2 The Constitutional Frameworks of State and Local Government Finance Purchased

Neither the United States nor any constituent state has a free-standing fiscal constitution; provisions for government finance (principally taxing, spending, and borrowing) are embedded in various articles of the United States Constitution and in the fifty state constitutions. The US Constitution has no single section devoted to public finance, and it does not say much about finance. By contrast, the constitutions of most other federal countries have detailed finance articles—for example, Germany (Article X), India (Part XII), and Switzerland (Articles 126–135). Given that modern written constitutions were invented by the US states, and that the Massachusetts Constitution of 1780 is the world's oldest written constitution still in force while the US Constitution is the oldest nationalconstitution, the American constitutions are organized somewhat differently than later federal documents, although some post–World War II state constitutions have features more in tune with contemporary ideas.

Unlike other federal constitutions, the US Constitution contains no detailed tax assignments to the federal and state governments. It merely vests the federal government with exclusive authority to tax foreign imports and with concurrent authority (i.e., with the states) to levy other unspecified taxes. No taxes are assigned to the states because the states already possessed inherent, plenary tax powers. The Constitution's framers also contemplated a dual fiscal structure whereby the federal and state governments would tax, spend, and borrow independently of each other. Hence, there was no need to specify the detailed fiscal arrangements found in most other federal constitutions. Even with the passage of more than two hundred years, the finance provisions have experienced only one major amendment (i.e., the Sixteenth Amendment in 1913, which authorized federal income taxes). Despite the absence of tax assignments, however, there is some informal specialization. The federal government relies heavily on personal income and payroll taxes; the states depend mainly on income and sales taxes; and local governments rely greatly on property taxes and fees.

There is a fundamental difference between the federal and state constitutions. The US Constitution is one of delegated powers; through it, the peoples of the states delegate specific powers to the federal government and reserve all nondelegated powers to the states or to the people, as reaffirmed in the Constitution's Tenth Amendment. Strictly speaking, the federal government has no inherent powers. It possesses only limited, enumerated powers, although the US Supreme Court has opined that Congress does, in effect, possess some inherent powers, including the authority to declare its paper currency as legal tender for paying debts.¹ Basically, the federal government can do only what it is permitted to do by the US Constitution; however, the “necessary and proper” clause (Art. I, Sec. 8, Cl. 18) allows Congress to interpret its enumerated powers very broadly. This implied powers clause soon became known as the sweeping, or elastic, clause.

In their state constitutions, the people limit rather than delegate powers because the sovereign people of each state possess inherent powers, which, prior to the Articles of Confederation (1781) and the US Constitution (1789), were plenary. Each state possesses inherent authority to do whatever it pleases, as long as the US Constitution or the state constitution does not prohibit it from doing so. Thus, while the federal government can do only what it is constitutionally permitted to do, a state government can do anything it is not constitutionally prohibited from doing. (Local governments possess no inherent powers; their powers are only granted to them by their respective states. In many states, the courts construe local powers strictly and narrowly by using Dillon's Rule.²) Consequently, a state government can levy any conceivable tax, spend money for any purpose, and borrow money without limit unless it is prohibited from doing so by the federal Constitution or its own state constitution. As a result, the peoples of the states have placed various limits on taxing, spending, and borrowing in their state constitutions.

The US Constitution is not laden with such limits because many of its framers expected the federal government to be limited to the prescribed scope of powers delegated to it. Believing that the federal government lacked inherent powers, the only explicit fiscal limits placed in the US Constitution are equity limits on the federal government's tax power (see below). The spending power was merely implicitly limited by the expectation that the federal government would spend only to execute its enumerated powers. There are no legal limits on borrowing in the federal Constitution.

However, debates since ratification of the Constitution in 1788 have generated disagreements about the founders' intentions. Some observers argue that the Constitution grants the US Congress very broad,³ even “complete,”⁴ powers of taxation and, thereby, extensive spending and borrowing powers, too. Others argue that the founders and subsequent generations construed the Constitution and, therefore, the federal government's fiscal powers narrowly, such that by the late 1920s, federal expenditures still accounted for only 2.6 percent of US GNP. The New Deal of the 1930s then dismantled this fiscal constitution and thereby liberated each Congress to “write its own fiscal constitution, subject only to the restraint that the appropriations must serve some vague concept of public purpose.”⁵

Whatever the intentions of the founders were, the latter view has prevailed since the New Deal. Politically, the federal government possesses virtually plenary power to tax, spend, and borrow. At the same time, the federal government has circumscribed state tax powers, especially by using the federal Constitution's commerce clause (Art. I, Sec. 8, Cl. 3) to sequester certain matters from state taxation. The constitutional tables were turned during American history, making the federal government the dominant fiscal power while the states have become the subordinate, even substantially dependent, fiscal power.

Despite the comparatively sparse references to public finance in the US Constitution, the tax power was one of the principal issues underlying the country's transition from confederation to federation in 1787–1788. The importance of taxation is amply illustrated in The Federalist, to which Alexander Hamilton, who became the first secretary of the US Treasury (1789–1795), contributed seven papers about taxation (Nos. 30–36). This was the most attention given by the authors⁶ of The Federalist to any policy element of the Constitution. Hamilton termed taxation “the most important of the authorities proposed to be conferred upon the Union.”⁷

In framing the US Constitution, the founders invented modern federalism by extending “the authority of the Union to the persons of the citizens,”⁸ thereby empowering the new “general” government created by the Constitution to legislate for individuals (e.g., to levy taxes, regulate commerce, conscript men into military service, imprison individuals, and enforce treaties). This fundamental feature of the Constitution transformed the ancient notion of federalism as confederation into the modern notion of federalism as a mode of governance whereby at least two governments rule the same territory and independently legislate for citizens within their respective spheres of authority. The Articles of Confederation (1781–1789) reflected the ancient idea of federalism because the union government lacked authority to legislate for individuals. This, argued Hamilton, was “the great and radical vice … of the … Confederation.”⁹

The founders' transformation of ancient federalism required them to authorize the new general government to acquire its own revenues independently of the states. They did not want the new union government to depend, like the confederal government, on financial contributions from the states, contributions that fell far short of the amounts requested by the confederal government. This fiscal arrangement placed the confederal government at the mercy of the states and left the confederal government with only one independent source of revenue—borrowing. The willingness of creditors to lend it money, however, was limited by the government's lack of taxation authority.

