¹ John Locke, Of Civil Government (Second Treatise) ¶140, 142.

² There are difficulties in Locke's account of the original position, which treats all external things as being owned in common while each individual has exclusive ownership of his own person. Locke himself thought that his labor theory of value explained why any individual could take land or other property from the original common pool. But his theory is subject to the criticism that the private ownership it creates is subject to a lien for the benefit of the public at large, for otherwise the individual acquirer gets more than his labor has added. Locke's case would have been made more forcefully if he had taken the basic position of both the common and the Roman law – that all external things are unowned in the original position – for then first possession need not defeat any prior claims. The original no-ownership rule has a utilitarian simplicity, for there is little need to worry about a monopoly over natural resources when each person owns his own labor. For a defense of the common law solution, see Epstein, Richard A., Takings: Private Property and the Power of Eminent Domain, Chs. 2 & 20; and Possession as the Root of Title, 13 Ga. L. Rev. 1221 (1979).Google Scholar

³ The metaphor of bargain has been used to describe other situations in which coercive forced exchanges are designed to overcome common pool problems. Bankruptcy is one such example; see, e.g., Jackson, , Bankruptcy, Non-Bankruptcy Entitlements, and the Creditors' Bargain, 91 Yale L.J. 857 (1982).Google Scholar

⁴ See Frank Michelman, Ethics, Economics, and The Law of Property, 24 NOMOS, Ethics, Economics and the Law 3 (1982) for a vision of the world without such a baseline; and the brief rejoinder by Harold Demsetz, Professor Michelman's Unnecessary And Futile Search For The Philosopher's Touchstone, id. 41.

⁵ See, generally, Russell Hardin, Collective Action (1982) for an account of these difficulties.

⁶ See, e.g., Coleman, The Economic Analysis of Law, 24 NOMOS, Ethics, Economics and Law, Ch. 4 (J. Pennock & J. Chapman eds. 1982).

⁷ In contrast, note that a per capita division of the gain from public expenditures may require explicit cash transfers between members of the society. Who is to pay and who is to collect is far from evident. The pro rata position is designed to avoid the social losses that would follow from any effort to redistribute the surplus by direct transfer payments.

⁸ See note 1, supra.

⁹ See Epstein, , Taxation, Regulation and Confiscation, 20 Osgoode Hall LJ. 433 (1982).Google Scholar

¹⁰ I explore some of these tensions in Richard A. Epstein, Takings, at Ch. 2, 12, and 18; Toward a Revitalization of the Contract Clause, 51 U. Chi. L. Rev. 703 (1984); and Why Restrain Alienation?, 85 Colum. L. Rev. 770 (1985).

¹¹ Here tax neutrality must be kept distinct from the idea of “revenue neutrality” that has been prominent in recent discussions of tax reforms. Revenue neutrality provides that the total revenue collected by the state should not be decreased by any substantive principles of tax reform. But it does not tell us how to decide the soundness of one basic structure against another. As a matter of first principle, once the right structure is worked out, the tax rates should be set so as to provide funds sufficient to discharge the public obligations.

¹² Hence the demand for the pro rata distribution of the surplus. See Coleman, The Economic Analysis of Law.

¹³ On the importance of subjective value generally, see Muris, Timothy, Cost of Completion or Diminution in Market Value: The Relevance of Subjective Value, 12 J. Legal Stud. 379 (1984).Google Scholar The question of subjective value plays an important role in the law of eminent domain, on which I have written generally; Richard A. Epstein, Takings: Private Property and the Power of Eminent Domain (1985).

¹⁴ On this process generally, see Benson, & Baden, , The Political Economy of Governmental Corruption: The Logic of Underground Government, 14 J. Legal Stud. 391 (1985).Google Scholar

¹⁵ Robert Nozick, Anarchy, State and Utopia 169 (1974).

¹⁶ Nozick has some sense of the point for he notes that he equivocates by the use of the phrase “on a par with,” which may mean simply “is” or is “a kind of”; id. at 169, note*. Yet he never explores any of the functional reasons that make for the differences.

¹⁷ One obvious point is that the government normally need not compensate the owner anything for the legal and business costs incurred when condemnation takes place. See, e.g., Bodcaw v. United States, 440 U.S. 202 (1979). For the complications in setting the right rule, see Ayer, , Allocating the Costs of Determining “Just Compensation,” 21 Stan. L. Rev. 693 (1969)Google Scholar, and Epstein, Takings: Private Property and the Power of Eminent Domain, Ch. 4 (1985).

¹⁸ Haig, The Federal Income Tax 7 (R. Haig ed. 1921).

