With the passing of Marshall and the accession of Taney as Chief Justice a new chapter opened in the history of the Court. The Federalists had become extinct. Andrew Jackson had come into power and it had fallen to his lot to fill a majority of the seats upon the bench by appointments to vacancies. The result was at once apparent. Two cases involving important constitutional questions, which had been argued during Marshall's lifetime but assigned for reargument on account of a division in the Court, were now decided contrary to Marshall's known views and in favor of a strict construction of national powers. Justice Story, Marshall's longtime associate on the bench, dissented strongly in both cases, lamenting the loss of Marshall's leadership and the change in the viewpoint of the Court.
[Footnote 1: Mayor of New York v. Miln, 11 Peters, 102; Briscoe v. Bank of Kentucky, 11 Peters, 257, decided in 1837.]
It would serve no useful purpose to enter upon a detailed consideration of the various decisions upon constitutional questions made during the twenty-eight years of Taney's Chief Justiceship. They were marked by great diversity of views among the members of the Court. In some of them, notably the famous Passenger cases, the Court fell into a state reminiscent of the confusion of tongues that arose at the building of the Tower of Babel. The scope of certain of Marshall's decisions was limited. Upon the whole, however, the structure of constitutional law which Marshall had reared was not torn down or greatly impaired. The national supremacy was upheld. Taney and his associates were for the most part patriotic men and eminent lawyers, proud of the Court and its history and anxious to add to its prestige. It is regrettable that the merits of some of them have been so obscured and their memory so clouded by a well-meaning but unfortunate excursion into the field of political passions. In the Dred Scott case they thought to quiet agitation and contribute to the peace of their country by passing judgment upon certain angrily mooted questions of a political character. The effort was a failure and brought upon their heads, and upon Chief Justice Taney in particular, an avalanche of misrepresentation and obloquy.
[Footnote 1: 7 Howard, 283 (1849).]
[Footnote 2: Not always for the worse: vide the Charles River Bridge case, 11 Peters, 420, imposing salutary restrictions on the doctrine of the Dartmouth College case.]
[Footnote 3: Dred Scott v. Sandford, 19 Howard, 393 (1857).]
The suppression of the Great Rebellion brought an enormous increase in the national power and in the popular will to national power. State rights did not loom large in the popular or the legislative mind in reconstruction days. Taney was dead. The Supreme Court had been practically reconstituted by appointments made by President Lincoln and his immediate successors and it seems to have been anticipated that the new Court would take the view of national powers prevailing in Congress and the country at large. In this the popular expectation was doomed to disappointment. The Court displayed an unexpected solicitude for the rights of the states and firmness against federal encroachment. Chief Justice Salmon P. Chase, who had been President Lincoln's war Secretary of the Treasury, went so far as to pronounce unconstitutional some of his own official acts performed under the stress of war.
In the great case of State of Texas v. White the rights of Texas as a sovereign state were asserted, though Texas had joined in the Rebellion and was not represented in the national legislature.
[Footnote 1: 7 Wall., 700 (1869).]
In The Collector v. Day it was held that Congress had no power to tax the salary of a state official.
[Footnote 1: 11 Wall., 113 (1871).]
In the Slaughter House cases an act of the Legislature of Louisiana, granting to a corporation created by it exclusive rights to maintain slaughter houses for the City of New Orleans and other territory, was upheld, as a valid exercise of state police power, against claims that the legislation violated rights secured under the newly adopted amendments to the Federal Constitution (Amendments XIII, XIV, XV). The opinion of the Court delivered by a Northern judge (Miller of Iowa) stands as one of the bulwarks of state authority.
[Footnote 1: 16 Wall., 36 (1873).]
In a series of later cases various reconstruction acts of Congress involving encroachments upon state rights were either held unconstitutional or radically limited in their effect. For example, the decision in United States v. Cruikshank greatly limited the effect of the so-called Federal Enforcement Act. The decision in United States v. Harris declared unconstitutional portions of an act of Congress designed for the suppression of activities of the Ku-Klux variety. In the so-called Civil Rights cases certain provisions of the federal Civil Rights Act, passed in furtherance of the purposes of the new constitutional amendments and designed to secure to persons of color equal enjoyment of the privileges of inns, public conveyances, theatres, etc., were held unconstitutional as an encroachment on the rights of the states.
[Footnote 1: 92 U.S., 542 (1875).]
[Footnote 2: 106 U.S., 629.]
[Footnote 3: 109 U.S., 3.]
These are but a few of the many decisions of the Supreme Court in the reconstruction period upholding the rights of the states against attempted federal encroachment arising from the conditions of the Civil War. The nation owes a debt of gratitude to the men who composed the Court at this time for their courage and firmness in the face of popular clamor and passion.
The solicitude of the Court for the rights of the states did not end with the reconstruction period. It has continued down to the present day. In the Income Tax cases the Court held that a tax upon income from bonds of a state municipal corporation was repugnant to the Constitution as a tax upon the borrowing power of the state.
[Footnote 1: Pollock v. Farmers Loan & Trust Co., 157 U.S., 429 (1895).]
In Keller v. United States the Court declared unconstitutional, as an encroachment on the police power of the states, an act of Congress making it a felony to harbor alien prostitutes, the Court declaring that "speaking generally, the police power is reserved to the states and there is no grant thereof to Congress in the Constitution."
[Footnote 1: 213 U.S., 138 (1909).]
In the Child Labor case the Court held the federal Child Labor Law of 1916 unconstitutional as invading the police power reserved to the states. The Court said:
This Court has no more important function than that which devolves upon it the obligation to preserve inviolate the constitutional limitations upon the exercise of authority, federal and state, to the end that each may continue to discharge, harmoniously with the other, the duties entrusted to it by the Constitution.
[Footnote 1: Hammer v. Dagenhart, 247 U.S., 251 (1918).]
[Footnote 2: An even stronger assertion of state rights is found in the Child Labor Tax Case (Bailey v. The Drexel Furniture Co.) decided May 15, 1922, after this chapter had been put into print.]
How is it then, someone may ask, if the Supreme Court is so zealous in defense of the rights of the states, that those rights are being encroached upon more and more by the National Government? The answer must be that there has been a change in the popular frame of mind. The desire for uniformity, standardization, efficiency, has outgrown the earlier fears of a centralization of power. Congress has found ways, under the constitutional grants of power to lay taxes and regulate interstate commerce, to legislate in furtherance of the popular demands. The Court is not strong enough (no governmental agency which could be devised would be strong enough) to hold back the flood or permanently thwart the popular will. In a government of the people everything has to yield sooner or later to the deliberate wish of the majority.
Some profess to view the recent encroachments of federal power as a triumph of the principles advocated by Alexander Hamilton and John Marshall over the principles of Thomas Jefferson. Such a claim does Hamilton and Marshall an injustice. While they both stood for a strong National Government, neither of them contemplated any encroachment by that government on the principle of local self-government in local matters or the police power of the states.
Marshall in one of his most powerful and far-reaching pronouncements in support of the national supremacy speaks of
that immense mass of legislation, which embraces everything within the territory of a state not surrendered to the General Government;... inspection laws, quarantine laws, health laws of every description ... are component parts of this mass.
[Footnote 1: Gibbons v. Ogden, 9 Wheat., 1, 203, 208.]
Later in the same opinion he refers to
the acknowledged power of a state to regulate its police, its domestic trade, and to govern its own citizens.
... The power of regulating their own purely internal affairs whether of trading or police.
Hamilton devotes an entire number of the Federalist to combatting the idea that the rights of the states are in danger of being invaded by the General Government. In another place he returns to the idea
that there is greater probability of encroachments by the members upon the federal head, than by the federal head upon the members
and concludes that it is to be hoped that the people
will always take care to preserve the constitutional equilibrium between the general and the state governments.
[Footnote 1: Federalist, Number XVII.]
[Footnote 2: Id., Number XXXI.]
That hope has failed of realization. The "constitutional equilibrium" of which Hamilton wrote is not being preserved. Some will say that this is an age of progress and we are improving upon Hamilton. Others, however, think we are forgetting the wisdom of the Fathers.
THE FEDERAL TAXING POWER AND THE INCOME TAX AMENDMENT
Had the World War come five years earlier the United States would have been much handicapped and embarrassed in financing its share of the struggle. One of the chief sources of national revenue during and since the war, the income tax, would not have been available. The federal income tax had been declared unconstitutional by the Supreme Court in 1895, and it was not until eighteen years later that the obstacle pointed out by that decision was removed through the adoption of an amendment to the Constitution. The Sixteenth or Income Tax Amendment was proposed by Congress to the legislatures of the several states in 1909 and took effect, having been ratified by three-fourths of the states, in 1913. Declared by its sponsors at the outset to be intended merely as a recourse in case of emergency, the tax authorized by the amendment was at once put into operation and there seems to be little likelihood that it will ever be abandoned.
Without the constitutional amendment no general income tax would be practicable. And yet the amendment conferred no new power of taxation on the National Government. To explain this seeming paradox it will be necessary to consider briefly the scope and limitations of the federal taxing power.
One of the chief defects, perhaps the most vital defect of all, in the Confederation which carried through the Revolutionary War and preceded the Union, was its inability to raise revenue directly by taxation. The Confederation was obliged to call upon the several states to furnish their respective contributions or quotas, and requisitions upon the states encountered delays and sometimes were ignored altogether. There were no effective means of compulsion.