The Continental, and then confederal, Congress issued some §241,552,780 of paper money,¹⁰ called “Continental dollars,” during the Revolutionary War. The Continental dollar's value depreciated so steeply that in 1779 George Washington complained “that a wagon load of money will scarcely purchase a wagon load of provisions.”¹¹ Massive counterfeiting by the British accelerated the money's devaluation. After the new Constitution came into force, Continentals could be traded at 1 percent of their value for US bonds. Benjamin Franklin observed that the currency's depreciation was a de facto tax to help finance the Revolutionary War.¹²

Authorizing the new union government to levy taxes was, therefore, a momentous change that sparked considerable fear among opponents of the Constitution and triggered Hamilton's extensive treatment of taxation in The Federalist. “Money is,” he wrote, “the vital principle of the body politic…. A complete power, therefore, to procure a regular and adequate supply of revenue, as far as the resources of the community will permit, may be regarded as an indispensable ingredient in every constitution.”¹³ While at pains to defend the federal government's “unqualified” and “indefinite constitutional power of taxation,” Hamilton assured readers “that the individual States would … retain an independent and uncontrollable authority to raise revenue to any extent of which they may stand in need, by every kind of taxation, except duties on imports and exports.”¹⁴

It is in the context of taxation that The Federalist defends some of the most transformative provisions of the Constitution: the necessary and proper clause and the supremacy clause (Art. VI, Cl. 2). Absent the supremacy clause, the federal tax power would be meaningless. At the same time, Hamilton assured readers that “the composition and structure” of the federal government would prevent it from employing the necessary and proper clause to usurp state taxes and that, in any event, the people would “always take care to preserve the constitutional equilibrium between the General and the State governments.”¹⁵

Hamilton emphasized that the power to tax all articles other than exports and imports is “a concurrent and coequal authority” of the federal and state governments.¹⁶ This concurrency, he averred, is essential for ensuring that the federal and state governments can secure sufficient revenue to meet their respective needs and that one order of government does not dominate the other fiscally. He acknowledged that “the particular policy of the national and of the State systems of finance might now and then not exactly coincide”¹⁷ and that there might be a certain “inconvenience” for citizens when both governments tax the same article, but, he argued, the “effectual expedient” will be for both governments “mutually to abstain from those objects, which either side may have first had recourse to. As neither can controul the other, each will have an obvious and sensible interest in this reciprocal forbearance.”¹⁸ As such, Hamilton advocated cooperation and coordination on taxation between the federal and state governments.

Hamilton also contended that the primary rationale for an indefinite federal tax power was to enable it to secure “the public peace against foreign or domestic violence.”¹⁹ Because wars and rebellions know no predetermined fiscal limits and “future contingencies … are illimitable,”²⁰ the federal tax power should know no limits. Hamilton argued that wars and rebellions would primarily account for “an immense disproportion between the objects of federal and state expenditure” and thereby justify an indefinite federal tax power. By contrast, even taking into account “all the contingencies” that face state governments, the total amount of revenue needed by each state “ought not to exceed” 200,000 pounds per year.²¹ Hence, the states need not fear that the federal government would gobble up so much revenue as to cripple the states' more modest domestic-governance tax needs. Furthermore, suggested Hamilton, “when the states know that the Union can supply itself without their agency, it will be a powerful motive for exertion on their part,”²² thereby implying intergovernmental competition for tax bases.²³

Unlike most contemporary fiscal theorists,²⁴ Hamilton opposed the assignment of particular taxes to the federal government, arguing that such an assignment “would naturally occasion an undue proportion of the public burdens to fall upon”²⁵ those taxes and, thereby, also produce inequitable tax burdens. The “most productive system of finance will always be the least burdensome.”²⁶ Hamilton also defended the US House of Representatives as being sufficiently representative of the people's interests to restrain burdensome taxation. He famously contended that no legislature can simply mirror the makeup of the population. The electoral process itself frequently elevates “landholders, merchants, and men of the learned professions” to legislatures where they develop “strong chords of sympathy” with their constituents. These elected representatives are most likely to understand the principles of taxation, and “the man who understands those principles will be least likely to resort to oppressive expedients, or to sacrifice any particular class of citizens to the procurement of revenue.”²⁷

Hamilton contended that in the case of certain taxes, such as those on “houses and land,” the federal government would not fashion its own system because local conditions vary so widely. Instead, it would make “use of the system of each State within that State.”²⁸ The “probability is that the United States would either wholly abstain from” tax bases already occupied by the states or, if it must intrude upon such bases, “make use of the State officers and State regulations for collecting” such taxes.²⁹ Hamilton also sought to allay fears of “double sets of revenue officers, a duplication of [citizen] burdens by double taxation, and … frightful forms of odious and oppressive poll taxes.”³⁰ Overall, he suggested, federal taxes would fall mainly on commerce, which would expand tremendously under the new Constitution and, thereby, prevent federal taxes from becoming burdensome. One key objective of the Constitution was to establish relatively free trade domestically, whereby reduced state barriers would foster economic growth.

