CHAPTER XI

INTANGIBLE OR PSYCHIC INCOME AND

INCOME IN KIND

THE British treat as taxable income the annual value of a house occupied by its owner. As a rule they do not regard as taxable income the annual value of living quarters furnished rent-free to an employee. An exception to this latter rule is in the case of an employee who has the right to let the premises to a third party.3 Officers of the Crown, however, who receive as part of their compensation the use of a house, tenement or apartment belonging to the Crown, other than apartments in royal palaces, are subject to income tax on the annual value thereof.4

In the United States the reverse is true in each case. A taxpayer occupying his own house is not regarded as deriving any taxable income from that house. On the other hand, if he receives the use of living quarters as part of his remuneration, the annual rental value of such quarters is a part of his taxable income. 5

The British have been consistent in this regard since the inception of their income tax, and the practical effect of the United States Civil War income tax laws and all subsequent income tax Acts has been to make them similarly consistent in their treatment of such intangible or psychic income. In regard to the annual value of houses occupied by owners there was at the time of the passage of the Civil War laws

1 Income Tax Act, 1918, Schedule A.

2 Tennant v. Smith, [1892] A.C. 150.

3 Corke v. Fry (1895), 3 T.C. 335; 325 S.L.R. 341.

4 Income Tax Act, 1918, Schedule A, No. VII, Rule 11.

5 The United States law specifically exempts from the income tax the rental value of a dwelling-house furnished to a minister of the gospel as part of his compensation (Revenue Act of 1926, Section 213 (b) (11)).

and the 1894 Act considerable agitation for the adoption of the British plan. Since 1913 there has been little, if any, such demand, and the Americans are apparently quite satisfied with their practice. The attempt to include the annual value of houses occupied by owners as income under the Wisconsin State income tax law was given up after a few years' trial.

The British and the United States conceptions of income agree that income must be money, or something capable of being turned to pecuniary account. This definition must be somewhat stretched to include the annual value of a house occupied by the owner. Similarly in the United States if it is to include the value to an employee of living quarters. True, in the former case the owner can turn it into money by letting the house at an annual rental, but in the latter case this is usually just what the employee cannot do.

"

The United States Supreme Court has defined "income as "the gain derived from capital, from labour, or from both combined, provided it be understood to include profit gained through a sale or conversion of capital assets." 3 The British courts would probably agree with this definition except for the proviso and except that the gain must be annual. Applying this definition, it seems possible to include the annual value of a house in which the owner resides. It is a gain from capital. But the same definition would include many things which the conception of neither country would admit as taxable income. Once we depart from the idea that income must be an actual tangible receipt that has a definite money value, there is, in theory, no reason for failing to include a great deal of other psychic or intangible income in addition to the annual value of an owner's residence or employee's living quarters. In the one case there is a gain derived from the investment of capital, in the other a gain from labour. But in neither case

Tennant v. Smith, [1892] A.C. 150; U.S. v. Schillinger, 14 Blatchf. U.S. 71, 27 Fed. Cas. No. 16228.

The United States law, however, taxes compensation for personal services " in whatever form paid " (Revenue Act of 1926, Section 213 (a)) 3 Eisner v. Macomber, 252 U.S. 189, and cases therein cited.

is there any real tangible income. There is nothing but a circumstance which makes it unnecessary for the taxpayer to expend certain amounts for a residence which he would otherwise have to spend. In a sense, the situation is analogous to a scheme which would tax a resident of Florida on the difference between the small amount he has to expend on fuel and the amount a resident of Maine has to spend for his fuel. The flaw in this analogy is that the resident of Florida has not usually expended any capital to place himself in the situation in which he does not require fuel.