With these facts before them the founders of the Union determined that the new government should not be wrecked upon this rock at any rate, and therefore insisted, against great opposition, in conferring upon it powers of taxation which were practically unlimited in their reach. The Constitution was made to provide that
the Congress shall have power to lay and collect taxes, duties, imposts and excises, to pay the debts and provide for the common defense and general welfare of the United States.
[Footnote 1: Const., Art. I, Sec. 8, Clause 1.]
The only tax which Congress was expressly forbidden to lay was a tax on exports. It was, however, provided that indirect taxes (duties, imposts, and excises) should be uniform throughout the United States, and that direct taxes should be apportioned among the states according to population. The last mentioned provision was a concession to the fears of the wealthier states lest their citizens be taxed unduly for the benefit of the poorer states, and represented one of the great compromises by which the ratification of the Constitution as a whole was secured.
[Footnote 1: Const., Art. I, Sec. 9, Clause 5.]
[Footnote 2: Id., Art. I, Sec. 8, Clause 1.]
[Footnote 3: Id., Art. I, Sec. 2, Clause 3. Sec. 9, Clause 4.]
The Constitution nowhere specified just what taxes were to be deemed "direct" (Madison in his notes of the Constitutional Convention records: "Mr. King asked what was the precise meaning of direct taxation? No one answd.") or what kind of uniformity was intended by the provision that indirect taxes should be uniform, and more than a century was to elapse before either of these fundamental questions was finally settled. The answer to the latter question (that the term "uniform" refers purely to a geographical uniformity and is synonymous with the expression "to operate generally throughout the United States") was given by the Supreme Court in the year 1900 in the celebrated case of Knowlton v. Moore, and met with general approval. The answer to the question of what constitutes a direct tax within the meaning of the Constitution, given by the Supreme Court in 1895 in the Income Tax cases, met with a different reception. The decision upset long-settled ideas, disarranged the federal taxing system, aroused popular resentment, and ultimately led to the enactment of the Sixteenth Amendment.
[Footnote 1: Farrand, "Records of the Federal Convention," Vol. II, p. 350.]
[Footnote 2: 178 U.S., 41.]
[Footnote 3: Pollock v. Farmers Loan & Trust Co., 157 U.S., 429.]
The question had arisen early in the life of the Republic in the case of Hylton v. United States, decided in 1796. This litigation involved the validity of a tax on carriages which had been imposed by Congress without apportionment among the states. Alexander Hamilton argued the case before the Supreme Court in support of the tax. The Court adopted his view and sustained the tax, holding that it was a tax on consumption and therefore a species of excise or duty. The Justices who wrote opinions expressed doubt whether anything but poll taxes and taxes on land were "direct" within the meaning of the Constitution. That point, however, was not necessarily involved and was not decided, though later generations came to assume that it had been decided.
[Footnote 1: 3 Dallas, 171.]
The tax on carriages was soon repealed and many years elapsed before the question came up again. After the Civil War broke out, however, the need of revenue became acute and various statutes taxing income without apportionment among the states were enacted by Congress. These met with general acquiescence. It was felt that they were emergency measures necessitated by the war, and they were in fact abandoned as soon as practicable after the war. A well-known lawyer, however (William M. Springer of Illinois), did not acquiesce and refused to pay his income tax, on the ground that it was a direct tax not levied in accordance with the Constitution. In the action brought to test the question it appeared that the income on which Mr. Springer had been taxed was derived in part from the practice of his profession as an attorney. To this extent it was clearly an excise or duty, i.e., an indirect tax. As it was incumbent upon Mr. Springer, by reason of the form of the action, to demonstrate that the tax was void in toto the Court could not do otherwise than decide against him. In rendering its decision, however, the Court took occasion to discuss the question as to what were direct taxes within the meaning of the Constitution, and expressed the view that the term included only capitation or poll taxes, and taxes on real estate. There the matter rested until the year 1894 when Congress enacted another income tax law. This time the argument from necessity was lacking. The country was in a state of profound peace. Opposition to the tax among the moneyed interests was widespread. Test suits were brought and after most elaborate and exhaustive argument and reargument the Hylton and Springer cases were distinguished and the act was held unconstitutional. The decision was by a closely divided Court (five to four), the majority finally holding that "direct taxes" within the meaning of the Constitution included taxes on personal property and the income of personal property, as well as taxes on real estate and the rents or income of real estate. This conclusion was fatal to the act. It was conceded that the tax, in so far as it affected income derived from a business or profession, was an indirect tax and therefore valid without apportionment among the states, but the provisions for taxing the income of real and personal property were held to be an essential part of the taxing scheme invalidating the whole statute.
[Footnote 1: Springer v. United States, 102 U.S., 586.]
[Footnote 2: Pollock v. Farmers Loan & Trust Co., 157 U.S., 429; same case on rehearing, 158 U.S., 601.]
This momentous decision was almost as unpopular with Congress and the general public as the decision in Chisholm v. Georgia had been a hundred years earlier. Many legislators were in favor of enacting another income tax law forthwith and endeavoring to coerce the Court, through the force of legislative and popular opinion, to overrule its decision. Calmer counsels prevailed, however, and plans were initiated to get over the difficulty by a constitutional amendment. Meanwhile, steps were taken to eke out the national revenue by various excise taxes, notably the so-called Federal Corporation Tax. This novel tax, which was thought by many to involve a very serious encroachment by the Federal Government on the powers of the states, will be discussed more at length in later chapters.
[Footnote 1: See Chapters X and XI, infra.]
The constitutional amendment as proposed by Congress and ratified by the states provided:
"The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration."
Thus far we have dealt only with such limitations upon the federal taxing power as are expressly imposed by the Constitution. As has been seen, the only express limitations are that direct taxes shall be apportioned among the states, that indirect taxes shall be uniform, and that exports shall not be taxed at all. There are, however, certain other limitations which we proceed to notice briefly.
The Constitution provides that the compensation of federal judges "shall not be diminished during their continuance in office." There is a similar provision as to the compensation of the President. No attempt seems to have been made to tax the compensation of federal judges prior to 1862. A statute of that year subjected the salaries of all civil officers of the United States to an income tax and was construed by the revenue officers as including the compensation of the President and the judges. Chief Justice Taney, the head of the judiciary, wrote the Secretary of the Treasury a letter protesting against the tax as a virtual diminution of judicial compensation in violation of the constitutional provision. No heed was paid to the protest at the time but some years later, upon the strength of an opinion by Attorney General Hoar, the tax on the compensation of the President and the judges was discontinued and the amounts theretofore collected were refunded. There the matter rested until after the Income Tax Amendment, when Congress again sought to impose a tax upon the income of the President and the judges. A federal judge of a Kentucky district contested the tax and the question came up before the Supreme Court for final decision. On behalf of the revenue department it was urged that a general income tax, operating alike on all classes, did not involve any violation of the constitutional provision. It was also contended that such a tax was expressly authorized by the Sixteenth Amendment giving Congress power to tax incomes "from whatever source derived." The Court in an exhaustive opinion overruled both these contentions and held the tax to be a violation of the Constitution.
[Footnote 1: Art. 3, Sec. 1.]
[Footnote 2: Art. 2, Sec. 1, Clause 6.]
[Footnote 3: See 157 U.S., 701.]
[Footnote 4: Evans v. Gore, 253 U.S., 245.]
It has often been asserted that a limitation of the federal taxing power is found in the "due process" clause of the Fifth Amendment of the Constitution, providing that no person shall "be deprived of life, liberty, or property without due process of law." This amendment relates to the powers of the General Government. A similar limitation on the powers of the states is found in the Fourteenth Amendment. Taxing laws have frequently been attacked in the courts on the ground that, by reason of some inequality or injustice in their provisions, the taxpayer was deprived of his property without due process of law. In cases involving state laws such objections have sometimes been sustained. There seems, however, to have been no case in which a federal taxing law was declared invalid on this ground, and the Supreme Court has recently remarked that it is "well settled that such clause (viz., the due process clause of the Fifth Amendment) is not a limitation upon the taxing power conferred upon Congress by the Constitution." Nevertheless, it is believed that if a federal tax were clearly imposed for other than a public use, or were imposed on tangible property lying outside the national jurisdiction, or were so arbitrary and without basis for classification as to amount to confiscation, relief might be obtained under the due process clause of the Fifth Amendment.
[Footnote 1: See, e.g., Union Tank Line Co. v. Wright, 249 U.S., 275.]
[Footnote 2: Brushaber v. Union Pacific R.R., 240 U.S., 24.]
By far the most important and interesting of the implied limitations of the federal taxing power remains to be noticed. That is the limitation which prohibits the National Government from burdening by taxation the property or revenues or obligations of a state, or the emoluments of a state official, or anything connected with the exercise by a state of one of its governmental functions. In other words, while the National Government may tax income from bonds issued by England or France or their cities, it is powerless to tax the income from bonds of Rhode Island or the smallest of its towns.
This implied limitation, nowhere categorically expressed but enunciated in a series of decisions of the Supreme Court, has not always met with acquiescence from the executive and legislative branches of the Government. In fact, Congress is now engaged in an effort to do away with it, at least in so far as concerns the right to tax the income from state and municipal bonds. To-day, however, it still stands as one of the most striking and unique characteristics of our governmental system. It will be discussed more at length in the next chapter.
CAN CONGRESS TAX THE INCOME FROM STATE AND MUNICIPAL BONDS?