Constitutionally, Congress's power to tax is subject only to one exception and two equity qualifications. Congress cannot tax articles exported from any state. Direct taxes must be apportioned among the states according to their respective populations, and indirect taxes must be uniform nationwide. Otherwise, the tax power “reaches every subject, and may be exercised at discretion.”³¹ The Constitution also places Congress in the fiscal driver's seat. Only Congress can levy taxes, and only Congress has the “power of the purse” because “No Money shall be drawn from the Treasury, but in Consequence of Appropriations made by Law” (Art. I, Sec. 9, Cl. 7). This “clause is the most important single curb in the Constitution on Presidential power.”³²

In accordance with the Revolutionary War slogan “no taxation without representation,” the Constitution requires all bills for levying taxes to originate from the House of Representatives (Art. I, Sec. 7, Cl. 1), which is the people's chamber, not the Senate, which is the states' chamber. Furthermore, more populous states have more weight in the House, whereas less populous states have more weight in the Senate. The House once contended that this clause also applies to appropriations and repeals of tax laws.

This provision is consistent with the transformation of federalism wrought by the Constitution, which allows the federal government to legislate for individuals. The provision also copied state constitutional rules requiring House origination, which, in turn, were derived from Britain's practice of having revenue bills start in the House of Commons. As a practical matter, though, this procedural limit on the tax power is insignificant because the Senate can amend any House revenue bill.

This section also includes the presidential veto process. Although no mention is made of finance here, it is worth noting that the president, unlike most governors, has no line-item veto.

The first mention of taxes in the federal Constitution occurs in conjunction with representation, slavery, and Indians.

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 the whole Number of free Persons, including those bound to Service for a term of Years [i.e., indentured servants], and excluding Indians not taxed, three fifths of all other Persons. [Art. I, Sec. 2, Cl. 3]

[This clause should be read together with the following clause:] No Capitation, or other direct, Tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken. (Art. I, Sec. 9, Cl. 4)

The former clause limits direct (e.g., per capita) federal taxes by requiring them to be apportioned among the states according to population. The clause contains the infamous compromise whereby each slave was counted as three-fifths of a person for direct taxation and for representation in the US House. This compromise was extinguished by the Thirteenth Amendment (1865), which abolished slavery. The clause also acknowledged that members of Indian nations lived outside of the federal government's tax jurisdiction. This provision was mooted by the Indian Citizenship Act of 1924, which gave US citizenship to all Indians, whether they wanted it or not.

The meaning of “direct Taxes” is ambiguous, although it was believed that the federal government would levy such taxes only under exigent circumstances. In his notes on the Constitutional Convention, James Madison wrote, “Mr. King asked what was the precise meaning of direct taxation? No one answered.”³³ Even so, the term was widely understood to include a capitation or poll tax (deemed odious by Hamilton) and taxes based on the value of land and real property—hence, the fierce debate over how to assess the property value of slaves. Apportioning property taxes among the states according to population is challenging, but the federal government did levy one-time property taxes to address a war possibility in 1798 and to meet war exigencies in 1813, 1815, and 1861.³⁴ After 2012, the Patient Protection and Affordable Care Act of 2010 imposes a 3.8 percent Medicare tax on high-income home sellers whose home-sale profits exceed a certain threshold, but this is apparently not being construed as a direct tax. Otherwise, the US Supreme Court held in 1796 that a §16 carriage tax, which was, in effect, a luxury tax, was an excise tax, not a direct tax.³⁵ The historical effect of the apportionment requirement was to leave property taxes to state and local governments.

The core federal fiscal powers are found at the start of Article I, Section 8:

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; but all Duties, Imposts and Excises shall be uniform throughout the United States … To borrow Money on the credit of the United States.

Duties are customs duties or tariffs. Excises are taxes on the production, sale, or use of goods and services as well as on certain privileges and procedures of doing business. Imposts encompass both duties and excises. The uniformity rule refers to geography; for example, an article or service taxed at 7 percent in Maine must be taxed at 7 percent in every other state as well. The uniformity rule is not violated, however, if a federal tax has a different incidence across states due to state laws. The US Supreme Court ruled, for instance, that the federal estate-tax law permitting deductions for state estate-tax payments does not violate the uniformity rule merely because some states levy no estate tax.³⁶

The power to tax set forth here has been held to be so broad that it “embraces every conceivable power of taxation.”³⁷ Nevertheless, the US Supreme Court has, over the centuries, imposed and removed limits on the federal tax power. For example, the Court in the 1920s held that imposing a federal income tax on federal judges violated the Constitution's prohibition on lowering the salaries of judges during their tenure. The Court reversed itself in 1939. The Court also has held that Congress cannot use its tax powers to violate the US Bill of Rights (e.g., it cannot tax speech or the free exercise of religion) or the due process and equal protection clauses of the Fourteenth Amendment (1868).