In the broadest sense, the sunshine, the air, beautiful views and good climate constitute sources of psychic income. Unlike the annual value of a house, they cannot be accurately and easily measured in terms of money, and a man cannot pay his taxes in terms of sun or air. The line must be drawn somewhere, and it is drawn on lines of convenience and practicability rather than on lines of pure reason. Otherwise the annual value of a taxpayer's furniture, clothes, automobile, etc., could just as well be taxed as the annual value of his residence. Similarly a tax could be imposed on the annual value of diamonds owned by an individual. The annual value could be fixed at a percentage of their capital value. It will be said that the possession of diamonds does not relieve one of the necessity for making any payments for necessaries as in the case of the ownership of a house. But, then, many taxpayers could live in much more modest houses than they do, and the fact that a house is regarded as a necessity and diamonds as a luxury does not vitiate the argument. Luxury is a matter of degree and of mental attitude. What is a luxury to one man may well be a necessity for another. Money has little or no value except for the satisfactions it can purchase, and, if the satisfactions in which a man invests his capital have a determinable annual value, there seems no reason for not treating such annual value as taxable income. Houses are the only ones of these satisfactions that are not easily concealed, and are readily valued, and which it is worth while to value in view of their revenue-yielding possibilities. Granted that the annual value of an owner-occupier's

house can be readily valued in terms of money, can that value be treated as income under the faculty theory of taxation? Has he more ability to pay because of his ownership and occupation of his house? Suppose A has earned income of £2,000 and capital of £10,000 invested at 5% and yielding £500 per annum. He occupies a house for which he pays a rent of £300 per annum. His annual income after paying his rent is £2,200. B has also £2,000 earned income and capital of £10,000, of which £6,000 is invested in a house in which he lives. The house has an annual value of £300, i.e. the same as A's house. The remaining capital is invested at 5% and yields him £200 per annum. His income is £2,200 with no rent to pay. It is difficult to see any difference in the tax-paying ability of A and B. Their incomes and capital are exactly the same. A chooses to pay rent, while B has preferred to own his own house. Under the faculty theory of taxation B should pay income tax on the annual value of his house.

In the United States, A's taxable income would be £2,500, while B's would be £2,200. The law gives a decided advantage to those who own their houses and live in them themselves. If B has left £5,000 of the purchase price of his house on mortgage at 5% he will be in even better circumstances under the United States law. The annual interest on his mortgage will amount to £250, and all interest paid by a taxpayer is an allowable deduction from his gross income. His taxable income will be £1,950, or £550 less than A's, whose taxable capacity is really no greater. Undoubtedly the two men should be taxed on the same amount of income.

No faulty reasoning or economic injustice is involved in the British practice. Whether the United States fails to tap this source of revenue because of incorrect reasoning, or because it shrinks from the administrative difficulty in making the necessary valuations, is not apparent. It is true that the initial administrative burden would be very heavy. At the same time the revenue would be large. Rates of income tax are now much lower in the United States than they have been since the United States entered

the war, and there is no great need for Congress to open up new sources of revenue. During the war, and for the few years that followed it, the Bureau of Internal Revenue had a heavier burden than it could well manage in administering a comparatively new income tax law at rates that made good administration essential. Had the valuation of houses already been made, it would have added very little to the duties of the Bureau. In future years, when the need for large revenue is not present and rates of tax are low, it might be advisable to amend the law to include this source of income so that, if need arose, it would give the Government this additional possibility of increasing its revenues.

One reason assigned for the difference in treatment of such income by the British and American laws is that the Americans have not developed the conception of annual value to the same extent as have the British; that the American thinks in terms of capital values, and, if necessary, derives annual value therefrom, while the British mind works the other way. This is undoubtedly true, but it scarcely seems a convincing reason. The Americans have had little difficulty in adjusting their minds to such ideas of annual value as are necessitated by the imposition of the income tax law, and if they should become convinced that the British practice is right no particularly violent upheaval of ideas will be required. The process of changing one's point of view from capital value to annual value is really not a particularly difficult one. It is probable that the education in the conception of annual value given by the income tax laws will in time bring the Americans round to the British point of view.

On the other hand, no justification can be found for the failure of the British to include as taxable income to him the annual value of living quarters furnished to an employee. The theory is that such annual value cannot be turned into money. But it can be valued in terms of money, and represents an addition to the taxable capacity of the employee.

See Stamp, Fundamental Principles of Taxation, p. 32. See also Chapter IX. Tennant v. Smith, [1892] A.C. 150.