That is a question which is agitating a good many people just now. Congress from time to time has seemed disposed to try it, in spite of misgivings as to the constitutionality of such legislation. A recent Revenue Bill contained provisions taxing the income of future issues of such obligations, and a motion for the elimination of those provisions was defeated in the House 132 to 61. Meanwhile, protests were pouring in from state and municipal officers assailing the justice and expediency of such a tax.
[Footnote 1: See, e.g., H. Report No. 767, 65th Cong., 2d Sess., accompanying House Revenue Bill of 1918 as reported by Mr. Kitchin from the Committee on Ways and Means, page 89.]
It is not the purpose of this chapter to discuss the questions of justice and expediency (as to which there is much to be said on both sides) but rather to deal with the strictly legal aspects of the matter and indicate briefly why such a tax cannot be laid without a change in our fundamental law.
Let it be said at the outset that no express provision of the United States Constitution forbids. On the contrary, that instrument confers on Congress the power to lay taxes without any restriction or limitation save that exports shall not be taxed, that duties, imposts, and excises shall be uniform throughout the United States, and that direct taxes must be apportioned among the states in proportion to population. The obstacle lies rather in an implied limitation inherent in our dual system of government and formulated in decisions of the Supreme Court.
The founders of this republic established a form of government wherein the states, though subordinate to the Federal Government in all matters within its jurisdiction, nevertheless remained distinct bodies politic, each one supreme in its own sphere. In the famous phrase of Salmon P. Chase, pronouncing judgment as Chief Justice of the Supreme Court:
The Constitution in all its provisions looks to an indestructible Union, composed of indestructible states.
[Footnote 1: Texas v. White, 7 Wall., 700, 725.]
In a later case another eminent justice (Samuel Nelson of New York) put the matter thus:
The General Government, and the states, although both exist within the same territorial limits, are separate and distinct sovereignties, acting separately and independently of each other, within their respective spheres. The former, in its appropriate sphere, is supreme; but the states within the limits of their powers not granted, or, in the language of the 10th Amendment, "reserved", are as independent of the General Government as that government within its sphere is independent of the states.
[Footnote 1: The Collector v. Day, 11 Wall., 113, 124.]
It follows that the two governments, national and state, must each exercise its powers so as not to interfere with the free and full exercise by the other of its powers. To do otherwise would be contrary to the fundamental compact embodied in the Constitution—in other words, it would be unconstitutional.
This proposition was affirmed at an early day by Chief Justice John Marshall in the great case of McCulloch vs. The State of Maryland, which involved the attempt of a state to tax the operations of a national bank. That case is one of the landmarks of American constitutional law. While it did not expressly decide that the Federal Government could not tax a state instrumentality but only the converse, i.e., that a state could not tax an instrumentality of the nation, the Court has held in many subsequent decisions that the proposition enunciated by the great Chief Justice works both ways. For example, it has declared that a state cannot tax the obligations of the United States because such a tax operates upon the power of the Federal Government to borrow money and conversely, that Congress cannot tax the obligations of a state for the same reason; that a state cannot tax the emoluments of an official of the United States and conversely, that the United States cannot tax the salary of a state official; that a state cannot impose a tax on the property or revenues of the United States and conversely, that Congress cannot tax the property or revenues of a state or a municipality thereof.
[Footnote 1: 4 Wheaton, 316.]
[Footnote 2: Weston v. City of Charleston, 2 Pet., 449.]
[Footnote 3: Mercantile Bank v. New York, 121 U.S., 138, 162.]
[Footnote 4: Dobbins v. Commissioner of Erie County, 16 Pet., 435.]
[Footnote 5: Collector v. Day, 11 Wall., 113.]
[Footnote 6: Van Brocklin v. Tennessee, 117 U.S., 151.]
[Footnote 7: United States v. Railroad Co., 17 Wall., 322.]
The Supreme Court has said (and many times reiterated in substance) that the National Government "cannot exercise its power of taxation so as to destroy the state governments, or embarrass their lawful action." One of the most distinguished writers on American Constitutional law (Thomas M. Cooley, Chief Justice of the Supreme Court of Michigan and afterward Chairman of the federal Interstate Commerce Commission) has said:
There is nothing in the Constitution which can be made to admit of any interference by Congress with the secure existence of any state authority within its lawful bounds. And any such interference by the indirect means of taxation is quite as much beyond the power of the national legislature as if the interference were direct and extreme.
[Footnote 1: Railroad Co. v. Peniston, 18 Wall., 5, 30.]
[Footnote 2: Cooley's Constitutional Limitations, 7th Ed., 684.]
The question as to the right of Congress to levy an income tax on municipal securities came up squarely in the famous Income Tax Cases involving the constitutionality of the Income Tax Law of 1804. While the Supreme Court was sharply divided as to the constitutionality of other features of the law, it was unanimous as to the lack of authority in the United States to tax the interest on municipal bonds.
[Footnote 1: Pollock v. Farmers Loan & Trust Co., 157 U.S., 429; same case on rehearing, 158 U.S., 601.]
The decision in those cases is the law to-day (except in so far as it has been changed by the recent Sixteenth Amendment) with one possible limitation. It has been held that state agencies and instrumentalities, in order to be exempt from national taxation, must be of a strictly governmental character; the exemption does not extend to agencies and instrumentalities used by the state in carrying on an ordinary private business. This was decided in the South Carolina Dispensary case. The State of South Carolina had taken over the business of selling liquor and the case involved a federal tax upon such business. The Court, while reaffirming the general doctrine, nevertheless upheld the tax on the ground that the business was not of a strictly governmental character. This decision suggests the possibility that if an attempt were made to tax state and municipal bonds the Court might draw a distinction based on the purpose for which the bonds were issued, and hold that only such as were issued for strictly governmental purposes were exempt.
[Footnote 1: South Carolina v. United States, 199 U.S., 437, decided in 1905.]
It remains to consider the effect of the Sixteenth Amendment.
After the Supreme Court had held the Income Tax Law of 1894 unconstitutional on the ground that it was a direct tax and had not been apportioned among the states in proportion to population the Sixteenth Amendment to the Constitution was proposed and ratified. This amendment provides that
the Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration.
When the amendment was submitted to the states for approval some lawyers apprehended that the words "incomes from whatever source derived" might open the door to the taxation by the Government of income from state and municipal bonds. Charles E. Hughes, then Governor of New York, sent a special message to the Legislature opposing ratification of the amendment on this ground.
Other lawyers, notably Senator Elihu Root, took a different view of the scope of the amendment, holding that it would not enlarge the taxing power but merely remove the obstacle found by the Supreme Court to the Income Tax Law of 1894, i.e., the necessity of apportionment among the states in proportion to population. This latter view has now been confirmed by the Supreme Court. In a case involving a tax on income from exports the Court said:
The Sixteenth Amendment ... does not extend the taxing power to new or excepted subjects, but merely removes all occasion, which otherwise might exist, for an apportionment among the states of taxes laid on income, whether it be derived from one source or another....
[Footnote 1: Peck v. Lowe, 247 U.S., 165.]
In a case decided a little earlier the Court, speaking through Chief Justice White, had said:
By the previous ruling (i.e., in Brushaber v. Union Pacific Railway Co., 240 U.S., 1) it was settled that the provisions of the Sixteenth Amendment conferred no new power of taxation....
[Footnote 1: Stanton v. Baltic Mining Co., 240 U.S., 103, 112.]
From what has been said it will be evident that the doctrine of exemption of state and municipal bonds from federal taxation is firmly embedded in our law and has not been affected by the Sixteenth Amendment.
Whether it is a doctrine suited to present-day conditions is a question outside the scope of this paper.
The fear of federal encroachment, so strong in the minds of the makers of our Constitution, has become little more than a tradition. To many it doubtless will seem that any rule of law which operates to prevent the nation, in the great exigency of war, from taxing a portion of the property of its citizens is pernicious and should be changed.
If this be the view of a sufficient number the change can and will be made. Lawyers think, however, that it will have to be done by the orderly method of constitutional amendment, not by passing taxing statutes which a reluctant Court will be obliged to declare unconstitutional.
Just now the tide of popular sentiment is setting strongly toward such a change. It was advocated in a recent Presidential message. The immunity enjoyed by state bond issues is coming to be regarded less as a safeguard of state rights than as a means whereby the rich escape federal income surtaxes. One is tempted to predict that the next formal amendment of the Constitution will deal with this subject. If so, another inroad will have been made by the General Government on the failing powers of the states.
[Footnote 1: Message of President Harding to Congress, December 6, 1921.]
IS THE FEDERAL CORPORATION TAX CONSTITUTIONAL?
[Footnote 1: Since this chapter was first published in 1909 as an article in the Outlook magazine the specific question propounded in its title has been settled by the Supreme Court (Flint v. Stone Tracy Co., 220 U.S., 107). The paper is here reproduced, however, in the belief that its discussion of the principles of our dual system of Government is as pertinent now as it was before.]
The most noteworthy enactment of the sixty-first Congress from a legal point of view, to say nothing of its economic and political significance, was the Corporation Tax Act. That Act, forming Sec.38 of the Tariff Law, provides—
That every corporation ... organized for profit and having a capital stock represented by shares ... shall be subject to pay annually a special excise tax with respect to the carrying on or doing business by such corporation ... equivalent to one per centum upon the entire net income over and above five thousand dollars received by it from all sources, etc.
The act goes on to require the corporations to make periodical reports concerning their business and affairs, and confers on the Commissioner of Internal Revenue a visitorial power to examine and compel further returns.