Another issue involves intergovernmental tax immunities articulated in McCulloch v. Maryland (1819) wherein Chief Justice John Marshall opined: “The power to tax involves the power to destroy.” This case established the precedent, derived from the very nature of the federal system being a compound of two sovereigns, that the states cannot tax instrumentalities of the federal government and the federal government cannot tax instrumentalities of the state governments.³⁸ However, since 1928, the Court has circumscribed state immunity from federal taxation. In 1939, for example, the Court reversed an 1871 ruling that the salary of a state judge is immune from federal income taxation, although the Court did seek to maintain the principle that the federal tax power cannot be wielded to impair the states' sovereignty.³⁹ In 1939, the Court tried to establish two guidelines for immunity: (1) activities “essential to the preservation of State governments” and (2) activities where the federal tax is not “substantially or entirely absorbed by private persons.”⁴⁰

However, the Court sometimes splits over such matters, as in 1946 when two justices dissented from a ruling upholding a federal tax on the sale of mineral waters from properties owned and operated by New York. The dissenters contended that the Court placed “the sovereign States on the same plane as private citizens” and compelled them to “pay the Federal Government for the privilege of exercising powers of sovereignty guaranteed them by the Constitution.”⁴¹ The chief justice opined that what might remain immune from federal taxation is the “State's capitol, its State-house, its public school houses, public parks, [and] its revenues from taxes or school lands.”⁴² The principal fiscal residue of the doctrine is the federal income-tax exemption for interest earned on most state and local bonds, although this was circumscribed, too, in 1988 when the Court held that federal taxation of certain types of bonds does not violate the intergovernmental immunity doctrine or the Tenth Amendment.⁴³

Beyond intergovernmental concerns, the Court has held that Congress can regulate or suppress activities via taxation, tax an activity whether or not it is authorized by federal or state laws (e.g., illegal gambling and drug selling so long as the tax does not violate the constitutional protection against self-incrimination), and employ taxation, such as a protective tariff, to promote desired economic objectives. A protective tariff was the second law adopted by the new Congress in 1789, in part because it was to be a major source of federal revenue.

A current controversy involves the “individual mandate” contained in the Patient Protection and Affordable Care Act of 2010. This provision requires uninsured US citizens and legal residents to purchase federally approved health insurance by 2014 if they are not exempt from the mandate (e.g., for religious reasons). A person who fails to buy such insurance will have to pay to the US Treasury a penalty of §695 per year or 2.5 percent of his or her annual income, whichever is higher. When Congress debated this legislation, the president said that this penalty was “absolutely not” a tax or tax increase, but when some twenty-eight states challenged the mandate in federal courts in 2010–2011, the US Department of Justice defended the mandate as a proper exercise of Congress's “power to lay and collect taxes.”⁴⁴

The spending power was initially seen by some of the founders as a qualification of the tax power. Thomas Jefferson argued that Congress could tax only to pay debts and promote the general welfare; Congress could not do anything it pleased to provide for the general welfare. Since the outset of the federal union, however, the spending power has been construed to be broadly in line with Hamilton's view as opposed to the views of Jefferson and Madison, who also believed that the federal government's fiscal powers could be deployed only to execute its enumerated powers. In 1936, the US Supreme Court sided with Hamilton, opining “that the power of Congress to authorize expenditure of public moneys for public purposes is not limited by the direct grants of legislative power found in the Constitution.”⁴⁵ The Court also has held that neither a citizen nor a state is entitled to a judicial remedy against an allegedly unconstitutional appropriation of federal funds. Only the Fourteenth Amendment and the Bill of Rights impose implicit limits on the spending power (e.g., Congress cannot spend to establish a religion).

Politically, the broad view of the spending power resulted partly from state tolerance of federal spending, which has often benefited the states. At the outset of the republic in 1790, Hamilton convinced Congress to take over payment of the remaining debts that some states still owed from the Revolutionary War. This measure was controversial. Many opponents recognized it as a substantial enhancement of federal power over the states, but the measure prevailed, and ever since 1790, states have rarely complained about federal spending on their behalf. By contrast, the Canadian provinces, especially Quebec, have contested Ottawa's spending power in order to shield themselves from federal intrusions.

In a challenge to provisions of the unemployment section of the Social Security Act of 1935, the Supreme Court held that the provisions were not “weapons of coercion, destroying or impairing the autonomy of the States” and that unemployment relief is a legitimate expenditure for the general welfare.⁴⁶ The Court also has upheld federal spending on, for example, old-age assistance and loans and grants to state and local governments.⁴⁷ Congress also can earmark the proceeds of a tax for a specific use.

In a 1969 challenge to funding the Vietnam War, the plaintiff argued that the funding did not meet the constitutional criteria of paying the nation's debts or providing for the country's common defense and general welfare. An appellate court held, however, that “congressional appropriations for the war are made under authority of the powers ‘to raise and support Armies’ and ‘to provide and maintain a Navy,’” not the “general welfare” clause.⁴⁸

Nevertheless, challenges to the spending power continue, with conservatives especially asserting a narrower Madisonian view of the spending clause. In 2010, for example, US Senator-elect Mike Lee (R-UT) declared that “the Constitution doesn't give Congress the power to redistribute our wealth.”⁴⁹ Although calls to abolish the major federal welfare programs may not succeed, the projected fiscal problems of the federal government will likely incite political and legal efforts to constrain the federal spending power. In 2010, the US Government Accountability Office projected that under current policies, demographic changes (mainly a growing senior-citizen population), rising health-care costs, and deficit spending will require the federal government's major entitlement programs, plus net interest payments, to consume “93 cents of every dollar of federal revenue” by 2030.⁵⁰

Such challenges could substantially affect state and local governments because the states especially have become dependent on federal grants-in-aid, which, on average, account for more than one-quarter of state general spending. The Supreme Court has repeatedly held that the federal government can attach conditions (i.e., regulations) to grants-in-aid, such as conditions requiring states to enforce the Hatch Act, lower the blood alcohol level for drunk driving to 0.08, and reduce to twenty-one the legal age for purchasing alcoholic beverages or else suffer reductions in their highway grant monies. South Dakota challenged the 1984 drinking age condition, arguing, in part, that Congress has no authority to mandate a drinking age because the Twenty-First Amendment (1933) to the Constitution reserves alcoholic beverage regulation to the states. The Supreme Court rejected the challenge, holding that such conditions pass constitutional muster so long as they are unambiguous, promote “the general welfare,” pertain “to the federal interest in particular national projects or programs,” and are not independently prohibited by another provision of the Constitution.⁵¹ By ruling that the Twenty-First Amendment's limit on the spending power did not prohibit Congress from achieving federal objectives indirectly, the Court allowed Congress to use grants-in-aid to do what it lacks constitutional authority to do directly itself.

