WhatIsIncome

What Is Income

Some Basics

(updated links, Dec. 20, 2019)

The subject of the various prior and current income tax acts, income, has always been directly connected to a particular phrase: “gains, profits, and income.” For example, the 1894 act, titled “An Act To reduce taxation, to provide revenue for the Government, and for other purposes,” approved August 27, 1894, 28 Stat. 509, ch. 349, provided as follows (starting on page 553):

“SEC. 27. That from and after the first day of January, eighteen hundred and ninety-five, and until the first day of January, nineteen hundred, there shall be assessed, levied, collected, and paid annually upon the gains, profits, and income received in the preceding calendar year by every citizen of the United States, whether residing at home or abroad, and every person residing therein, whether said gains, profits, or income be derived from any kind of property, rents, interest, dividends, or salaries, or from any profession, trade, employment, or vocation carried on in the United States or elsewhere, or from any other source whatever, ***.”

This tax was declared unconstitutional in the Pollock case when the Supreme Court declared it to be a direct tax that failed to comply with the apportionment requirement of the Constitution. See Pollock v. Farmers' Loan & Trust Co., 157 U.S. 429, aff. reh., 158 U.S. 601 (1895).

In 1909, Congress proposed for ratification by the States the Sixteenth Amendment, the federal income tax amendment. At the same time, it adopted the Corporate Excise Tax of 1909, 36 Stat. 112, §38, which was in essence an income tax. This tax was found constitutional as an excise tax in Flint v. Stone Tracy Co., 220 U.S. 107 (1911).

A couple of years later in Stratton's Independence, Ltd. v. Howbert, 231 U.S. 399, 415 (1913), a case involving the 1909 act, the Supreme Court defined “income” as “the gains derived from capital, from labor, or from both combined.”

After the alleged ratification of the Sixteenth Amendment, Congress adopted in October, 1913, the first federal income tax based thereon. In reference to the subject of this tax, income, this act, titled “An Act To reduce tariff duties and to provide revenue for the Government, and for other purposes,” 38 Stat. 114, 167, ch. 16, imposed this tax as follows:

“B. That, subject only to such exemptions and deductions as are hereinafter allowed, the net income of a taxable person shall include gains, profits, and income derived from salaries, wages, or compensation for personal service of whatever kind and in whatever form paid, or from professions, vocations, businesses, trade, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in real or personal property, also from interest, rent, dividends, securities, or the transaction of any lawful business carried on for gain or profit, or gains or profits and income derived from any source whatever, including the income from but not the value of property acquired by gift, bequest, devise, or descent:”

Like the challenge made to the 1909 Corporate Excise Tax Act, a challenge was also made to the constitutionality of this 1913 income tax act. The Supreme Court in Brushaber v. Union Pacific Railroad Co., 240 U.S. 1 (1916), declared that the federal income tax was, in a constitutional sense, an excise tax. See also Hale v. Iowa State Bd. of Assessment and Review, 302 U.S. 95, 106 (1937) (“Finally, and even more conclusively, decisions of our own court forbid us to stigmatize as unreasonable the classification of a tax upon net income as something different from a property tax, if not substantially an excise. People ex rel. Clyde v. Gilchrist, 262 U.S. 94, 43 S.Ct. 501; New York ex rel. Cohn v. Graves, 300 U.S. 308, 57 S.Ct. 466, 108 A.L.R. 821; Brushaber v. Union Pacific R.R. Co., 240 U.S. 1, 36 S.Ct. 236, L.R.A.1917D, 414, Ann.Cas. 1917B, 713, all point in that direction.”).

A few months after the decision in Brushaber, Congress repealed the 1913 income tax act and enacted a new federal income tax. See “An Act To increase the revenue, and for other purposes,” 39 Stat. 756, 757, ch. 463. This act followed its predecessors and defined income as follows:

“INCOME DEFINED.
“SEC. 2. (a) That, subject only to such exemptions and deductions as are hereinafter allowed, the net income of a taxable person shall include gains, profits, and income derived from salaries, wages, or compensation for personal service of whatever kind and in whatever form paid, or from professions, vocations, businesses, trade, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in real or personal property, also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever:”

A year later, Congress amended the 1916 act via the 1917 act. See “An Act To provide revenue to defray war expenses, and for other purposes”, 40 Stat. 300, 329, ch. 63. Again, the phrase, “gains, profits, and income,” appeared in this act:

“SEC. 1200. That subdivision (a) of section two of such Act of September eighth, nineteen hundred and sixteen, is hereby amended to read as follows:
“(a) That, subject only to such exemptions and deductions as are hereinafter allowed, the net income of a taxable person shall include gains, profits, and income, derived from salaries, wages, or compensation for personal service of whatever kind and in whatever form paid, or from professions, vocations, businesses, trade, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in real or personal property, also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever.”