The genesis of the act is interesting. The growing demand for more efficient regulation of the corporations, so pronounced during President Roosevelt's Administration, had foreshadowed such legislation. It remained, however, for President Taft to take the initiative and mould the shape which the legislation was to take.
In the course of the Senate debate on the new Tariff Act it had become apparent that an influential party in Congress, backed by strong sympathy outside, was bent upon passing a general income tax act. The previous Income Tax Law had been pronounced unconstitutional by the Supreme Court as violating the provision of the Constitution that all direct taxes must be apportioned among the states in proportion to population. That decision, however, had been reached by a bare majority of five to four. It had overruled previous decisions and overturned doctrines that had been acquiesced in almost from the foundation of the Government. A strong party was in favor of enacting another income tax law and bringing the question again before the Court in the hope that the Court as then constituted might be induced to overrule or materially modify the doctrine of the Pollock case. The President and his advisers viewed such a proposal with disfavor. To their minds the proper way to establish the right of Congress to levy an income tax was by an amendment to the Constitution, not by an assault upon the Supreme Court. Accordingly on June 16, 1909, the President transmitted a message to Congress recommending a constitutional amendment, and proposing, in order to meet the present need for more revenue, an excise tax on corporations. The proposal, coupled as it was with a suggestion that such an act might be made to serve for purposes of federal supervision and control as well as revenue, met with favor and was enacted into law.
[Footnote 1: Pollock vs. Farmers' Loan & Trust Co., 157 U.S., 429.]
[Footnote 2: Congressional Record, June 16, 1909, p. 3450.]
President Taft, himself an eminent constitutional lawyer, in his message recommending the law expressed full confidence in its constitutionality. The same view was taken by able lawyers who surrounded him in the capacity of advisers. The act is understood to have been drafted by Mr. Wickersham, the Attorney General, and vouched for by Senator Elihu Root and others of scarcely less authority in the domain of constitutional law.
Against opinions from such sources one takes the field with diffidence. I venture, however, to outline briefly some reasons for doubting the constitutionality of the act.
At the outset it is essential to determine the exact nature of the tax. Obviously it is not a tax upon income as income. If it were, it would be obnoxious to the decision in the Pollock case as imposing a direct tax without apportionment among the states. The language of the act, as well as the declarations of its sponsors, clearly indicate that it is intended, not as a direct tax on property, but as an excise tax on privilege. The phraseology of the act itself is—"A special excise tax with respect to the carrying on or doing business by such corporation," etc. Undoubtedly Congress has power to impose an excise tax upon occupation or business. This was expressly decided, in the case of the businesses of refining petroleum and refining sugar, by the Spreckels case, referred to in President Taft's message. The message says:
The decision of the Supreme Court in the case of Spreckels Sugar Refining Company against McClain (192 U.S., 397) seems clearly to establish the principle that such a tax as this is an excise tax upon privilege and not a direct tax on property, and is within the federal power without apportionment according to population.
[Footnote 1: Spreckels Sugar Refining Co. vs. McClain, 192 U.S., 397.]
What, then, is the privilege with respect to which the tax is imposed? Is it, like the tax involved in the Spreckels case, the privilege of doing the various kinds of business (manufacturing, mercantile, and the rest) in which the corporations subject to the operation of the law are engaged? Obviously not. No kind or kinds of business are specified in the act. The tax falls not only on corporations doing every conceivable kind of business, but also on the corporation that does no specific business whatever—the corporation which, in the language of an eminent judge, is merely "an incorporated gentleman of leisure." Moreover, if the tax were merely upon the privilege of doing business, it would seem to be obnoxious to the cardinal principle of just taxation that taxes should be uniform. In other words, if the privilege of doing a business—say conducting a department store—were the thing taxed and the only thing taxed, the rule of uniformity would seem to require that a corporation and a copartnership conducting similar stores on opposite corners of the street should both be taxed. Nothing inconsistent with this view will be found in the Spreckels case. The party to that suit was, to be sure, a corporation, but the act under which the tax was imposed applied to individuals, firms, and corporations alike.
[Footnote 1: Vann, J., in People ex rel. vs. Roberts, 154 N.Y., 1.]
It must be concluded, therefore, that the tax is not upon the privilege of doing the businesses in which the various corporations in the land are engaged, but is rather a tax upon the privilege of doing business in a corporate capacity, or, in other words, upon the exercise of the corporate franchise. That this is so appears very clearly from the message of President Taft. He says:
This is an excise tax upon the privilege of doing business as an artificial entity and of freedom from a general partnership liability enjoyed by those who own the stock.
Assuming, then, that this is the real nature of the tax, is it constitutional?
Unquestionably Congress may tax corporations organized under federal laws upon their franchises; any sovereignty may tax the creatures of its creation for the privilege of exercising their franchises; but how about corporations chartered by the states and doing purely an intrastate business? A state confers on John Doe and his associates the privilege or franchise of doing business in a corporate capacity. Can Congress impose a tax on the exercise of that privilege or franchise? The power to tax involves the power to destroy. If Congress can impose a tax of one per cent., it can impose a tax of ten per cent. or fifty per cent., and thus impair or destroy altogether the value of corporate charters for business purposes. Does Congress possess such a power? The Constitution puts no express limitation on the right of Congress to levy excises except that they shall be "uniform throughout the United States." But there are certain implied limitations inherent in our dual system of government. The sovereignty and independence of the separate states within their spheres are as complete as are the sovereignty and independence of the General Government within its sphere. Neither may interfere with or encroach upon the other.
[Footnote 1: McCulloch vs. Maryland, 4 Wheat., 316.]
[Footnote 2: The Collector vs. Day, 11 Wall., 113, 124.]
The right to grant corporate charters for ordinary business purposes is an attribute of sovereignty belonging to the states, not to the General Government. The United States is a government of enumerated powers. The Constitution nowhere expressly confers upon Congress the right to grant corporate charters, and it is well settled that this right exists only in the limited class of cases where the granting of charters becomes incidental to some power expressly conferred on Congress, e.g., the power to establish a uniform currency, or the power to regulate interstate commerce. On the other hand, the right of the separate states to grant charters of incorporation is unquestionable. By the Tenth Amendment of the Constitution it is expressly provided: "The powers not delegated to the United States by the Constitution nor prohibited by it to the states are reserved to the states respectively or to the people." The Supreme Court long ago said: "A state may grant acts of incorporation for the attainment of those objects which are essential to the interests of society. This power is incident to sovereignty."
[Footnote 1: Briscoe v. Bank of Kentucky, 11 Peters, 257, 317.]
The power to grant the franchise of corporate capacity being therefore inherent in the sovereignty of the states, will not a tax imposed by Congress upon the exercise of the franchise constitute an interference with the power? If so the tax is unconstitutional.
The Supreme Court has repeatedly held, that the National Government "cannot exercise its power of taxation so as to destroy the state governments or embarrass their lawful action." In the case of California vs. Central Pacific R.R. Co. the question was whether franchises granted to the Central Pacific Railroad Company by the United States were legitimate subjects of taxation by the State of California. The Supreme Court, in language frequently quoted in subsequent cases, discusses the nature and origin of franchises, concluding that a franchise is "a right, privilege, or power of public concern" existing and exercised by legislative authority. After enumerating various kinds of franchises, the Court remarks: "No persons can make themselves a body corporate and politic without legislative authority. Corporate capacity is a franchise." The Court continues:
In view of this description of the nature of a franchise, how can it be possible that a franchise granted by Congress can be subject to taxation by a state without the consent of Congress? Taxation is a burden and may be laid so heavily as to destroy the thing taxed or render it valueless. As Chief Justice Marshall said in McCulloch v. Maryland, "The power to tax involves the power to destroy."... It seems to us almost absurd to contend that a power given to a person or corporation by the United States may be subjected to taxation by a state. The power conferred emanates from and is a portion of the power of the government that confers it. To tax it is not only derogatory to the dignity but subversive of the powers of the government, and repugnant to its paramount sovereignty.
[Footnote 1: Railroad Company v. Peniston, 18 Wall., 5, 30.]
[Footnote 2: 127 U.S., 1.]
It is true that the Court was here discussing the right of a state to tax franchises granted by the United States, and not the converse of that question. The reasoning of the Court would seem, however, to apply with equal force to the right of the United States to tax a franchise granted by a state acting within the scope of its sovereign authority.
Patent rights and copyrights are special privileges or franchises granted by the sovereign or government, and under the United States Constitution the right to grant patents and copyrights is expressly conferred on Congress. It has been held repeatedly that patent rights and copyrights are not taxable by the states. As said by the New York Court of Appeals in a case involving the power of the state to tax copyrights:
To concede a right to tax them would be to concede a power to impede or burden the operation of the laws enacted by Congress to carry into execution a power vested in the National Government by the Constitution.
[Footnote 1: People ex rel. Edison, &c., Co., v. Assessors, 156 N.Y., 417; People ex rel. v. Roberts, 159 N.Y., 70; In Re Sheffield, 64 Fed. Rep., 833; Commonwealth v. Westinghouse, &c., Co., 151 Pa., 265.]
[Footnote 2: 159 N.Y., p. 75.]
Apparently the same rule would be applicable were the granting of patent rights, like the granting of ordinary corporate franchises, a prerogative reserved under our system of government to the states instead of being expressly conferred on the United States. By parity of reasoning, the Federal Government in that case would have no power to tax them.