The power to pay debts also has been construed broadly, including authority for the federal government to give itself priority in the distribution of the estates of its debtors.⁵² It should be noted, as well, that Article VI of the Constitution provides that “all Debts contracted and Engagements entered into, before the Adoption of this Constitution, shall be valid against the United States under this Constitution, as under the Confederation.” This seemingly innocuous clause was crucial for two reasons. It was vital reassurance to creditors that the new union government would not abrogate past debt obligations. It also reaffirmed that the United States had come into existence in 1781 and that the new constitution created “a more perfect Union” (Preamble), not a new union. During the Civil War (1861–1865), President Abraham Lincoln made much of the idea that the union preceded the Constitution.

The borrowing power has been interpreted along broad Hamiltonian lines as being limited by nothing in the Constitution. The only limit stated there is that of “the credit of the United States.” Congress may not, though, revise the terms of outstanding US obligations without compensating the holders of such obligations for an “actual loss” produced by the change.⁵³ However, the Supreme Court has held that the Fifth Amendment's takings clause does not protect holders of US obligations from reductions in value due to inflationary fiscal policies.

In the original draft of the Constitution, the borrowing clause stated the following: “To borrow money and emit bills on the credit of the United States.” By a vote of 9–2, the Constitutional Convention deleted the words “and emit bills.” Nevertheless, in 1871, the Supreme Court ruled that Congress can issue Treasury notes and make them legal tender for paying debts.

In summary, the above clauses constitute the core of the fiscal constitution of the federal government. The broad interpretation of this fiscal constitution has allowed the federal government, for example, to establish national banks and shield them from state taxation, issue paper money as legal tender for debts, alter the metal content and value of US coins, tax state banknotes out of existence in 1865, create the Federal Reserve System, and create such entities as the Farm Loan Bank, the Federal National Mortgage Association (Fannie Mae), and the Federal Home Loan Mortgage Corporation (Freddie Mac).

The Constitution also authorizes Congress “to coin Money, regulate the value thereof, and of foreign Coin, and … To provide for the Punishment of counterfeiting the securities and Coin of the United States” (Art. I, Sec. 8, Cl. 5 and 6). These provisions have been interpreted broadly to give Congress authority over virtually all aspects of currency. The framers of the Constitution apparently anticipated gold and silver coinage, but during the Civil War, Congress authorized paper money, which in the twentieth century was expanded to include paper currency not redeemable for gold or silver, namely, fiat money.

It has been argued that the counterfeiting clause “is superfluous. Congress would have had this power without it, under the” necessary and proper clause.⁵⁴ Even the Supreme Court has ruled this clause to be unnecessary and not exclusive. States, too, can punish coin counterfeiters.

An often-overlooked fiscal limit on the federal government is that “no Appropriation of Money” to raise and support armies “shall be for a longer Term than two Years” (Art. I, Sec. 8, Cl. 12). This clause reflects the founders' considerable fear of a standing army that could become oppressive of the people and the states or topple the federal government or state governments. The clause served as a potential restraint on the president's ability to prosecute an unpopular war or maintain a large force after an insurrection beyond the two-year appropriations limit—although, historically, it never fulfilled this role. The clause does not apply to the Navy or, by later interpretation, to the Air Force, both of which require building programs longer than two years. The clause is basically a dead letter.

Section 9 of Article I begins with authorization of a temporary, now moot, federal tax, namely, a tax of not more than §10 on each imported slave. The clause was one of several compromises made on slavery. It somewhat satisfied opponents of slavery by allowing Congress to tax slave trading. It also satisfied supporters of slavery by preventing Congress from using its broad tariff power to tax the slave trade out of existence until 1808 when Congress could, under the first part of this clause, ban the slave trade. Hence, from a political perspective, the clause was both a preservation of and limit on the federal power to tax imports.

Section 9 prohibits Congress from enacting ex post facto laws, but the Supreme Court has deemed this to apply only to criminal laws. Hence, Congress can enact a tax law in the midyear and make its provisions retroactive to the start of the tax year.

This section also provides that “No Tax or Duty shall be laid on Articles exported from any State. No Preference shall be given by any Regulation of Commerce or Revenue to the Ports of one State over those of another; nor shall Vessels bound to, or from, one State, be obliged to enter, clear, or pay Duties in another.”

The word “export” refers to goods exported to a foreign country, and the prohibition is by reason of export. The clause does not prohibit a tax levied on all goods, including those destined for export. The Supreme Court also held that the clause does not prohibit a fraud-prevention stamp tax on tobacco intended for export.

The ports clause prohibits discrimination among the ports of different states but not between individual ports. Under cover of the commerce clause (Art. I, Sec. 8, Cl. 3), Congress can establish ports of entry, construct and operate lighthouses, improve harbors and rivers, and provide structures to handle port traffic. Indeed, port appropriations have been a classic case of pork-barrel spending in American history.