The Revenue Act of 1918, titled “An Act To provide revenue, and for other purposes”, 40 Stat. 1057, ch. 18, contained this “gains, profits, and income” phrase:

“GROSS INCOME DEFINED.
“SEC. 213. That for the purposes of this title (except as otherwise provided in section 233) the term ‘gross income’—
“(a) Includes gains, profits, and income derived from salaries, wages, or compensation for personal service (including in the case of the President of the United States, the judges of the Supreme and inferior courts of the United States, and all other officers and employees, whether elected or appointed, of the United States, Alaska, Hawaii, or any political subdivision thereof, or the District of Columbia, the compensation received as such), of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever.”

The Revenue Act of 1921 was adopted by Congress on November 23, 1921. See “An Act To reduce and equalize taxation, to provide revenue, and for other purposes,” 42 Stat. 227, 237-38, ch. 136. It contained this phrase:

The Revenue Act of 1924 was adopted by Congress on June 2, 1924. See “An Act To reduce and equalize taxation, to provide revenue, and for other purposes,” 43 Stat. 253, 267, ch. 234. It contained this phrase:

“GROSS INCOME DEFINED.
“SEC. 213. For the purposes of this title, except as otherwise provided in section 233—
“(a) The term ‘gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service (including in the case of the President of the United States, the judges or the Supreme and inferior courts of the United States, and all other officers and employees, whether elected or appointed, of the United States, Alaska, Hawaii, or any political subdivision thereof, or the District of Columbia, the compensation received as such), of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever.”

The Revenue Act of 1926, titled “An Act To reduce and equalize taxation, to provide revenue, and for other purposes,” 44 Stat. 9, 23-24, ch. 27, contained this phrase:

“GROSS INCOME DEFINED
“SEC. 213. For the purposes of this title, except as otherwise provided in section 233—
“(a) The term ‘gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service (including in the case of the President of the United States, the judges of the Supreme and inferior courts of the United States, and all other officers and employees, whether elected or appointed, of the United States, Alaska, Hawaii, or any political subdivision thereof, or the District of Columbia, the compensation received as such), of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever.”

The Revenue Act of 1928, titled “An Act To reduce and equalize taxation, provide revenue, and for other purposes,” 45 Stat. 791, 797, ch. 852, contained this phrase:

“SEC. 22. GROSS INCOME.
“(a) General definition.—‘Gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever.”

The Revenue Act of 1932, titled “An Act To provide revenue, equalize taxation, and for other purposes,” 47 Stat. 169, 178, ch. 209, contained this phrase:

“SEC. 22. GROSS INCOME.
“(a) GENERAL DEFINITION.—‘Gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. In the case of Presidents of the United States and judges of courts of the United States taking office after the date of the enactment of this Act, the compensation received as such shall be included in gross income; and all Acts fixing the compensation of such Presidents and judges are hereby amended accordingly.”

The Revenue Act of 1934, titled “An Act To provide revenue, equalize taxation, and for other purposes,” 48 Stat. 680, 686-87, ch. 277, contained this phrase:

“SEC. 22. GROSS INCOME.
“(a) GENERAL DEFINITION. —‘Gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. In the case of Presidents of the United States and judges of courts of the United States taking office after June 6, 1932, the compensation received as such shall be included in gross income; and all Acts fixing the compensation of such Presidents and judges are hereby amended accordingly.”

The Revenue Act of 1936, titled “An Act To provide revenue, equalize taxation, and for other purposes,” 49 Stat. 1648, 1657, ch. 690, contained this phrase:

“SEC. 22. GROSS INCOME.
“(a) GENERAL DEFINITION.—‘Gross income’ includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. In the case of Presidents of the United States and judges of courts of the United States taking office after June 6, 1932, the compensation received as such shall be included in gross income; and all Acts fixing the compensation of such Presidents and judges are hereby amended accordingly.”