It is familiar law, reiterated over and over again by the Supreme Court, that Congress cannot tax the means or instrumentalities employed by the states in exercising their powers and functions, any more than a state can tax the instrumentalities similarly employed by the General Government. Thus, it has been held that Congress cannot tax a municipal corporation (being a portion of the sovereign power of the state) upon its municipal revenues; that Congress cannot impose a tax upon the salary of a judicial officer of a state; that Congress cannot tax a bond given in pursuance of a state law to secure a liquor license.
[Footnote 1: United States vs. Railroad Co., 17 Wall., 322.]
[Footnote 2: Collector v. Day, 11 Wall., 113.]
[Footnote 3: Ambrosini v. United States, 185 U.S., 1.]
In the light of these decisions it is not apparent how Congress can tax the franchises of those state corporations (and they are many and important) which perform some public or quasi-public function. A state, to carry out its purposes of internal improvement, charters an intrastate railway or ferry company with power to charge tolls and exercise the right of eminent domain. Is not the grant of corporate existence and privileges to such a corporation one of the means or instrumentalities employed by the state for carrying out its legitimate functions, and is not a tax by the Federal Government upon the exercise by such a corporation of its corporate powers an interference with such means or instrumentalities?
In any discussion of the right of Congress to tax the agencies of or franchises granted by a state, the distinction must be borne in mind between a tax upon property acquired by means of the franchise from the state and a tax upon the exercise of the franchise itself. The former tax may be perfectly valid where the latter would be unconstitutional. Thus, the Supreme Court has upheld a tax by a state upon the real and personal property (as distinct from the franchises) of a railway company chartered by Congress for private gain, while conceding that the state could not tax the franchises, because to do so would be a direct obstruction to federal powers.
[Footnote 1: Union Pacific Railroad Company vs. Peniston, 18 Wall., 5.]
It remains to notice briefly one or two Supreme Court decisions which are relied upon by the sponsors of the new tax law. Reference has already been made to the decision in the Spreckels case which upheld the validity of the tax imposed by the War Revenue Act of 1898 upon the gross receipts of corporations engaged in the businesses of refining petroleum and refining sugar. The Court held the tax to be an excise tax "in respect of the carrying on or doing the business of refining sugar," and such it obviously was. It was not a tax upon the privilege or franchise of doing business in a corporate capacity, like the tax now under debate. On the contrary, the act expressly applied to "every person, firm, corporation, or company carrying on or doing the business of refining sugar...." The case, therefore, has no bearing on the point we are discussing. Had the act applied only to corporations, a different question would have been involved.
[Footnote 1: Spreckels Sugar Refining Co. vs. McClain. 192 U.S., 397.]
The case of Veazie Bank vs. Fenno, upholding the statute which taxed out of existence the circulation of the state banks, has frequently been cited as an authority sustaining the right of Congress to levy a tax upon a franchise or privilege granted by a state. It is true that in that case the eminent counsel for the bank (Messrs. Reverdy Johnson and Caleb Cushing) argued unsuccessfully "that the act imposing the tax impaired a franchise granted by the state, and that Congress had no power to pass any law which could do that;" and that two justices dissented on that ground. The conclusive answer to this argument, was, however, that the power of the states to grant the particular right or privilege in question was subordinate to powers expressly conferred on Congress by the Constitution; that Congress was given power under the Constitution to provide a currency for the whole country, and the act in question was legislation appropriate to that end. The case does not hold that Congress has any general power to tax franchises or privileges granted by a state.
[Footnote 1: 8 Wall., 533.]
[Footnote 2: See 8 Wall., p. 535.]
The scope of this chapter does not admit of further reference to the decisions. It is strongly urged, however, that none of them, rightly construed, will be found to sustain the right of the General Government to impose a tax upon the exercise of franchises granted by a state in the exercise of its independent sovereignty, and that such a decision would mark a new departure in our jurisprudence.
In the debates in Congress over the bill many good lawyers appear to have assumed, somewhat too hastily, that the tax in question was an excise tax on business or occupation like that involved in the Spreckels case, and that the only constitutional question, therefore, was one of classification under the provision of the Constitution that excises shall be uniform throughout the United States. No less eminent a constitutional lawyer than Senator Bailey of Texas, in a colloquy with the junior Senator from New York, put the matter thus:
Mr. Root: May I ask the Senator from Texas if I am right in inferring from the statement which he has just made that he does not seriously question the constitutional power of the Congress to impose this tax on corporations?
Mr. Bailey: Mr. President, I answer the Senator frankly that I do not.... I think the rule was and is that Congress can levy any tax it pleases except an export tax. Of course a direct tax must be apportioned and an indirect tax must be uniform. But the uniformity rule simply requires that wherever the subject of taxation is found, the tax shall operate equally upon it.
I believe that Congress can tax all red-headed men engaged in a given line of business if it pleases.... I have no doubt if the tax fell upon every red-headed man in Massachusetts the same as in Mississippi or Texas and all other states, the law imposing such a tax would be perfectly valid.
[Footnote 1: Congressional Record for July 6, 1909, pp. 4251 to 4252.]
The difficulty with this reasoning is that it overlooks the fact that the privilege of being red-headed is not a franchise granted by a sovereign state. From the viewpoint of constitutional law it may well be that Congress can tax a privilege conferred by the gods where it would be powerless to tax a franchise granted by the Legislature of New Jersey.
THE CORPORATION TAX DECISION
The immediate consequences of the decision of the United States Supreme Court affirming the constitutionality of the federal corporation tax are so slight that its profound significance is likely to be overlooked. Until it was merged with the general income tax the exaction was not burdensome and proved easy of collection. The thing upon which it fell—the privilege of doing business in a corporate capacity—is an abstraction which makes little appeal to the sympathies or the moral sense. The public, more concerned with present conditions than with the passing of a theory, is indifferent.
[Footnote 1: Flint v. Stone Tracy Co., 220 U.S., 107]
Thus it has sometimes been with the turning points in the affairs of nations. They came quietly and without observation, and it remained for the historians to mark the actual parting of the ways.
The Supreme Court holds, and in its opinion reiterates many times, that the tax is upon the privilege of doing business in a corporate capacity.
Right here is the crux of the matter. Corporate capacity is not a right granted by the National Government. It is something which Congress can neither give nor take away. In the division of powers which marked the creation of our dual government the power to confer corporate capacity was reserved to the states. The decision, therefore, comes to this: Congress can by taxation burden the exercise of a privilege which only a state can grant. And the power to tax, it must be remembered, involves the power to destroy. This seems a long step from the theory of the men who founded the Republic.
Nearly fifty years ago the Supreme Court stated the theory as follows:
The states are, and they must ever be, co-existent with the National Government. Neither may destroy the other. Hence the Federal Constitution must receive a practical construction. Its limitations and its implied prohibitions must not be extended so far as to destroy the necessary powers of the States, or prevent their efficient exercise.
[Footnote 1: Railroad Co. v. Peniston, 18 Wall., 5.]
The court buttresses its decision by the argument ex necessitate—that to hold otherwise would open the way for men to withdraw their business activities from the reach of federal taxation and thus cripple the National Government. The Court says:
The inquiry in this connection is: How far do the implied limitations upon the taxing power of the United States over objects which would otherwise be legitimate subjects of federal taxation, withdraw them from the reach of the Federal Government in raising revenue, because they are pursued under franchises which are the creation of the states?... Let it be supposed that a group of individuals, as partners, were carrying on a business upon which Congress concluded to lay an excise tax. If it be true that the forming of a state corporation would defeat this purpose, by taking the necessary steps required by the state law to create a corporation and carrying on the business under rights granted by a state statute, the federal tax would become invalid and that source of national revenue be destroyed, except as to the business in the hands of individuals or partnerships. It cannot be supposed that it was intended that it should be within the power of individuals acting under state authority thus to impair and limit the exertion of authority which may be essential to national existence.
This argument will not bear scrutiny. It apparently loses sight of the vital distinction between a tax on the mere doing of business and a tax on the privilege of doing that business in a corporate capacity. These are two very different things. The right of Congress to tax the doing of business was not disputed. It had been expressly upheld in the well-known case of Spreckels Sugar Refining Co. v. McClain, which involved a tax on the business of refining sugar, whether done by a corporation or by individuals. The tax under consideration, however, goes further and fastens upon something new—something which in the case of individuals or partnerships has no existence at all—which comes into being only by the exercise of the sovereign power of a state. The opponents of the tax, far from attempting to narrow the existing field of federal taxation, were in fact resisting an encroachment by Congress on an entirely new field, created by, and theretofore reserved exclusively to, the separate states. It was conceded that Congress could tax a business when done by individuals and could tax the same business when done by a corporation. The inquiry was: Does the act of a state in clothing the individuals with corporate capacity create a new subject matter for taxation by the General Government? That was the real question before the Court, and the decision answers it in the affirmative.
[Footnote 1: 192 U.S., 397.]
Other illustrations of the same apparent confusion of thought are to be found in the opinion. For example, it is said (citing various cases involving a tax on business where the party taxed was a corporation):
We think it is the result of the cases heretofore decided in this Court, that such business activities, though exercised because of state-created franchises, are not beyond the taxing power of the United States.
Here again the Court seems to lose sight of the distinction between a tax on "business activities" and a tax on the privilege of conducting such activities in a corporate capacity.