In addition to requiring expenditures to be made by law (as cited above), clause 7 of this section stipulates that “a regular Statement and Account of the Receipts and Expenditures of all public Money shall be published from time to time.” Although this is seemingly a minor provision, such transparency is extremely important for democratic accountability and had already existed in some of the eighteen state constitutions that preceded the US Constitution. In many countries, fiscal transparency is nonexistent.

The last clause of Section 9 prohibits the granting of titles of nobility and forbids federal officeholders from accepting any gifts, emoluments, offices, or titles “from any King, Prince, or foreign State.” By implication, the clause also precludes favorable financial treatment of a particular class of citizens and guards against federal officers receiving or giving favorable fiscal treatment to foreign rulers and states. Provisions of this nature exist in most state constitutions, including some of those that predated the US document.

Section 10 of Article I begins by stating, among other things: “No State shall … coin Money; emit Bills of Credit; make anything but gold and silver Coin a Tender in Payment of Debts; pass any … Law impairing the Obligation of Contracts, or grant any Title of Nobility.” Except for the contracts provision, the limits in this clause have not been contested significantly in US history and have been largely moot because state banknotes were taxed out of existence by Congress in 1865. The contracts provision is not, strictly speaking, a fiscal provision, although it has fiscal implications insofar as the honoring of contracts is fundamental to the operation of the nation's economy. As such, the clause has experienced extensive litigation throughout US history. The clause was inserted in the Constitution mainly to prevent states from altering financial contracts so as to relieve debtors of their obligations. This clause also was needed for consistency with the bankruptcy clause (Art. I., Sec. 8, Cl. 4).

The second clause of Section 10 provides:

No State shall, without the Consent of the Congress, lay any Imposts or Duties on Imports or Exports, except what may be absolutely necessary for executing its inspection Laws; and the net Produce of all Duties and Imposts, laid by any State on Imports or Exports, shall be for the Use of the Treasury of the United States, and all such Laws shall be subject to the Revision and Controul of the Congress.

This clause prevents states with large ports from disadvantaging other states by exacting levies from goods passing through them. It also reinforces the federal government's sole authority to levy customs duties, which was expected to be a major source of federal revenue.

The clause, according to the US Supreme Court, applies only to goods imported from or exported to foreign countries and mainly to the acts of importing and exporting. Once an imported good is unpackaged and enters the stream of domestic commerce, it is subject to nondiscriminatory state taxation. The Supreme Court has held that the clause does prevent states from, for example, requiring importers to purchase a license to sell imported goods, imposing a franchise tax on foreign corporations engaged in importing, and taxing sales by brokers and auctioneers of imported merchandise in their original packages. States can, however, levy piloting fees and tax the gross sales of a purchaser from an importer, among other things. Regarding inspections, the Court defined the acceptable elements of state inspection laws to be the “quality of the article, form, capacity, dimensions, and weight of package, mode of putting up, and marking and branding of various kinds.”⁵⁵

The last clause of Section 10 prohibits states from levying “any Duty of Tonnage” without congressional consent. This prohibition includes all levies, whether or not they are measured by vessel tonnage, that impose charges to enter, trade in, or lie in a port. However, it does not ban charges for vessel services, even if calibrated by tonnage, such as piloting, towing, and mooring; loading and unloading cargo; and storing goods.

Interestingly, Article II says nothing about the president's now prominent role in the budget process, his responsibilities in expending appropriated funds, or establishment of the US Department of the Treasury. Instead, the Constitution specifies general presidential duties, which were modeled after gubernatorial provisions in some state constitutions, namely, that he serve as commander in chief of the US military and state militias when called into federal service, “take Care that the Laws be faithfully executed,” and inform Congress about the state of the union. The document is silent about specific presidential fiscal roles. The president's veto power can be deployed as a fiscal weapon, but it is weakened by the lack of a line-item veto.

The budget process is dominated finally by Congress. The president plays a major role in proposing a budget every year because the landmark Budget and Accounting Act of 1921 authorized him to do so and provided for the White House agency now known as the Office of Management and Budget (OMB). In 1974, Congress enacted the Budget and Impoundment Control Act to rein in certain presidential abuses, such as refusals to spend appropriated funds because of policy disagreements with Congress. This act also reorganized the congressional budgeting process and created the semi-independent Congressional Budget Office, which acts, in part, as an informational check on the OMB.

Article III on the Supreme Court says nothing about public finance. Yet, in line with the expansion of federal power since 1789, the Court has played a large role in public finance, especially in legitimizing broad interpretations of the federal government's constitutional fiscal powers and constraining state fiscal powers.

The Constitution also contains fiscally relevant restraints that help to protect the institutional integrity of the federal government and the separation of powers. These include a requirement that members of Congress be paid by the federal government (Art. I, Sec. 6, Cl. 1), not by their states, as was the practice under the Articles of Confederation, and a prohibition on members of Congress voting to increase the salary for a civil office and then being appointed to that office during their congressional term (Art. I, Sec. 6, Cl. 2). Article II, clause 7, provides for compensation of the president (now §400,000 per year) and prohibits Congress from decreasing or increasing a president's salary during his term of office. Similar provisions regarding the governor and other independently elected executive officials, such as the attorney general, exist in some state constitutions. Such provisions reinforce the separation of powers by preventing the legislative body from bribing or punishing the executive in order to secure his or her compliance with the legislature's will. The president also is prohibited from receiving additional pay from the United States or from any state of the union. A number of state constitutions also prohibit state executive officials from receiving additional pay from other sources.