The Revenue Act of 1938, titled “An Act To provide revenue, equalize taxation, and for other purposes,” 52 Stat. 447, 457, ch. 289, contained this phrase:

“SEC. 22. GROSS INCOME.
“(a) GENERAL DEFINITION.—'Gross income' includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. In the case of Presidents of the United States and judges of courts of the United States taking office after June 6, 1932, the compensation received as such shall be included in gross income; and all Acts taxing the compensation of such Presidents and judges are hereby amended accordingly.”

And finally, the 1939 Internal Revenue Code (53A, Statutes at Large) contained this phrase:

Extracts of the various acts from which the above are quotes are linked here. Please notice that the statutory definition of “gross income” uses the phrase “gains, profits and income”, which is repeated in the withholding provisions for non-resident aliens and foreign corporations.

The cases defining “income” have defined this word essentially as “gains.” See Stratton's Independence, Ltd. v. Howbert, 231 U.S. 399, 415 (1913) (“for ‘income’ may be defined as the gains derived from capital, from labor, or from both combined, and here we have combined operations of capital and labor.”); Doyle v. Mitchell Bros. Co., 247 U.S. 179, 185 (1918)(“Whatever difficulty there may be about a precise and scientific definition of ‘income,’ it imports, as used here, something entirely distinct from principal or capital either as a subject of taxation or as a measure of the tax; conveying rather the idea of gain or increase arising from corporate activities. As was said in Stratton’s Independence v. Howbert, 231 U.S. 399, 415: ‘Income may be defined as the gain derived from capital, from labor, or from both combined’.”); Eisner v. Macomber, 252 U.S. 189, 207 (1920)(“‘Income may be defined as the gain derived from capital, from labor, or from both combined,’ provided it be understood to include profit gained through a sale or conversion of capital assets.”); Goodrich v. Edwards, 255 U.S. 527, 535 (1921)(“And the definition of ‘income’ approved by this Court is: ‘The gain derived from capital, from labor, or from both combined,’ provided it be understood to include profits gained through sale or conversion of capital assets.’”); Bowers v. Kerbaugh-Empire Co., 271 U.S. 170, 174 (1926)(“income may be defined as gain derived from capital, from labor, or from both combined, including profit gained through sale or conversion of capital.”); CIR v. Culbertson, 337 U.S. 733, 740 (1949)(“This is after all, but the application of an often iterated definition of income — the gain derived from capital, from labor, or from both combined.”); and CIR v. Glenshaw Glass Co., 348 U.S. 426, 431 (1955)(defined income as “accessions to wealth, clearly realized”.). See also Noel v. Parrott, 15 F.2d 669, 672 (4th Cir. 1926)(“It has been expressly decided that income, within the meaning of the Sixteenth Amendment and the Income Tax Acts passed pursuant thereto, is a gain derived from capital, from labor, or from both combined, including profit gained through sale or conversion of capital assets.”). Other lower courts that have defined “income” simply by quoting Eisner are CIR v. Simmons Gin Co., 43 F.2d 327, 328 (10th Cir. 1930); Bass v. Hawley, 62 F.2d 721, 723 (5th Cir. 1933); Drier v. Helvering, 72 F.2d 76 (D.C. Cir. 1934); Central R. Co. of New Jersey v. CIR, 79 F.2d 697, 699 (3rd Cir. 1935); Hawke v. CIR, 109 F.2d 946, 949 (9th Cir. 1940); National Bank of Commerce of Seattle v. CIR, 115 F.2d 875, 876 (9th Cir. 1940); Sprouse v. CIR, 122 F.2d 973, 975 (9th Cir. 1941); McKnight v. CIR, 127 F.2d 572, 573 (5th Cir. 1942); Cheley v. CIR, 131 F.2d 1018, 1020 (10th Cir. 1942); Meyer v. CIR, 383 F.2d 883, 891 (8th Cir. 1967); In re Given’s Estate, 323 Pa. 456, 462, 185 A. 778 (1936); State v. Flenner, 236 Ala. 228, 231, 181 So. 786 (1938); and Schuette v. Wisconsin Tax Comm., 234 Wis. 574, 586, 292 N.W. 9 (1940). See also Dallas Transfer & Terminal Warehouse Co. v. CIR, 70 F.2d 95, 96 (5th Cir. 1934)(“Taxable income is not acquired by a transaction which does not result in the taxpayer getting or having anything he did not have before. Gain or profit is essential to the existence of taxable income. A transaction whereby nothing of exchangeable value comes to or is received by a taxpayer does not give rise to or create taxable income.”); Hirsch v. CIR, 115 F.2d 656, 657 (7th Cir. 1940); Connor v. United States, 439 F.2d 974, 980 (5th Cir. 1971)(“We agree with the District Court that ‘there must be gain before there is income within the meaning of the sixteenth amendment’.”); Beard v. South Carolina Tax Comm., 230 S.C. 357, 368, 95 S.E.2d 628 (1956) (“the word ‘income’ as used in a tax statute is to be taken in its ordinary sense of gain or profit.”); Plasse v. Comm. of Revenue Services, 49 Conn. Sup. 38, 40, 858 A.2d 919 (Conn.Super. 2003)(“Income may be defined as the gain derived from capital, from labor, or from both combined, provided it be understood to include profit gained through a sale or conversion of capital assets.”); and Weiss v. McFadden, 353 Ark. 868, 876, 120 S.W.3d 545 (2003)(“income for purposes of income taxation ‘may be defined as the gain derived from capital, from labor, or from both combined.’”).

