"The courts have consistently maintained that the power of Congress to levy and collect taxes does not extend to the taxation of State and municipal bonds.2 All agents and instruments of the State are exempt from the taxing power of the Federal Government. If they may be taxed lightly, they may be taxed heavily; if justly, oppressively. A municipal corporation is a representative of the State and a portion of its governmental power. As a portion of the State its revenues like those of the State, are not subject to taxation. A tax upon income derived by a municipal corporation is a tax upon the power of the State and its instrumentalities to borrow money and in consequence repugnant to the Constitution of the United States. Bonds issued by the State or under its authority by its public municipal bodies are means for carrying on the work of the Government and are not taxable even by the United States.5 "The States have no power to tax the instrumentalities of the United States Government. To do so would in effect be to give the States a revenue out of the revenue of the United States. A State tax upon the securities of the United States, however small, tends to interfere with the constitutional power of the Government to borrow money on the credit of the United States and constitutes a burden upon the operations of government.7 All subjects over which the sovereign power of a State extends are objects of taxation. The sovereignty of a State does not extend to means employed by Congress to carry into execution powers conferred by the people of the United States. The people have conferred the power of borrowing money on their Government. The grant of the power is incompatible with a restraining power. The right to tax the contract to any extent when made must operate upon the power to borrow before it is exercised and is a burden on the operations of government. It may be carried to an extent which shall arrest them entirely.8 "The power to tax is the power to destroy. If the right to impose a tax exists, it is a right which in its nature acknowledges no limits. "A State may not tax its own bonds which were exempt from taxation at the date of issue without impairing the obligation of contract. Nor is it possible for a State to repeal a statute granting such exemption. 10 "The United States are not included within the constitutional prohibition which prevents States from passing laws impairing the obligation of contracts; but when the United States has entered into a contract which grants partial or complete exemption to holders of its own securities, these terms cannot honorably be repudiated.12 "Congress has the power to authorize any new loan in taxable or in tax-exempt bonds or to refund outstanding bonds at maturity in either manner. It has been strongly urged that this mode of taxing public bonds be employed rather than to resort to constitutional amendment, because no government ever ought to relinquish its power to issue tax-exempt bonds in great emergenices such as war. 13 "Alexander Hamilton strongly opposed issuing taxable public bonds. In his report on public credit, 1795, he said the taxable bonds would cost more than they were worth. "A tax-exempt bond finds ready market. It does not have to compete with industrial bonds. It is therefore issued at a lower rate of interest and sold relatively higher than taxable bonds. This difference in price and interest is believed by some to make up for more than the amount that would be collected in taxes. In fact, it is a tax collected at the source, from which there is no possible evasion or concealment and no cost of collection. Taxing Federal bonds would be a matter of taking money out of one pocket and putting it into another if the tax were perfectly administered and assessed and collected without cost. But the experience of the Treasury Department has been that there is considerable evasion of income taxes. "The rate of interest on a taxable bond would have to be at least high enough to insure to the investor a profit over present tax rates. But in order to market 2 Collector v. Day, 11 Wall. 113 (1870), 127; Pollock v. Farmers' Loan & Trust Co., 157 U. S. 429 (1895), 584, 608; 158 U. S. 601, 630. 3 United States v. Railroad Co., 17 Wall. 322 (December term, 1872), 327, 328, 329. Pollock v. Farmers' Loan & Trust Co., 157 U. S. 429 (1895); 158 U. S. 601. Mercantile Bank v. New York, 121 U. S. 138 (1887), 162. • Bank of Commerce v. New York City, 2 Black, 620 (1862); Lane County v. Oregon, 7 Wall. 71 (December term, 1868); Hamilton Co. v. Massachusetts, 6 Wall. 632. 7 Macallen Co. v. Massachusetts, 279 U. S. 620 (1929), 624. McCulloch v. Maryland, 4 Wheat. 316 (1819); Weston v. City Council of Charleston, 2 Peters, 449, 468; Home Insurance Co. v. New York, 134 U. S. 594 (1890), 598. McCulloch v. Maryland, 4 Wheat. 316, 431; Weston v. City Council of Charleston, 2 Peters, 449, 466. 10 New Jersey v. Wilson, 7 Cranch, 164 (1812), 167; State Bank of Ohio v. Knoop, 16 Howard, 369 (December term, 1853), 380; Macallen v. Massachusetts, 279 U. S. 620, 634. 11 S. Doc. 154, 68th Cong., 1st sess, p. 285. 12 Tax Burdens and Exemptions, National Industrial Board, p. 122. 