¹⁹ H. Simons, Personal Income Taxation 50 (1938). Professor Bittker has observed that Simons regarded Haig's definition “as interchangeable with his own.” See Bittker, B., A “Comprehensive Tax Base” As a Goal of Income Tax Reform, 80 Harv. L. Rev. 925–932 (1967).Google Scholar It is not clear why Simons chose to measure consumption by market value instead of subjective value. For a discussion of the difficulties with subjective variations, see infra at section (c).

²⁰ Simons was no stranger to political theory; see his Some Reflections on Syndicalism, 52 J. Pol. Econ. 1 (1944), reprinted in H. Simons, Economic Policy for a Free Society (A. Director ed. 1947).

²¹ Internal Revenue Code (I.R.C.), § 165(c)(3).

²² Epstein, , The Consumption and Loss of Personal Property under the Internal Revenue Code, 23 Stan. L. Rev. 454 (1971).Google Scholar

²³ See Andrews, William D., Personal Deductions in an Ideal Income Tax, 86 Harv. L. Rev. 309 (1972).Google Scholar

²⁴ See I.R.C. §61 (a), which contains a general reference to gross income and a long list of included items. Cases of the fringes include such matters as the treatment of punitive damages, on which see Glenshaw Glass Co. v. Commissioner, 348 U.S.426 (1955), covering exemplary damages in fraud cases and the punitive portion of recovery in an antitrust action. The doubts about recovery stemmed from the definition of income used previously by the court in Eisner v. Macomber, 252 U.S. 189 (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”. Note, this definition excludes the gain received in Glenshaw Glass which is, however, taxable under the Haig–Simons definition.

²⁵ Once the point is grasped, it becomes clear that any attack on the Haig–Simons approach that is content to point out deviations from the system is not sufficient to condemn its usefulness. For an illustration of the error, see Bittker, , A “Comprehensive Tax Base” As A Goal Of Income Tax Reform, 80 Harv. L. Rev. 925 (1967)Google Scholar, effectively criticized in Musgrave, , In Defense of an Income Concept, 81 Harv. L. Rev. 44 (1967)Google Scholar, which, while it does not adopt the explicit framework here, takes much the same approach.

²⁶ See Woodsam's Associate v. Commissioner, 198 F. 2d 357 (2d Cir. 1952). See, generally, Marvin Chirelstein, Federal Income Taxation § 13.02 (1985).

²⁷ See, e.g., Slawson, , Taxing Ordinary Income the Appreciation of Publicly Held Stock, 76 Yale L.J. 623 (1967).Google Scholar The opposite side of the coin is the immediate recognition of unrealized losses. Yet the parallel is not precise because even with the realization requirement a taxpayer could always choose to sell in order to recognize the loss. Note too that this strategic power has in more recent times been used by investors in various kinds of options. The basic principle is to invest in a portfolio of options to buy and sell at different prices and dates. As the portfolio is negatively correlated, some items will go up and others down. The losses can then be realized, while the gains are postponed. A forced accounting without realization at the end of the tax year defeats the strategic maneuvers of taxpayers. The problem does not exist in the same degree for stocks because their prices tend to be positively correlated and they have lower volatility.

²⁸ See I.R.C. § 351.

²⁹ See I.R.C. § 1031.

³⁰ See I.R.C. §§167, 168.

³¹ In a world without inflation, the proper formula for depreciation would reduce the value of a long term asset (which has uniform value in use) by the present discounted value of the last remaining year's use, not by straight line depreciation, which simply treats the value of each year's use equally. Again, the error, while large in principle, may not shift wealth between individuals, even if it could (by overencouraging investment) result in some allocative losses. See Marvin Chirelstein, Federal Income Taxation ¶6.07 (4th ed. 1985).

³² See Graetz, , Implementing a Progressive Consumption Tax, 92 Harv. L. Re.1575, 1613–23 (1979).Google Scholar Note, there would be a real disincentive to purchase a home if the full purchase price was regarded as consumption in the year of acquisition. It is possible to defer the collection of the tax over a number of years to reflect the deferred receipt of the benefit. This delayed consumption tax on durables is best understood as the mirror image of the deferred deduction for depreciation now allowed under the income tax.

³³ See, e.g., Andrews, , A Consumption-Type or Cash Flom Personal Income Tax, 87 Harv. L. Rev. 1113 (1974)Google Scholar; Graetz, , Implementing a Progressive Consumption Tax, 92 Harv. L. Rev. 1575 (1979)Google Scholar; Kelman, , Time Preference and Tax Equity, 35 Stan. L. Rev. 649 (1983).Google Scholar Note, throughout I have ignored the flat value-added tax, even though it is surely a plausible substitute for either income or consumption taxes.