Article III on the Supreme Court mandates that justices “receive for their Services, a Compensation, which shall not be diminished during their Continuance in Office” (Sec. 1). Given that justices serve, in effect, for life (unless they resign or are impeached and removed from office), it is necessary to allow salary increases for them, but congressional authority to decrease their salaries would jeopardize judicial independence. This constitutional protection has been extended legislatively to judges on the twelve federal circuit courts of appeals and ninety-four district courts. Given that most state judges serve fixed terms subject to direct or retention elections, some state constitutions prohibit increases or decreases of a judge's salary during any given fixed term.

Only three of the US Constitution's amendments deal explicitly with a fiscal matter. Most momentous is the Sixteenth Amendment (1913), which authorizes the federal government “to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States.” This is a broad grant of power. In the view of many observers, this amendment, more than any other change in the Constitution, fueled the rise of federal dominance in the twentieth century. (The first state to enact an income tax was Wisconsin in 1911.)

The amendment was necessitated by an 1895 Supreme Court decision (Pollock) that struck down a flat income tax of 2 percent on incomes over §4,000 enacted by Congress in 1894. A federal income tax was strongly supported by Democrats, Progressives, Populists, and Socialists. At that time, the federal government relied on excises and tariffs, the burden of which fell heavily on the less affluent. Advocates also saw in an income tax the potential for requiring the wealthy to bear more of the costs of government, redistributing income from the rich to the poor, and preventing enactment of a land tax that would hit farmers hard. All four 1912 presidential candidates⁵⁶ supported an income tax. Ratification of the amendment was strongest in the more agricultural West and South and weakest in the urban-industrial Northeast.

Today, the federal government derives about 45 percent of its revenue from a personal income tax, 36 percent from a payroll tax (i.e., Social Security and Medicare), 12 percent from a corporate income tax, and only 3 percent from excises.

The Twenty-Fourth Amendment (1964) abolished poll taxes for federal elections. These were taxes levied by states, mostly southern states, on voters. One had to pay the tax in order to vote (although Alabama's constitution dedicated the revenue to education). The states that levied these taxes employed them mostly to suppress voting by black citizens and low-income whites. The amendment was championed by the Civil Rights Movement that had emerged by the late 1950s.

The Twenty-Seventh Amendment (1992) states, “No law varying the compensation for the services of Senators and Representatives shall take effect until an election of Representatives shall have intervened.” This amendment was proposed in 1789 as part of the Bill of Rights, but it was not ratified then. An undergraduate student in Texas revived it in 1982, and enough additional states ratified it to place it in the Constitution. The amendment mimicked provisions in some state constitutions that required an election after legislators proposed a pay raise for themselves and before the legislature could enact the raise in the next session. It is intended to give voters an opportunity to unseat legislators who support a pay raise. The amendment is moot, however, because in 1989, Congress had established automatic annual cost-of-living increases that require no vote. Federal courts later ruled that such increases do not violate the amendment.

The Third Amendment, contained in the Bill of Rights and also modeled after comparable state constitutional protections, prohibits an implicit tax, namely, the quartering of soldiers in private homes without the owners' consent. This was, in part, a reaction against the British practice of requiring colonial residents to house and feed its soldiers.

The Fifth Amendment provides that private property cannot “be taken for public use, without just compensation.” This clause, also found in state constitutions, restrains the government's ability to tax indirectly by exercising its power of eminent domain. It also places the burden on the government to show why it should not pay equitable compensation. The Supreme Court has expanded this protection to include certain regulatory takings (e.g., when a government regulation reduces the value of property so deeply as to constitute a de facto taking). This clause has become controversial, however, especially since a 2005 Supreme Court decision upheld the authority of local governments to take property from one owner and sell it to another private party for economic development purposes.⁵⁷

The Eighth Amendment, which prohibits excessive bail and fines, protects individuals from excessive government financial burdens and restrains such penalties as a revenue source. State constitutions also provide this protection. Bail is ordinarily calibrated in relation to the severity of the criminal charge and flight risk. Fines are ordinarily set at flat rates in relation to levels of infraction (e.g., miles per hour over a highway speed limit), unlike some other federal countries, such as Switzerland, where a driver was fined §290,000 in 2010 for speeding because the fine is calibrated in terms of both speed and the driver's wealth.⁵⁸

Section 4 of the Fourteenth Amendment (1868) upholds the validity of public debt incurred by the federal government for prosecuting the Civil War but invalidates debt “incurred in aid of insurrection or rebellion against the United States.” Some contemporary observers argue that this clause allows the president to increase the federal debt ceiling without congressional consent, but no president has done so.

The US Constitution, as interpreted over 223 years, delegates nearly plenary taxing, spending, and borrowing authority to the federal government. At the same time, the document contemplates a dual system of public finance, with each order of government (i.e., federal and state) acting independently. What is notable about the US Constitution compared to other federal constitutions is the absence of detail and, thereby, of significant constraints on the federal and state governments. There is no authorization for federal grants to state and local governments; there are no requirements for the federal government to engage in tax sharing or fiscal equalization; there are no provisions on state and local government borrowing and no mention of hard or soft budget constraints on those governments; and there are no provisions requiring a balanced federal budget or establishing federal operating and capital budgets.

Nevertheless, the federal government used its powers sparingly during the first 145 years of US history. The United States became a world power while public functions were financed mainly by local property taxes. From 1789 to about 1842, states were the major fiscal actors. They financed infrastructure, development, and government operations from asset income derived from canal tolls, bank-stock dividends, and land sales, as well as some indirect business taxes. By 1841, state debt stood at §193 million compared to §25 million for local governments and §5 million for the federal government.⁵⁹ From 1842 to the mid-1930s, local governments were the major fiscal actors, relying heavily on property taxes. By 1902, property taxes accounted for 42 percent of all federal, state, and local revenues.⁶⁰ Even by 1932, local governments accounted for more than half of all government revenue. Of federal spending in 1932, 22 percent went to veterans' benefits, 19 percent to the post office, 17 percent to defense, and 5 percent to state and local aid. Only after the mid-1930s did the federal government ascend to fiscal dominance, relying heavily on income taxes.