13 Tax-Exempt Securities, Senate hearings, 1922, p. 102. taxable bonds they would have to bear a rate of interest to insure the investor against any possible increase in the tax rate, both Federal and State, during the life of the bond.14 "If any measure were taken to issue taxable Federal bonds while allowing the States to continue to issue exempt bonds, the Federal Government would be at a disadvantage in seeking a market for its securities.15 "If both Federal and State Governments cease to issue exempt bonds, as contemplated in several proposed amendments to the Constitution, the disadvantage would lie with the government having the larger outstanding issues, which would be a source of revenue to the lesser debtor without compensation to itself. In raising this point in opposition to taxable bonds, it is generally assumed that it will work a hardship upon State and local governments, which have a continuous burden of school and other construction, while the Federal debt may in normal times be expected gradually to diminish. Moreover, those States that have no income tax law would derive no revenue from the taxation of bonds. Local governments such as municipalities, school districts, drainage, and irrigation districts could never hope to derive any benefit from taxable bonds and at the same time they would bear the burden of meeting a high rate of interest on their own bonds. It has been said that the necessity of refunding bonds at the high rates necessary to market taxable bonds would leave half of the municipalities of the country bankrupt. It is not improbable that many public works would have to be abandoned.16 "The ability to issue tax-free bonds has enabled large municipalities to free their citizens from the exploitation of corrupt public utilities corporations. To be deprived of the privilege of issuing tax-exempt bonds for such purposes might make municipal ownership of public utilities difficult or impossible. At any rate the private corporations have strongly favored curtailing the privilege of issuing tax-exempt bonds.17 The fact that Federal farm-loan bonds were tax free lightened the burden of farm mortgages.18 In the event of great disasters such as fire, flood, or earthquake, much of the success of reconstruction depends upon the economical administration of large loans. 19 The "Any attempt to issue taxable bonds would greatly disturb the market. holders of present issues of exempt bonds would find their bonds enhanced in value.20 "Unless new issues were authorized it would be a long time before any revenue would flow to the Treasury. On the contrary, there might be great loss of revenue by reason of the efforts of State and local governments to issue exempt bonds to meet their needs for several decades ahead during the interval when any proposed amendment were pending.21 In estimating the revenue to be derived from taxable bonds, the fact that educational, charitable, and other institutions whose property is exempt from taxation are fairly large holders of Government bonds, must not be overlooked.22 "To prohibit further issues of tax-exempt bonds would work a hardship against the new States as compared with the old States which have had a hundred years in which to develop their resources with tax-exempt bonds.23 "The increased expenditures of State and local governments is not due to extravagance fostered by the privilege of issuing tax-free bonds. Few public works were undertaken during the World War and the increased cost of labor and materials after the war necessitated great expense to the local government.24 "The issue of taxable bonds would increase the tax burden of those citizens who are not bondholders. When bonds are tax exempt the tax is paid by the bondholder. When bonds are taxable the added cost in interest and in collecting the tax and the loss due to concealment of bonds distributes a burden to all taxpayers.' "25 14 Alexander Hamilton, Report on the Public Credit, 1795; Magazine of Wall Street, vol. 32, p. 1091; C. O. Hardy, Tax-Exempt Securities and the Surtax, pp. 84-86; CONGRESSIONAL RECORD, 67th Cong., 4th sess., pp. 2255, 2277; Senate hearings, 1922, pp. 24, 45, 97. 15 Wall Street Journal, Nov. 12, 1927, p. 11; National Industrial Conference Board, op. cit., p. 122; House hearings, 1922, p. 11. 16 Senate hearings, p. 23; CONGRESSIONAL RECORD, 67th Cong., 4th sess., p. 2277; National Industrial Conference Board, p. 111. 17 House hearings, 1922, p. 36. 18 CONGRESSIONAL RECORD, 67th Cong., 4th sess., p. 2277. 19 Ibid., p. 1247. 20 New York Times, Feb. 12, 1933, sec. 2, p. 7. 21 National Industrial Conference Board, p. 122; CONGRESSIONAL RECORD, 67th Cong., 4th sess., p. 2277; House hearings, 1922, pp. 8, 9. 22 Wall Street Journal, Nov. 12, 1927, p. 11. 23 CONGRESSIONAL RECORD, 67th Cong., 4th sess., p. 2277. 24 Hardy, p. 131. 25 Magazine of Wall Street, vol. 32, p. 1091. EXHIBITS TO REPORT OF SENATOR LONERGAN IN SUPPORT OF HIS PROPOSALS TO TAX INCOME OF FUTURE ISSUES OF SECURITIES Now CLASSED AS EXEMPT EXHIBIT A.-Income tax on individuals—Present and proposed taxes MARRIED PERSON WITH INCOME FROM SALARY, BUSINESS, OR WHOLLY TAXABLE |