September 8, 1916) and the new law (Act of October 3, 1917.) 4.-COMPUTATION OF INDIVIDUAL TAX. The income tax liability of an individual who is a citizen or resident of the United States will be ascertained, in general, as follows: (1) Determine Net Income. Determine net income by subtracting from gross income the total of allowable deductions. By "deductions" are not meant the credits allowed for dividends, income taxed at the source, the specific exemption and the amount of Excess Profits tax assessed for the same year. By "deductions" are meant only the allowances for business expenses, taxes, interest, losses, bad debts, depreciation, depletion and gifts to certain organizations. (2) Credit for Excess Profits Tax. Credit net income, ascertained as just explained, with the amount of Excess Profits Tax assessed for the same year. The result, at this point, is the only basis of assessment of any income tax. (3) Get Normal Tax Basis. Ascertain basis of computation of the normal tax by taking credit for that part of net income represented by dividends from corporations, if any. Dividends in the hands of an individual are not subject to the normal tax. (4) Ascertain Exemption. Next ascertain the specific exemption allowed under both the new law and the old law-$1,000 for a single person and $2,000 for a married person or the head of a family, with an additional allowance of $200 for each dependent child, under the new law; and $3,000 for a single person and $4,000 for a married person or the head of a family, with an additional allowance of $200 for each dependent child, under the old law. (5) Compute Normal Tax. Next compute normal tax as follows: (a) At the new law rate of 2 per cent on the amount in excess of $1,000 and not in excess of |