It is futile, however, to quarrel with the logic of the opinion. The question is closed and the Court, by affirming the judgments appealed from, has committed itself to the theory that the Federal Government may, by taxation, burden the exercise of a privilege which only a state can confer. With the expediency of that theory as applied to present-day political conditions we are not now concerned. The object of this chapter is to point out that the decision marks a distinct departure from the earlier doctrine that the two sovereignties, federal and state, are upon an equality within their respective spheres.
In view of the centralizing forces which are tending to transform these sovereign states into mere political subdivisions of a nation, the decision is of great significance. Moreover, in a very practical way it touches the right of each state under the compact evidenced by the Federal Constitution to manage its internal affairs free from compulsion or interference by the other states. To illustrate: In some parts of the country the anti-corporation feeling runs high. Many men if given their way would tax the larger corporations out of existence. Under this decision the way is open whenever a majority can be secured in Congress. An increase in the tax rate is all that would be necessary. Make the rate ten per cent. or twenty per cent. instead of one per cent. and the thing is accomplished.
New York may deem it good policy to encourage the carrying on of industry in a corporate form. Texas may take a different view and conclude that the solution of the trust problem lies in suppressing certain classes of corporations altogether. Under this decision it lies within the power of Texas and her associates if sufficiently numerous to impose their view on New York and make it impossible for her domestic industries to be carried on profitably in a corporate form. And yet the possibility of impressing the will of one state or group of states upon another state with respect to her internal affairs is the very thing which the founders of the republic sought most carefully to avoid. Had it been understood in 1787 that the grant of taxing powers to the General Government involved such a curtailment of state independence, few states, in all probability, would have been ready to ratify the Constitution.
THE FEDERAL GOVERNMENT AND THE TRUSTS
The curbing of monopolies and combinations in restraint of trade was no part of the functions of the Federal Government as planned by the framers of the Constitution. To their minds such matters, under the dual system of government which they were establishing, belonged to the states. The Constitution was designed to limit the National Government to functions absolutely needed for the national welfare. All other powers were "reserved to the states respectively or to the people."
As time went on, however, and industries expanded it was seen that the power of no single state was adequate to control concerns operating in many states at the same time. The need of action by the General Government became manifest. Power in Congress to legislate on the subject, albeit somewhat indirectly, was found in the Commerce Clause of the Constitution, and in the year 1890 the Sherman Anti-Trust Act was enacted.
Few statutes have aroused more discussion or been the subject of more perplexity and misunderstanding. President Taft's remark, made after the decisions of the Supreme Court in the Standard Oil and Tobacco Trust cases, that "the business community now knows or ought to know where it stands," was received with incredulity approaching derision. Yet from a lawyer's point of view (and it must be borne in mind that the President was a lawyer and is now Chief Justice of the Court) the statement cannot be controverted. The decisions in the Standard Oil and Tobacco cases did in fact dispel whatever uncertainty remained as to what the Sherman Act means.
[Footnote 1: Standard Oil Co. v. United States, 221 U.S., 1.
United States v. American Tobacco Co., id., 106.]
The Sherman Act declares unlawful every contract, combination, or conspiracy in restraint of interstate trade, and every attempt to monopolize interstate trade. The legal uncertainties that have arisen in its enforcement have not been with respect to the meaning of the terms "restraint of trade" and "monopoly," although the popular impression is to the contrary. In 1890, when the statute was passed, contracts in restraint of trade and monopolies were already unlawful at common law, and these terms, by a long series of decisions both here and in England, had been defined as definitely as the nature of the subject matter permitted. While incapable (like the term "fraud") of precise definition covering all forms which the ingenuity of man might devise, nevertheless their meaning and scope were well within the understanding of any man of reasonable intelligence. Whatever legal uncertainties have arisen have been chiefly owing to two questions: first, What is interstate trade within the meaning of the act? and second, Did the act enlarge the common-law rule as to what restraints were unlawful?
[Footnote 1: "An Act to protect trade and commerce against unlawful restraints and monopolies," approved July 2, 1890.]
The act was nearly shipwrecked at the outset on the first of these questions. In the famous Knight case, the first case under the Sherman Act to reach the Supreme Court, it was held that the transactions by which the American Sugar Refining Company obtained control of the Philadelphia refineries and secured a virtual monopoly could not be reached under the act because they bore no direct relation to interstate commerce. The effect of this decision naturally was to cast doubt upon the efficacy of the statute and encourage the trust builders. Perhaps the case was rightly decided in view of the peculiar form in which the issues were presented by the pleadings. In the light of later decisions, however, it is safe to assert that the Court would now find little difficulty in applying the remedies provided by the Sherman Act to a similar state of facts, properly presented. While no prudent lawyer would care to attempt a comprehensive definition of what constitutes interstate commerce, it may at least be said that the tendency of the courts has been and is toward a constant broadening of the term to meet the facts of present-day business.
[Footnote 1: United States v. E.C. Knight Company, 156 U.S., 1.]
The other question—Did the Sherman Act change the common-law rule as to what restraints and monopolies are forbidden?—has been even more troublesome. The lawyers in Congress who framed the law believed that it did not. This is the testimony of Senator Hoar in his Autobiography, and as he was a member of the Senate Judiciary Committee which reported the act in its present form, and claims to have drawn it himself, his testimony is entitled to belief. The Supreme Court, however, in this particular went further than was expected. In the Trans-Missouri Freight Association case, which reached the Supreme Court two years after the Knight case, that tribunal decided by a five-to-four majority that the words "every contract ... in restraint of trade" extended the operation of the law beyond the technical common-law meaning of the terms employed so as in fact to include all contracts in restraint of interstate trade without exception or limitation. This theory was strongly combated by the minority of the court, speaking through Justice (afterwards Chief Justice) White, and was denounced by many eminent lawyers, notably the late James C. Carter, then leader of the New York Bar, who predicted that sooner or later it must be abandoned as untenable. Their protests were well founded. The theory, carried to its logical conclusion, would have prohibited a great variety of transactions theretofore deemed reasonable and proper, and would have brought large business to a standstill. As a matter of fact, it was never carried to its logical conclusion, and six years later it was expressly repudiated by Justice Brewer; one of the five, in the course of his concurring opinion in the Northern Securities case. Justice Brewer said that while he believed the Trans-Missouri case had been rightly decided he also believed that in some respects the reasons given for the judgment could not be sustained.
Instead of holding that the Anti-Trust Act included all contracts, reasonable or unreasonable, in restraint of interstate trade, the ruling should have been that the contracts there presented were unreasonable restraints of interstate trade, and as such within the scope of the Act.... Whenever a departure from common-law rules and definitions is claimed, the purpose to make the departure should be clearly shown. Such a purpose does not appear and such a departure was not intended.
[Footnote 1: United States v. Trans-Missouri Association, 166 U.S., 290.]
[Footnote 2: Northern Securities Company v. United States, 193 U.S., 197.]
Nevertheless, the troublesome question remained, to plague lawyers and the community generally, until it was finally put at rest and the statute once more planted on the firm ground of common-law rule and definition by the decisions in the Standard Oil and Tobacco cases.
What, then, is this common-law rule which President Taft found so clear? No one has discussed it more lucidly than did the youthful Circuit Judge Taft himself in delivering the opinion of the Circuit Court of Appeals in the Addyston Pipe & Steel Co. case, an opinion in which his two associates on the bench, the late Justices Harlan and Lurton, concurred. The rule may be briefly stated as follows:
Every contract or combination whose primary purpose and effect is to fix prices, limit production, or otherwise restrain trade is unlawful, provided the restraint be direct, material, and substantial.
Where, however, the restraint of trade is not direct, but merely ancillary or collateral to some lawful contract or transaction, it is not unlawful, provided it is reasonable, that is to say, not broader than is required for the protection of the party in whose favor the restraint is imposed.
[Footnote 1: United States v. Addyston Pipe & Steel Co., 85 Fed. Rep., 271.]
A familiar illustration is the sale of a business and its goodwill, accompanied by a covenant on the part of the vendor not to compete. Such a covenant is collateral to the sale, and if not broader than is reasonably required for the protection of the vendee it will be upheld, although a similar agreement, standing alone and not collateral to a sale or other lawful transaction, would be in direct restraint of trade and unlawful.
So much for the alleged uncertainty of the law. Candid men must agree with President Taft that in the light of the Supreme Court decisions it is reasonably clear what the Sherman Law means. But the fact that "the business community now knows or ought to know where it stands" with respect to the law does not greatly help the business situation. The real difficulty lies, not in the uncertainty of the law, but in the fact that the law does not fit actual present-day conditions. This is partly because many of the trusts were organized with full knowledge that they involved a violation of law but in the belief that the law could not or would not be effectively enforced. The realization that this belief was mistaken has thrown a good many people into a state of very genuine bewilderment, but it is an uncertainty, not as to what is firm ground, but as to how to get out of a bog, once having gotten in. For the most part, however, the general feeling of insecurity is due not so much to having knowingly overstepped the law, as to a change in economic conditions. The spirit of the time is one of cooeperation and combination. It is manifested in the churches and colleges as well as in the marketplace. In the industrial arena, the tendency has been intensified by the invention of new machines and the resulting aggregations of fixed capital in forms designed for particular uses and incapable of diversion into other channels. Such rules of the common or customary law as were the outgrowth of an era of mobile capital and free competition no longer fit the conditions under which we are living.
In a conflict between economic forces and legal enactment there can finally be but one outcome. The law must sooner or later adapt itself to life conditions. The real problem to-day is—how shall this adaptation be accomplished; how can statutes be framed which shall check abuses without falling under the wheels of social progress? Right here a swarm of half-informed theorizers are rushing in where trained economists fear to tread. It is difficult and dangerous ground, but there is at least one measure of legal reform—take away the right of one corporation to hold stock in another—which might be urged with confidence were it not for the existence of sundry oppressive and conflicting state laws.
