Senator BYRD. What I want to discuss with the committee is that part of the resolution which provides for the taxation of the compensation received by Federal employees by a State government in which any such employees may reside, and the taxation by the Federal Government of the compensation received by employees or officers of a State government or subdivision thereof. At the present time, as the committee knows, all compensation paid to employees or officers by the Federal Government is exempt from taxation by any State, and any compensation paid by a State or political subdivision thereof is exempt from taxation by the Federal Government. For example, my salary as United States Senator is exempt from the State income tax of Virginia of 3 percent, which amounts to $300 a year. The salary of the Governor of Virginia is exempt from the Federal income tax.

I do not think I need present any argument before the committee to sustain the contention that where an employee is subject to the State or Federal Government, he should be subject to exactly the same rate of taxation as the individual. If an individual has an income sufficient to bring him under the Federal income tax, he is required to pay that tax, and if in the succeeding year he should sustain a loss he has no opportunity to offset one against the other. As long as the employee holds his job, he receives his compensation regularly.

From the best figures I can obtain, there are approximately 1,500,000 on the pay roll of the United States Government that are exempt from all State income taxes. They are exempt from taxation in any one of the 32 States that impose a State income tax. There are also approximately one million persons employed by the Federal Government who are likewise exempt from such taxation, if they reside in any State that imposes a State income tax. The information about State and local employees is not definite, but from the best sources I can ascertain there are approximately 4,891,000. Of course, many of those are in brackets that would not be taxed, because they are below the exemptions allowed by the Federal Government, but many of them who are in the upper brackets are completely immune from taxation by the Federal Government.

Whether you desire to consider these two propositions together or separate is a question upon which I should like to have the advice of the committee. I recognize that in the taxation of compensation received by employees there are some conditions that do not apply to the taxation of county and State employees, and the same is true with reference to the taxation by States or political subdivisions thereof of employees of the Federal Government. I am not a lawyer, and the committee will have to determine the constitutionality of the question, but I would like to call attention to a pamphlet prepared by the Joint Committee on Internal Revenue Taxation entitled "The Taxing Power of the Federal and State Governments." Upon page 60 of this pamphlet appears the following statement:

In 1870 the Supreme Court, in an opinion rendered by Mr. Justice Nelson in Collector v. Day, made it clear that this prohibition was reciprocal in character and that, therefore, Congress has no power under the Constitution to tax State officers or employees.

So far as I have been informed, there has been no further decision rendered by the Supreme Court upon this question.

A reliable estimate as to the revenue derived is difficult to obtain, but my best judgment is that it would be substantial. If all the employees of the States, municipalities, counties, and other political subdivisions thereof were subject to taxation by the Federal Government, I am sure the increased revenue from these 32 States would be very substantial. Many of the Federal employees live in these States and are now exempt from taxation. I would like to have the opportunity to present to the committee later on some additional information on the amount of revenue that would be derived, and also to have the experts for the Joint Committee on Internal Revenue Taxation to prepare a statement on the legality and necessity for a constitutional amendment. I am informed by them that they think a constitutional amendment is necessary to permit the Federal Government to tax employees of States and political subdivisions thereof, and likewise to permit the States to tax the income of employees of the Federal Government.

At this time the rate of taxation is the highest the American people have ever known. I say that advisedly, because we know, first, that our expenditures today are three and one-half times what they were during the prosperous years from 1920 to 1930. In those years the Federal Government expended an average of $3,000,000,000 a year, and we are now on a basis of seven and one-half billion dollars. Prior to the World War we spent about $1,000,000,000 a year. All of us must concede that in a very short time we must not only balance the Budget but we must begin to pay back that great debt that has been created since 1930 of approximately $20,000,000,000. From 1920 to 1930 we paid on the debt we incurred in the World War at the rate of $1,000,000,000 a year. If we now balance the Budget and duplicate what was done in that period it will take 20 years to get back to the $16,000,000,000 debt that existed on December 31, 1930. We must recognize that for many years a most terrific rate of taxation and indebtedness has rested upon our people.

I am unwilling to see the most-favored class of our citizens, those who are upon the regular pay roll of the State and Federal Governments, totally exempt from the income tax. I hope the committee will give careful consideration to it, and at another meeting I would like to supplement what I have said this morning.

Senator VAN NUYS. We will be glad to give you that opportunity. I see you provide for ratification by legislatures. Do you have any definite ideas about that?

Senator BYRD. No.

Senator VAN NUYS. At the last meeting of the full committee we decided to put in this language:

This article shall be inoperative unless ratified by conventions of the several States within 7 years from the date of submission to the States by the Congress.

Senator BYRD. That is satisfactory to me. I expect to introduce another amendment with respect to the taxation of revenue from nontaxable bonds, so the committee can consider that question. These present two different questions. I am heartily in favor of the resolution introduced by Senator Lonergan.

