Revenue Act of 1913: Income Tax, Tariff Cut, and Who Paid

The Revenue Act of 1913, signed by President Woodrow Wilson on October 3, 1913, did two things at once: it created the first permanent federal income tax under the newly ratified Sixteenth Amendment, and it cut average tariff rates from roughly 40 percent to around 27 percent. The income tax imposed a 1 percent “normal tax” on individual net income above generous exemptions, added a graduated surtax that brought the top combined rate to 7 percent, and applied a flat 1 percent tax to corporate net income. Because the personal exemption was set so high, fewer than 1 percent of Americans owed anything when the law took effect.

Why Congress Could Finally Tax Income

An earlier federal income tax had been struck down in 1895. In Pollock v. Farmers’ Loan & Trust Co., the Supreme Court held that taxes on income from property were direct taxes and therefore had to be apportioned among the states by population, a rule that made a uniform national income tax practically impossible.¹

The workaround took nearly two decades. Congress passed the Sixteenth Amendment on July 2, 1909, and it was ratified on February 3, 1913. Secretary of State Philander Knox certified it on February 25, 1913, giving Congress the “power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States.”² With the constitutional obstacle gone, Congress folded income tax provisions into a broader tariff reform bill, codified at 38 Stat. 114.³

How the Income Tax Was Structured

The law built the tax in two layers. A flat 1 percent “normal tax” applied to all net income above the exemption. On top of that, a graduated “additional tax,” commonly called a surtax, applied to higher incomes in six brackets:

1 percent on net income between $20,000 and $50,000
2 percent on net income between $50,000 and $75,000
3 percent on net income between $75,000 and $100,000
4 percent on net income between $100,000 and $250,000
5 percent on net income between $250,000 and $500,000
6 percent on net income above $500,000

Combined with the 1 percent normal tax, the highest earners paid a top rate of 7 percent. Those dollar thresholds represented substantial wealth in 1913. The Tax Policy Center estimates the $3,000 personal exemption alone was worth more than $70,000 in today’s dollars, so the surtax cutoffs reached into what would now be hundreds of thousands or millions.⁴

Who Actually Paid

Every individual filer received a $3,000 personal exemption, and only income above that line was taxable. Married couples living together received a combined $4,000 exemption, with only one deduction allowed per household. The first returns were due “on or before the first day of March nineteen hundred and fourteen.”⁵

Typical annual wages in that era were several hundred dollars, so a $3,000 threshold left the vast majority of workers untouched. The National Archives records that less than 1 percent of the population paid income tax when the system launched.² IRS historical data confirms that single-person exemptions stood at $3,000 and married-couple exemptions at $4,000, and that for roughly thirty years the tax reached only high-income households.⁶ The design was intentional. Congress wanted the new tax to backfill lost tariff revenue without touching ordinary wage earners.

What Filers Could Deduct

The tax fell on net income, not gross earnings. Filers could subtract business expenses incurred in producing income, interest paid on personal debts, taxes paid to state and local governments, losses from fires, storms, and shipwrecks not covered by insurance, and debts that had become genuinely uncollectible.

These categories still track the itemized deduction framework in the current Internal Revenue Code, which organizes personal deductions along nearly identical lines.⁷ Taxpayers were also expected to keep records supporting every figure on the return, marking the first time the federal government required ordinary citizens to document their personal finances.

The Corporate Tax and Dividends

The act imposed a flat 1 percent tax on corporate net income, replacing an earlier excise tax that had applied only to corporations earning above $5,000 per year. Dividends received special treatment. Corporate earnings were taxed once at the corporate level, and when those earnings were distributed as dividends, shareholders did not owe the 1 percent normal tax on them. Shareholders did still owe the graduated surtax on dividend income if their total income was high enough to trigger it.⁴ This was an early congressional attempt to address double taxation of corporate profits.

Withholding at the Source

The 1913 act did not rely on voluntary annual filing alone. It required anyone who controlled “fixed or determinable annual gains, profits, and income” belonging to another person to withhold enough to cover the normal tax before passing the money along.⁵ Employers, banks, and other institutions deducted tax from wages, interest, rents, and annuities at the point of payment. The mechanism proved cumbersome and was dropped in later revenue acts, leaving individual taxpayers to calculate and pay their own tax each year for about three decades.

Penalties

Anyone who made a false statement to claim an exemption they were not entitled to faced a $300 penalty. Unpaid tax remaining after June 30 of any year drew a 5 percent surcharge on the outstanding balance plus 1 percent monthly interest.⁵ A deliberately false return carried a maximum fine of $2,000 under the act’s fraud provision. Enforcement fell to the Bureau of Internal Revenue, the predecessor of today’s IRS.

The Tariff Cut

The income tax was only half of the law. The other half, known as the Underwood-Simmons Tariff, produced the first major reduction in customs duties since before the Civil War, dropping average rates from roughly 40 percent to around 27 percent across hundreds of categories of imported goods. The act also placed a long list of raw materials and agricultural goods on a “free list” that entered the country duty-free, including agricultural implements, raw chemicals, and various industrial inputs.⁸ Lower duties on food and clothing were intended to reduce prices for ordinary families, and the new income tax on the wealthy was meant to make up the lost federal revenue.

How the Law Shifted Federal Revenue

Before 1913, the federal government ran mainly on consumption taxes. From 1868 to 1913, 90 percent of federal revenue came from taxes on liquor, beer, wine, and tobacco, supplemented by customs duties. The 1913 act began to change that, though slowly at first. In fiscal year 1913, customs duties brought in $309 million against just $35 million in income tax receipts. By 1914, income tax revenue had roughly doubled to nearly $72 million, while customs still dominated. Between 1914 and 1917, only about 2 percent of American households paid any income tax.⁹

World War I forced the real shift. Wartime spending pushed Congress to raise rates and cut exemptions, and the income tax passed tariffs as the dominant source of federal revenue.

What Happened After 1913

The 7 percent top rate lasted only three years. The Revenue Act of 1916 repealed the 1913 statute and raised rates to fund military preparedness. By 1918, the top marginal rate had climbed to 77 percent, and lower exemptions pulled millions of previously untaxed households into the system. The architecture from 1913 carried forward: the normal-tax-plus-surtax structure, the deduction categories, the annual return, and the corporate income tax all survived into successor laws and eventually into the modern Internal Revenue Code.

1
Architect of the Capitol. Pollock v. The Farmers’ Loan and Trust Company
2
National Archives. 16th Amendment to the U.S. Constitution: Federal Income Tax
3
Congress.gov. U.S. Constitution – Sixteenth Amendment
4
Joint Committee on Taxation. History of Exemption of Dividend Income Under the Individual Income Tax
5
GovTrack. Revenue Act of 1913 – 38 Stat. 114
6
Internal Revenue Service. Personal Exemptions and Individual Income Tax Rates, 1913-2002
7
Office of the Law Revision Counsel. 26 U.S.C. Part VI – Itemized Deductions for Individuals and Corporations
8
U.S. Congress. Revenue Act of 1913
9
EveryCRSReport.com. U.S. Federal Government Revenues: 1790 to the Present