³⁴ See I.R.C. § 170(e). In its simplest form, the taxpayer contributes shares that cost $100 but which are now worth $1000 to charity. The right calculation imputes the gain of $900 and then allows the deduction of the full $1000. The deduction appears to be $100, but is in reality more if the imputed gain is taxed at capital gains rates and the deduction is permitted against ordinary income.

³⁵ See I.R.C. § 1014. To explain: if property was bought at $100 and is now worth $1000, the $900 in gain escapes taxation at death, creating the obvious incentive to postpone realization. One solution might be to allow the basis to carry over through death, so that the gain can be obtained on sale. That proves in essence to be quite unworkable if the property is held in trust, because there is no sane formula for the allocation of basis among the beneficial interests. The immediate income tax at death, coupled with the abolition of the estate tax, is the best solution.

³⁶ Here the learned can debate Locke's own position on the matter. The Second Treatise, his most influential work, contains no hint of any obligation to redistribute wealth that is enforceable by the state. In his criticism of Filmer, he has written passages that indicate the power of charitable obligations to the needy. Yet it is quite clear that even here he regards charity as a different domain from justice, and does not take into account the possibility that imperfect obligations of conscience are different both from legal obligations and pure consumption choices. The relevant passage is Chapter 4, ¶ 42, which reads as follows:

42. But we know God hath not left one man so to the mercy of another that he may starve him if he please. God, the Lord and Father of all, has given no one of His children such a property in his peculiar portion of the things of this world but that he has given his needy brother a right in the surplusage of his goods, so that it cannot justly be denied him when his pressing wants call for it; and, therefore, no man could ever have a just power over the life of another by right of property in land or possessions, since it would always be a sin in any man of estate to let his brother perish for want of affording him relief out of his plenty; for as justice gives every man a title to the product of his honest industry and the fair acquisitions of his ancestors descended to him, so ‘charity’ gives every man a title to so much of another's plenty as will keep him from extreme want, where he has no means to subsist otherwise. And a man can no more strength make use of another's planty as will keep him from justly make use of another's necessity to force him to become his vassal, by withholding that relief God requires him to afford to the wants of his brother, than he that has more strength can seize upon a weaker, master him to his obedience, and, with a dagger at his throat, offerhim death or slavery.

It is far from clear how extensive a system of support for the poor this passage calls for. The duty to supply welfare is limited to cases of “extreme want” and not mere poverty. Locke, moreover, nowhere addresses the question of whether the money received has to be repaid should that become possible, and he does not ask whether “justice” and “charity” require the same modes of enforcement. It is quite possible that claims of justice are enforced through the legal system, and those ofcharity by a network of imperfect social obligations. I have ignored redistribution questions entirely here, but developed the case against redistributivist government policiesin Epstein, The Uncertain Quest for Welfare Rights [1985] B.Y.U.L. Rev. 201 (1985).

³⁷ See A. Mitchell Polinsky, An Introduction to Law and Economics, 9–10, 105–113 (1983). The one great unanswered question is whether it is possible to have any effective scheme of income redistribution with a flat tax.

³⁸ See, e.g., Art. I, § 8, cl. 1: “The Congress shall have Powerto 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; but all Duties, Imposts andExcises shall be Uniform throughout the United States”. The provision appears to limit the proper objects of taxation to the provision of various types of public goods, and was tied to the enumerated powers elsewhere in Art. I. Transfer payments, which consume an ever larger fraction of the government, were not part of the business of the federal government under the original scheme.

³⁹ I have discussed these issues at length in Richard A. Epstein, Takings: Private Property and the Power of Eminent Domain, Ch. 18 (1985).

⁴⁰ See, e.g., A. Magnano Co. v. Hamilton, 292 U.S. 40 (1934); Alaska Fish Salting & By– Products Co. v. Smith, 255 U.S. 44 (1921).

⁴¹ “While theorists may argue about what constitutes preferential treatment, sophisticated taxpayers have not experienced a similar difficulty”. Blum, , The Effects of Special Provisions of the Income Tax on Taxpayer Morale, 1955 Compendium 251.Google Scholar

⁴² See Diamond, , The Death and Transfiguration of Benefit Taxation: Special Assessments in Nineteenth-Century America, 12 J. Legal Stud. 201 (1983).Google Scholar

⁴³ “The Fifth Amendment's guarantee that private property shall not be taken for a public use without just compensation was designed to bar Government from forcing some people alone to bear public burdens which, in all fairness and justice, should be borne by the public at large”. Armstrong v. United States, 364 U.S. 40, 49 (1960).