The abolition by law of the holding-company device is no new suggestion. It was strongly urged years ago by the late Edward B. Whitney. It was the keystone of the famous "Seven Sisters" statutes, enacted with loud acclaim in New Jersey at the behest of Governor Woodrow Wilson (but subsequently repealed and thrown into the discard). Such a measure would be more effective and far-reaching than the public supposes. Nearly all the so-called trusts have been organized and are being held together in whole or in part, by the holding-company device. In many cases this has been done merely as an innocent measure of convenience. The device, however, is a perversion of the corporate machine to uses not contemplated by its inventors and fraught with danger. It is too powerful a weapon in the hands of those alive to its possibilities, enabling a small group of men with a relatively insignificant investment of capital to control a country-wide industry. Take the simplest possible illustration: The industry of manufacturing a particular commodity is carried on by a number of corporations scattered throughout the country with an aggregate capitalization of, say, $10,000,000. A, B, and C form a holding company to acquire a bare majority of the stock of each corporation, say $5,100,000 in the aggregate. They dispose of 49 per cent. of the holding company's stock to the public, retaining a working majority. At one step they have secured absolute control of a $10,000,000 industry with an investment of little more than one-quarter of that amount, and by pursuing the same process further they can reduce the investment necessary for controlling the industry almost to the vanishing point.
[Footnote 1: Laws of New Jersey of 1913, chaps. 13-19.]
It is needless to enlarge on the possible abuses of the holding-company device. They are coming to light more and more. The remedy, however, is not so simple as it seems at first blush. A summary abolition of the holding-company device would result in great injury and hardship to industry. In the present condition of the corporation laws of certain of the states, the right of large corporations to operate through local subsidiary corporations is a practical necessity. Otherwise they would be subjected to well-nigh intolerable exactions and interference. It has been the policy in some states in dealing with foreign corporations to attempt to impose, under the guise of fees for the privilege of doing business in the state, a tax on all their property and business wherever situated. Some of the attempts have been nullified by the Supreme Court as violative of the prohibition of the Fourteenth Amendment against taking property without due process of law, but these decisions have not wholly remedied the evil or checked the ingenuity of state legislators. In some jurisdictions great corporations seem to be regarded as fair game for which there is no closed season.
Right here the scheme of federal incorporation brought forward during President Taft's administration has many attractions to offer. It would do away with the principal excuse for the holding-company device, and pave the way for its abolition. It should satisfy the general public because it would clothe the Government with enormously increased powers of regulation and control; it should be attractive to the corporations because it would afford relief from many of the intolerable restrictions, not always fair or intelligent, imposed by state legislatures. Under present conditions the right of a corporation of one state to do business in another (other than business of an interstate character) rests merely upon comity and may be granted or refused upon such terms as interest or prejudice may dictate. The right of a federal corporation to do business in the several states, on the other hand, rests upon the powers conferred on Congress by the Constitution and is not subject to the whims of state lawmakers. Such a corporation is not "foreign" in the states into which its activity extends and state laws aimed at foreign corporations will not hit it. Moreover a corporation with a federal charter can always take its controversies into the federal courts (except when Congress expressly forbids)—a right of extreme practical value where anti-corporation feeling or local prejudice is strong.
[Footnote 1: The Act of Jan. 28, 1915, took away this right in the case of railroad companies incorporated under federal charter (38 Stat. 804).]
The scheme of federal incorporation presents some constitutional questions. As pointed out in a previous chapter, the Constitution nowhere expressly confers on Congress the right to grant corporate charters. Under Chief Justice Marshall's doctrine of "Implied Powers," however, it has become well settled that Congress has implied power to charter a corporation whenever that is an appropriate means of exercising one of the powers expressly conferred, for example, the power to regulate interstate commerce. The most serious constitutional question appears to be whether Congress can authorize such a corporation to manufacture, the process of manufacturing not being an activity of an interstate character. In any event, the difficulty could be surmounted by a constitutional amendment. In these days of facile amendment such a thing seems quite within the range of possibility.
The scheme of federal incorporation is by no means new. In the Convention of 1787 which framed the Constitution, Mr. Madison advocated giving Congress the power to grant charters of incorporation. The proposition, however, did not find favor, Mr. King suggesting that it might foster the creation of mercantile monopolies.
[Footnote 1: See Farrand, "Records of the Federal Convention," Vol. II, pp. 615-616, 620.]
This objection would scarcely be urged to-day, when the country-wide operations of the so-called "trusts" have given them a national character and made their control by federal power a practical necessity.
WHAT OF THE FUTURE?
In the preceding pages we have observed from various viewpoints the impressive phenomenon of federal encroachment upon state power. It must have become obvious to the most casual reader that the tide is running swiftly and has already carried far. Hamilton was mistaken when he predicted in the Federalist that the National Government would never encroach upon the state authorities.
[Footnote 1: Federalist, Numbers XVII, XXXI.]
What then of the future? Is the Constitution hopelessly out of date? Are the states to be submerged and virtually obliterated in the drift toward centralization? No thoughtful patriot can view such a possibility without the gravest misgivings. The integrity of the states was a cardinal principle of our governmental scheme. Abandon that and we are adrift from the moorings which to the minds of statesmen of past generations constituted the safety of the republic.
No mere appeal to precedents and governmental theory will check the current. The Americans are a practical people, moving forward with conscious power toward the attainment of their aims, along the lines which seem to them most direct. They are more interested in results than in methods or theories. Experience has demonstrated that federal control often spells uniformity and efficiency where state control had meant divisions and weakness. They favor federal control because it gets results.
There is another aspect of the matter, however. The burden of federal bureaucracy is beginning to be felt by the average man. He is being regulated more and more, in his meats and drinks, his morals and the activities of his daily life, from Washington. If he will only stop and think he must realize that no one central authority can supervise the daily lives of a hundred million people, scattered over half a continent, without becoming top-heavy. He must realize, too, that, even if such a centralization of power and responsibility were humanly possible, our National Government is unsuited for the task. The electorate is too numerous and heterogeneous; its interests and needs are too diverse. Shall the conduct of citizens of Mississippi be prescribed by vote of congressmen from New York, or supervised at the expense of New York taxpayers? Will an educational system suitable for Massachusetts necessarily fit the young of Georgia? Such suggestions carry their own answer. In the very nature of things there is bound to be a reaction against centralization sooner or later. The real question is whether it will come in time to save the present constitutional scheme.
The makers of the Constitution never intended that the people of one state should regulate, or pay for supervising, the conduct of citizens of another state. They made a division of governmental powers between nation and states along broad and obvious lines. To the Federal Government were entrusted matters of a strictly national character—foreign relations, interstate commerce, fiscal and monetary system, post office, patents and copyrights. Everything else was reserved, to the states or the people. Here was a scheme at once explicit and elastic. Explicit as to the nature of the functions to be performed by the National Government; elastic enough to permit the exercise of all other powers reasonably incidental to the powers expressly granted. The Constitution is not, and never was intended to be, a strait-jacket.
Proofs abound of the adequacy of the constitutional scheme to deal with changing conditions. For example, when the Constitution was adopted, railroads, the most powerful economic force in our present civilization, were unknown. Nevertheless, the Constitution contains adequate provision for dealing with the railroads. They are instruments of interstate commerce and may be controlled by the Federal Government under the express grant of power to regulate such commerce. Similar considerations apply in the case of those nationwide industrial combinations popularly known as "trusts." Their activities are largely in the field of interstate commerce and are subject to control as such by the Federal Government. Theoretically, only such activities of the railroads and trusts as are of an interstate character fall within the federal jurisdiction. Everything else lies within the jurisdiction of the states. However, a practical people will not long permit matters which are essentially single and entire in their nature (for example, railroad classifications and rates) to be split up merely for purposes of legal jurisdiction and control. In such matters, therefore, some measure of federal encroachment is inevitable in order that industry and progress shall not be hampered. The encroachment, however, is more apparent than real. The industries are national in scope, and all the activities of each are more or less interwoven and interdependent. Hence state regulation of the intrastate activities may sometimes be overruled as an interference with federal regulation of the interstate commerce. There is nothing in this which involves any real violation of the Constitution. It is merely an application of Marshall's doctrine of implied powers.
Social welfare legislation presents a very different problem. Some of the most dangerous assaults upon the Constitution to-day are being made in that field. The leaven of socialistic ideas is working. Representative government is becoming more paternalistic. Legislation dealing with conduct and social and economic conditions is being demanded by public sentiment in constantly increasing measure. Such legislation for the most part affects state police power and lies clearly outside the scope of the powers conferred by the Constitution on the National Government. Moreover, "the insulated chambers afforded by the several states" (to borrow a phrase of Justice Oliver Wendell Holmes) are ideal fields for social experiment. If an experiment succeed, other states will follow suit. If it prove disastrous, the damage is localized. The nation as a whole remains unharmed. The sponsors for such legislation, however, are seldom content to deal with the states. Reform was ever impatient. The state method seems too slow, and the difficulty of securing uniformity too formidable. Moreover, it often happens that some states are indifferent to the reform proposed or even actively hostile. Accordingly, recourse is had to Congress, and Congress looks for a way to meet the popular demand. There being no direct way, and public sentiment being insistent, Congressmen find themselves under the painful necessity of circumventing the Constitution they have sworn to uphold. The desired legislation is enacted under the guise of an act to regulate commerce or raise revenue, and the task of upholding the Constitution is passed to the Supreme Court.