STATEMENT OF C. F. STAM, ESQ., COUNSEL FOR THE JOINT COMMITTEE ON INTERNAL REVENUE TAXATION ·

Senator VAN NUYS. Do you have any observations you care to submit, Mr. Stam?

Mr. STAM. Mr. Chairman, I do not know that I have anything in particular to submit. There has been some discussion about working out something in the way of legislation covering tax-exempt securities and the salaries of State employees. As Senator Lonergan pointed out, there is a possibility of an excise tax being imposed upon incomes from all sources, including income from State securities, although some doubt has been expressed as to whether the courts would sustain such legislation.

There is another possibility. The State of New Jersey some years ago attempted to levy an inheritance tax on a nonresident, and in measuring the rate of tax applicable to property within the State, the New Jersey authorities took into account property outside the State. The New Jersey tax was first ascertained on the entire estate of the nonresident, covering his property both within and without the State. The tax was then apportioned and assessed in the proportion that the taxable New Jersey estate bore to the entire estate. Thus, if the property located in New Jersey was alone considered, the rate might be only 2 percent, but if all of the property was considered, the rate to be applied to the taxable property might be 3 percent. The Supreme Court upheld that New Jersey statute in Maxwell v. Bugbee (250 U. S. 525). By such a method, we might be able to combine the tax-exempt income with the taxable income of the taxpayer to determine the rate to apply to the taxable income. In other words, those owning tax-exempt securities would be taxed at a higher rate on their taxable income than those who did not own any such securities. Of course, this plan would not reach the case where the taxpayer had no other income than his income from tax-exempt securities.

Senator AUSTIN. That would call for a standard of equality quite different than heretofore has been used, would it not?

Mr. STAM. That is true, but we have that decision of the Supreme Court in the New Jersey case which seems to lean toward that view. When Senator Glass was Secretary of the Treasury I understand he made some sort of recommendation to the Congress along that line; but nothing ever developed out of it.

So far as tax-exempt securities are concerned, the Pollock cases (157 U. S. 429; 158 U. S. 601), which was decided before the sixteenth amendment, appear to be the latest cases in which the Supreme Court specifically held we could not tax the income from tax-exempt securities. After the 1894 act was declared unconstitutional, the revenue acts beginning with this 1913 act have exempted the incomes of State securities from taxation by the Federal Government. Therefore, the Court has really never had the opportunity to pass directly upon the question after the Pollock cases. It passed indirectly upon the question in the case of the National Life Insurance Co., (277 U. S. 508).

Senator AUSTIN. That was in a Vermont case?

Mr. STAM. That is right.

Senator AUSTIN. Do you not think it would be better for Congress to deal with this matter of taxing property now nontaxable by the

direct and open method instead of trying to reach it in a rather covert manner?

Mr. STAM. I think so. However, from a practical standpoint, it might be impossible to get the States to ratify a constitutional amendment. It might take some time. Of course, in the meantime, Congress might take some action like imposing an excise tax.

In reference to the question of State employees, they were specifically exempted from the income tax on their salaries until the Revenue Act of 1918 was enacted, when this exemption was removed, but no special provision directly taxing them was inserted, although this act, as well as subsequent acts, has a general provision taxing income from all sources. Only the other day the Supreme Court handed down a decision in which it reaffirmed the theory that we have no right to tax the income of State employees. That was on a question of whether a certain employee was engaged in the exercise of essential governmental functions. It held he was and therefore his income was exempt from taxation.

Senator VAN NUYS. Has a memorandum been submitted of the case you have mentioned?

Mr. STAM. I think we have those cases.

Senator VAN NUYS. I think they ought to be placed in the record. (The memoranda referred to are here set forth in full, as follows:) MEMORANDUM OF COLIN F. STAM, COUNSEL, JOINT COMMITTEE ON INTERNAL REVENUE TAXATION

TAXATION OF SALARIES OF STATE EMPLOYEES

The Supreme Court has held that the Federal Government has no authority to subject the salaries of State officers or employees engaged in governmental functions to a Federal income tax, and the State governments have no authority to subject the salaries of Federal officers and employees to a State income tax. This prohibition does not arise from any express provision of the Federal Constitution. It originated from the doctrine of the famous case of McColloch v. Maryland (4 Wheat. 352), decided by the Supreme Court of the United States in 1819. In that case, Chief Justice Marshall, who rendered the opinion, held that the State of Maryland could not impose a stamp tax on notes issued by the Bank of the United States under the broad principle that the power to tax is the power to destroy. This principle was specifically extended to Federal officers and employees in 1842 in the case of Dobbins v. Commissioners (16 Pet. 435). Chief Justice Marshall was no longer on the bench at the time the opinion was rendered in the Dobbins case, having died in 1835. This opinion was rendered by Mr. Justice Wayne.