And from Southern Pacific v. Lowe, 247 U.S. 330 (1928), “We must reject...the broad contention submitted in behalf of the government that all receipts ... everything that comes in ... are income”.

Here is an interesting test for students of the federal income tax to perform. Download the searchable old tax acts: the Revenue Act of 1918 through the 1939 Code, the 1954 Code, and the 2002 version of the 1986 Code. Search these income tax acts for the phrase “gains, profits”, which will thus find all references to this phrase, “gains, profits, and income.” Why does this search demonstrate a certain pattern in the tax acts, with particular emphasis on non-resident aliens and foreign corporations?

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Taxing the Right To Work

Here are some important state cases regarding the taxability of compensation for labor:

O'Keefe v. City of Somerville, 190 Mass. 110, 76 N.E. 457, 458 (1906): “cannot levy an excise tax upon the business of a husbandman or an ordinary mechanic”.

Sims v. Ahrens, 167 Ark. 557, 271 S.W. 720, 733 (1925): “[T]he Legislature has no power to declare as a privilege and tax for revenue purposes occupations that are of common right, but it does have the power to declare as privileges and tax as such for state revenue purposes those pursuits and occupations that are not matters of common right...”

Redfield v. Fisher, 135 Or. 180, 292 P. 813, 819 (Ore. 1930): “The individual, unlike the corporation, cannot be taxed for the mere privilege of existing. The corporation is an artificial entity which owes its existence and charter powers to the state; but the individual's rights to live and own property are natural rights for the enjoyment of which an excise cannot be imposed.”

Jerome H. Sheip Co. v. Amos, 100 Fla. 863, 130 So. 699, 705 (1930): gas tax case: “A man is free to lay hand upon his own property. To acquire and possess property is a right, not a privilege ... The right to acquire and possess property cannot alone be made the subject of an excise .... nor, generally speaking, can an excise be laid upon the mere right to possess the fruits thereof, as that right is the chief attribute of ownership.”

Cary v. Bellingham, 41 Wn.2d 468, 250 P.2d 114 (1952): excise can’t be used to tax right to work.

Jack Cole Co. v. MacFarland, 337 S.W.2d 453, 455-56 (Tenn. 1960): “Realizing and receiving income or earnings is not a privilege that can be taxed. * * * Since the right to receive income or earnings is a right belonging to every person, this right cannot be taxed as a privilege.”

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“Exempt” Pursuant to the Constitution

Starting with Regs 45 for the Revenue Act of 1918, certain sections of the regs mentioned that some income was “fundamentally” exempt from the tax, or exempt pursuant to the Constitution and thus not taxable by the Federal Government. For your convenience, extracts of these various regulations are included here:

Please notice that when Congress expanded the imposition of the tax to foreign companies maintaining an office or place of business in the United States, this phrase was extended to those companies.