Such subterfuges, far from arousing public condemnation, are praised by the unthinking as far-sighted statesmanship. It is popular nowadays to apply the term "forward-looking" to people who would make the National Government an agency for social-welfare work, and to characterize as "lacking in vision" anyone who interposes a constitutional principle in the path of a social reform. Friends of progress sometimes forget that the real forward-looking man is he who can see the pitfall ahead as well as the rainbow; the man of true vision is one whose view of the stars is steadied by keeping his feet firmly on the ground.
It cannot be reiterated too often that, under our political system, legislation in the nature of police regulation (except in so far as it affects commerce or foreign relations) is the province of the states, not of the National Government. This is not merely sound constitutional law; it is good sense as well. Regulations salutary for Scandinavian immigrants of the northwest may not fit the Creoles of Louisiana. In the long run the police power will be exercised most advantageously for all concerned by local authority.
The present tendency toward centralization cannot go on indefinitely. A point must be reached sooner or later when an over-centralized government becomes intolerable and breaks down of its own weight. As an eminent authority has put it: "If we did not have states we should speedily have to create them." The states thus created, however, would not be the same. They would be mere governmental subdivisions, without the independence, the historic background, the traditions, or the sentiment of the present states. These influences, hitherto so potent in our national life, would have been lost.
[Footnote 1: Address of Supreme Court Justice Charles E. Hughes before New York State Bar Association, January 14, 1916.]
In a memorable address delivered in the year 1906 before the Pennsylvania Society in New York, Elihu Root, then Secretary of State in President Roosevelt's Cabinet, discussed the encroachments of federal power and expressed the view that the only way in which the states could maintain their power and authority was by awakening to a realization of their own duties to the country at large. He said:
The Governmental control which they (the people) deem just and necessary they will have. It may be that such control would better be exercised in particular instances by the governments of the states, but the people will have the control they need either from the states or from the National Government; and if the states fail to furnish it in due measure, sooner or later constructions of the Constitution will be found to vest the power where it will be exercised—in the National Government. The true and only way to preserve state authority is to be found in the awakened conscience of the states, their broadened views and higher standard of responsibility to the general public; in effective legislation by the states, in conformity to the general moral sense of the country; and in the vigorous exercise for the general public good of that state authority which is to be preserved.
Those words, spoken fifteen years ago, were prophetic. Moreover, they are as true to-day as when they were uttered.
Will the people see these things in time? Americans with pride in their country's past and confidence in her future dare not say No. The awakening may be slow. Currents of popular will are not readily turned. It is hard to make the people think. But if leaders and teachers do their part American intelligence and prudence will assert themselves, and the slogan of an awakened public sentiment may yet be: "Back to the Constitution!"
CONSTITUTION OF THE UNITED STATES OF AMERICA
WE THE PEOPLE of the United States, in Order to form a more perfect Union, establish Justice, insure domestic Tranquility, provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity, do ordain and establish this CONSTITUTION for the United States of America.
SECTION 1. All legislative Powers herein granted shall be vested in a Congress of the United States, which shall consist of a Senate and House of Representatives.
SECTION 2. The House of Representatives shall be composed of Members chosen every second Year by the People of the several States, and the Electors in each State shall have the Qualifications requisite for Electors of the most numerous Branch of the State Legislature.
No Person shall be a Representative who shall not have attained to the Age of twenty-five Years, and been seven Years a Citizen of the United States, and who shall not, when elected, be an Inhabitant of that State in which he shall be chosen.
Representatives and direct Taxes shall be apportioned among the several States which may be included within this Union, according to their respective Numbers which shall be determined by adding to the whole Number of free Persons, including those bound to Service for a Term of Years, and excluding Indians not taxed, three-fifths of all other Persons. The actual Enumeration shall be made within three Years after the first Meeting of the Congress of the United States, and within every subsequent Term of ten Years, in such Manner as they shall by Law direct. The Number of Representatives shall not exceed one for every thirty Thousand, but each State shall have at Least one Representative; and until such enumeration shall be made, the State of New Hampshire shall be entitled to chuse three, Massachusetts eight, Rhode Island and Providence Plantations one, Connecticut five, New York six, New Jersey four, Pennsylvania eight, Delaware one, Maryland six, Virginia ten, North Carolina five, South Carolina five, and Georgia three.
When vacancies happen in the Representation from any State, the Executive Authority thereof shall issue Writs of Election to fill such Vacancies.
The House of Representatives shall chuse their Speaker and other Officers; and shall have the sole Power of Impeachment.
SECTION 3. The Senate of the United States shall be composed of two Senators from each State, chosen by the Legislature thereof, for six Years; and each Senator shall have one Vote.
Immediately after they shall be assembled in Consequence of the first Election, they shall be divided as equally as may be into three Classes. The Seats of the Senators of the first Class shall be vacated at the Expiration of the second Year, of the second Class at the Expiration of the fourth Year, and of the third Class at the Expiration of the sixth Year, so that one third may be chosen every second Year; and if Vacancies happen by Resignation, or otherwise, during the Recess of the Legislature of any State, the Executive thereof may make temporary Appointments until the next Meeting of the Legislature, which shall then fill such Vacancies.
No Person shall be a Senator who shall not have attained to the Age of thirty Years, and been nine Years a Citizen of the United States, and who shall not, when elected, be an Inhabitant of that State for which he shall be chosen.
The Vice President of the United States shall be President of the Senate, but shall have no Vote, unless they be equally divided.
The Senate shall chuse their other Officers, and also a President pro tempore, in the Absence of the Vice President, or when he shall exercise the Office of President of the United States.
The Senate shall have the sole Power to try all Impeachments. When sitting for that Purpose, they shall be on Oath or Affirmation. When the President of the United States is tried, the Chief Justice shall preside: And no Person shall be convicted without the Concurrence of two thirds of the Members present.
Judgment in Cases of Impeachment shall not extend further than to removal from Office, and disqualification to hold and enjoy any Office of honor, Trust or Profit under the United States: but the Party convicted shall nevertheless be liable and subject to Indictment, Trial, Judgment and Punishment, according to Law.
SECTION 4. The Times, Places and Manner of holding Elections for Senators and Representatives, shall be prescribed in each State by the Legislature thereof; but the Congress may at any time by Law make or alter such Regulations, except as to the Places of chusing Senators.
The Congress shall assemble at least once in every Year, and such Meeting shall be on the first Monday in December, unless they shall by Law appoint a different Day.
SECTION 5. Each House shall be the Judge of the Elections, Returns and Qualifications of its own Members, and a Majority of each shall constitute a Quorum to do Business; but a smaller Number may adjourn from day to day, and may be authorized to compel the Attendance of absent Members, in such Manner, and under such Penalties as each House may provide.
Each House may determine the Rules of its Proceedings, punish its Members for disorderly Behavior, and, with the Concurrence of two thirds, expel a Member.
Each House shall keep a Journal of its Proceedings, and from time to time publish the same, excepting such Parts as may in their Judgment require Secrecy; and the Yeas and Nays of the Members of either House on any question shall, at the Desire of one fifth of those Present, be entered on the Journal.
Neither House, during the Session of Congress, shall, without the Consent of the other, adjourn for more than three days, nor to any other Place than that in which the two Houses shall be sitting.
SECTION 6. The Senators and Representatives shall receive a Compensation for their Services, to be ascertained by Law, and paid out of the Treasury of the United States. They shall in all Cases, except Treason, Felony and Breach of the Peace, be privileged from Arrest during their Attendance at the Session of their respective Houses, and in going to and returning from the same; and for any Speech or Debate in either House, they shall not be questioned in any other Place.
No Senator or Representative shall, during the Time for which he was elected, be appointed to any civil Office under the Authority of the United States, which shall have been created, or the Emoluments whereof shall have been encreased during such time; and no Person holding any Office under the United States, shall be a Member of either House during his Continuance in Office.
SECTION 7. All Bills for raising Revenue shall originate in the House of Representatives; but the Senate may propose or concur with Amendments as on other Bills.
Every Bill which shall have passed the House of Representatives and the Senate, shall, before it become a Law, be presented to the President of the United States; If he approve he shall sign it, but if not he shall return it, with his Objections to that House in which it shall have originated, who shall enter the Objections at large on their Journal, and proceed to reconsider it. If after such Reconsideration two thirds of that House shall agree to pass the Bill, it shall be sent, together with the Objections, to the other House, by which it shall likewise be reconsidered, and if approved by two thirds of that House, it shall become a Law. But in all such Cases the Votes of both Houses shall be determined by Yeas and Nays, and the Names of the Persons voting for and against the Bill shall be entered on the Journal of each House respectively. If any Bill shall not be returned by the President within ten Days (Sundays excepted) after it shall have been presented to him, the Same shall be a Law, in like Manner as if he had signed it, unless the Congress by their Adjournment prevent its Return, in which Case it shall not be a Law.
Every Order, Resolution, or Vote to which the Concurrence of the Senate and House of Representatives may be necessary (except on a question of Adjournment) shall be presented to the President of the United States; and before the Same shall take Effect, shall be approved by him, or being disapproved by him, shall be repassed by two thirds of the Senate and House of Representatives, according to the Rules and Limitations prescribed in the Case of a Bill.