The facts were that Daniel Dobbins, a captain of the United States Revenue Service, was in command of the United States revenue cutter Erie in the Erie station in Pennsylvania. He was rated and assessed as a citizen and resident of Erie County for county taxes upon his office as captain of the United States Revenue Cutter Service. The question before the court was whether he was liable to be rated and assessed for his office under the United States for county rates and levies. The Supreme Court held that the tax was invalid as it was not competent for the legislature of a State to levy a tax upon the salary or emoluments of an officer of the United States. The decision was placed upon two grounds: (1) The officer was a means or instrumentality employed for carrying into effect some of the legitimate powers of the Government, which could not be interfered with by taxation or otherwise by the States, and that the salary or compensation for the service of the officer was inseparably connected with the office; that, if the officer as such, was exempt, the salary assigned for his support or maintenance while holding the office was also, for like reasons, equally exempt. (2) The compensation of an officer of the United States is fixed by a law made by Congress. Any law of a State taxing such compensation cannot be constitutional, because it conflicts with a law of Congress made in pursuance of the Constitution and which makes it the supreme law of the land.

In 1870, the Supreme Court in an opinion rendered by Mr. Justice Nelson in Collector v. Day (11 Wall. 113), made it clear that this prohibition was reciprocal in character and that, therefore, Congress has no power under the Constitution to tax State officers and employees. In that case, the Federal Government assessed an income tax levied under the act of 1864 against the salary of J. M. Day, a judge of the Court of Probate and Insolvency for the County of Barnstable, Mass. The salary was fixed by law and payable out of the treasury of the State. Day paid the tax and brought suit to recover. In holding the tax unconstitutional, the Supreme Court relied upon the case of McCulloch v. Maryland and the Dobbins case, already cited. Its argument may be summed up by the following statement taken from the opinion:

"It is admitted that there is no express provision in the Constitution that prohibits the General Government from taxing the means and instrumentalities of the States, nor is there any prohibiting the States from taxing the means and instrumentalities of that Government. In both cases, the exemption rests upon necessary implication, and is upheld by the great law of self-preservation; as any government, whose means employed in conducting its operations is subject to the control of another and distinct government, can exist only at the mercy of that government. Of what avail are these means if another power may tax them at discretion?"

All subsequent decisions of the Supreme Court regard this question as settled by the Dobbins case and the Day case, referred to above. The sixteenth amendment, in giving Congress the power to levy a tax on incomes from whatever source derived, has been held by the Supreme Court not to extend the taxing power to any new class of subjects. Eisner v. Macomber (252 U. S. 189); Evans v. Gore (253 U. S. 245); Peck & Company v. Lowe (247 Ù. S. 165); Brushaber v. Union Pacific Railroad Company (240 U. S. 1, 36). Therefore, the Court still relies upon the cases referred to as authority for the conclusion that neither the Federal Government nor the States can tax the salaries of the officers or employees of the other.

All of the recent cases involve the question of whether the taxpayer was a State officer or employee or whether the State in employing such taxpayer was engaged in the exercise of an essential governmental function. For instance, in Metcalf & Eddy v. Mitchell (269 U. S. 514), decided January 11, 1926, consulting engineers engaged to advise States and subdivisions with reference to water and sewerage projects were held to be not State officers or employees, but independent contractors, and, therefore, subject to Federal income tax. And in Lucas v. Reed (281 U. S. 699), decided on May 5, 1930, it was held per curiam that an attorney especially engaged by a State to handle a tax controversy was not an officer or employee of the State. In Helvering v. Powers, decided by the Supreme Court on December 3, 1934, it was held that the operation of a street railway was not an essential governmental function of a State and that the compensation of the officers and employees of such railway company was, therefore, not exempt from income tax by the Federal Government. The operation of State liquor dispen-saries has also been held to be nonessential governmental functions in the cases of South Carolina v. United States (199 U. S. 437), and Ohio v. Helvering (292 U. S. 360).

On January 4, 1937, in an opinion rendered by Mr. Justice Sutherland in the case of State of New York v. Graves, it was held that the salary of the general counsel for the Panama Railroad Co. was not subject to taxation by the State of New York, as the Panama Railroad Co. was a wholly owned instrumentality of the United States, engaged in maintaining, operating, and protecting the Panama Canal, the company being utilized to carry into effect the substantive powers granted to the Federal Government under the Constitution.

In a decision rendered by Mr. Justice Sutherland on March 15, 1937, the Supreme Court held that the salary of a chief engineer of the bureau of water supply of the city of New York was not subject to the Federal income tax on the ground that the water system of the city was created and is conducted in the exercise of the city's governmental functions. Mr. Justice Stone and Mr. Justice Cordoza concurred in this opinion, and Mr. Justice Roberts and Mr. Justice Brandeis dissented. In the dissenting opinion written by Mr. Justice Roberts, the following statement is made:

"The importance of the case arises out of the fact that the claimed exemption may well extend to millions of persons (whose work nowise differs from that of their fellows in private enterprise) who are employed by municipal subdivisions and districts throughout the Nation and that, on the other hand, the powers of the States to tax may be inhibited in the case of hundreds of thousands of similar employees of Federal agencies of one sort or another. Such exemptions from taxa