The Revenue Act of 1916: Its Tax and Tariff Provisions

As World War I engulfed Europe, a “Preparedness Movement” gained traction across the United States. Advocates, including former President Theodore Roosevelt, argued for a significant expansion of the U.S. Army and Navy. President Woodrow Wilson, initially resistant, eventually embraced a moderate preparedness program in late 1915, creating an urgent need for more federal revenue to fund the military buildup.

To meet this financial challenge, Congress crafted the Revenue Act of 1916. The legislation was a comprehensive fiscal policy that introduced new forms of taxation and raised rates on existing ones, altering the government’s financial structure. The law’s passage laid the financial groundwork for America’s potential entry into the war and established tax principles that would influence government finance for decades.

Expansion of the Income Tax

The Revenue Act of 1916 significantly altered the income tax system. The “normal” income tax rate doubled from 1% to 2% on taxable income. The personal exemption was set at $3,000 for single individuals and $4,000 for married couples.

A more dramatic change was a restructured and sharply increased “additional tax,” or surtax, levied on higher levels of income. This surtax was highly progressive, designed to place a larger share of the funding burden on the nation’s wealthiest citizens. The new structure began with a 1% tax on income between $20,000 and $40,000 and escalated through thirteen brackets, peaking at a 13% surtax on income exceeding $2 million.

When combined with the 2% normal tax, the top marginal tax rate reached 15%, a substantial increase from the previous 7% maximum. The act also increased the corporate income tax rate from 1% to 2%.

Creation of the Federal Estate Tax

A provision of the Revenue Act of 1916 was the creation of the first permanent federal estate tax. An estate tax is a levy on the net value of a deceased person’s property before it is transferred to heirs. While temporary death taxes had been used before, this act established the tax as a lasting part of the federal revenue system. The tax was applied to a decedent’s “net estate,” calculated by subtracting deductions like funeral expenses from the gross value.

The new estate tax was progressive, with rates increasing as the estate’s value grew. The act included an exemption of $50,000, protecting smaller estates from the levy. For the taxable portion above this exemption, the tax began at a rate of 1% for net estates up to $50,000.

The rates climbed through ten brackets as the estate’s value increased. For instance, an estate valued between $150,000 and $250,000 faced a 4% tax rate on that portion of its value. The progression continued upward, reaching its maximum rate of 10% on the portion of a net estate’s value that exceeded $5 million. This new tax not only generated revenue but also reflected the Progressive Era’s concern with the concentration of wealth.

Introduction of the Munitions Profits Tax

The Revenue Act of 1916 introduced a special excise tax targeting the profits of companies manufacturing arms and munitions. This was a direct response to the substantial profits American firms were earning from selling war materials to European nations and the U.S. government. There was widespread sentiment that no one should gain excessive profits from the business of war.

The munitions profits tax was a 12.5% levy on the net profits from manufacturing items such as firearms, cartridges, projectiles, and explosives. This tax was applied in addition to the regular corporate income tax, meaning these companies faced a higher overall tax burden.

This targeted tax was designed to capture a portion of these windfall profits for the federal treasury. It also acted as a deterrent against war profiteering.

Establishment of the Tariff Commission

Beyond its direct revenue-raising measures, the Revenue Act of 1916 contained a significant administrative reform: the creation of the United States Tariff Commission. For decades, setting tariffs—taxes on imported goods—was a highly contentious political process, often driven by lobbying from protected industries rather than objective economic analysis. The new commission was designed to change this by creating an independent, non-partisan body of experts.

The commission’s primary purpose was to investigate all matters related to tariffs and international trade, providing impartial recommendations to the President and Congress. It was tasked with analyzing the impact of tariff rates on American industries, the effects of foreign competition, and the consequences of global economic shifts, particularly those expected after World War I.

The creation of the commission was intended to make tariff policy a more rational and less politically charged process. This represented a move toward a technical and analytical approach to trade policy, which was a hallmark of the Progressive Era’s faith in expertise and efficient governance.