States and localities were fiscally prominent for so long, in part because the states possess inherent fiscal powers, and the federal Constitution did not significantly constrain those powers. Instead, constraints have come from the people. Especially since the 1840s when some states teetered on bankruptcy from excessive debt, the people have imposed some constitutional limits on various aspects of state taxing, spending, and borrowing. Consequently, the fifty constitutions are diverse. They also range from 8,565 words (Vermont) to 367,000 words (Alabama) because some states handle many matters through their constitution while others rely mostly on statutes. Hence, all states might have the same particular fiscal rule, but it may not be found in every state constitution. Many of the early constitutions (e.g., for Connecticut, New Hampshire, and Vermont) said little or nothing about public finance, and some still say little about it. Making general statements about the state constitutional frameworks of public finance is, therefore, difficult.

The states invented modern written constitutions, starting with the eight states that adopted their first constitutions in 1776. Eighteen state constitutions were ratified before ratification of the US Constitution in 1788. Since 1776, the states collectively have had 144 constitutions. These documents originally derived largely from an evolving line of colonial charters and self-governing covenants dating back to the Mayflower Compact of 1620. Arguably, the first “constitution” was the “the laws and liberties of Massachusetts” promulgated in 1647. This was the first published code of laws in Anglo-American history. The eighth article of the code is entitled “Charges Publick.” It provided for regular assessments of “persons & estates” pursuant to lawful procedures. Taxation was important because Britain gave the colonies substantial self-governing authority. Colonial governments taxed for self-governing purposes and also collected taxes for the Crown. Upon independence, states mostly incorporated historical tax practices—minus Crown taxes—into their new constitutions, all of which provided for taxation with representation.

More than half of the state constitutions have an article regarding taxation and revenue. A few have one on debt, too, but fiscal issues also inhabit the legislative article, amendments, and some other articles, such as local government and education. However, except for somewhat detailed provisions on property taxation and debt, most taxing, spending, and borrowing matters are left to legislative action because taxation is an inherent power. The Arkansas Constitution states this rather explicitly: “The State's ancient right of eminent domain and of taxation is herein fully and expressly conceded” (Art. 2, Sec 23). Hence, the myriad taxes levied by most states are not mentioned in their constitutions. Thus, those documents are poor guides to the states' finance systems. What is notable instead is the emphasis on institutional structures, such as the separation of powers, institutional procedures, such as legislative voting rules, and public referendums as key means to restrain state governments' exercises of their inherent fiscal and nonfiscal powers. The people's hope that these mechanisms will work is expressed in the Vermont Declaration of Rights' admonition that before any law is “made to raise a tax, the purpose for which it is to be raised ought to appear evident to the Legislature to be of more service to community than the money would be if not collected” (Chap. I, Art. 9). North Carolina's charter mandates: “The power of taxation shall be exercised in a just and equitable manner for public purposes only” (Art. 5, Sec. 2).

State constitutions address some issues of fiscal equity, but they do not wax philosophic about efficiency, economies of scale, externalities, or ability-to-pay versus benefit taxes. Instead, the fiscal provisions usually reflect the state's political culture as well as historical political conflicts and compromises. Indeed, a peculiar feature of US state constitutions compared to most constitutions in the world (except Switzerland) is the roles the people reserve for themselves to exercise some of the fiscal powers of their states directly (e.g., the initiative process) and to check their state's exercise of fiscal powers (e.g., referenda).

As noted above, powers are not delegated to the states; instead, the people limit their state's inherent powers through their constitution, although a few constitutions seek to ensure that the legislature will do its duty by stipulating the following: “The legislature shall provide by law for an annual tax sufficient to defray the estimated expenses of the state for each fiscal year” (Nevada Art. 9, Sec. 2). Oklahoma's constitution spells out such powers:

The Legislature shall have power to provide for the levy and collection of license, franchise, gross revenue, excise, income, collateral and direct inheritance, legacy, and succession taxes; also graduated income taxes, graduated collateral and direct inheritance taxes, graduated legacy and succession taxes; also stamp, registration, production or other specific taxes. (Art. X, Sec. 12)

The inherent nature of state powers is why the first section of forty-nine state constitutions is a declaration of rights. These declarations impose the same constraints on state fiscal powers as those imposed by the US Bill of Rights on the federal government, but they also impose some different and more rigid limits. For example, many state documents have detailed prohibitions on taxing, spending, or borrowing on behalf of religious schools. About eleven declarations state that the people cannot be taxed without the consent of themselves or their elected legislature. Maryland's declaration says “that paupers ought not to be assessed for the support of the government” (Art. 15). The North Carolina Constitution forbids the state and its local governments to levy any “poll or capitation tax.” Most state declarations of rights prohibit irrevocable grants of any privilege, franchise, or immunity; perpetuities, primogeniture, entailments, or monopolies; exclusive public emoluments or privileges; or hereditary emoluments, privileges, or powers. Nearly all rights declarations prohibit imprisonment for debt, and some constitutions extend the takings principle to prohibit private property from being “taken or sold for the payment of the corporate debt of municipal corporations.”⁶¹

In 1992, Coloradans added a Taxpayer Bill of Rights (TABOR) to their constitution (Art. 10. Sec. 20). Other states have not followed suit, and voters in some states have rejected a TABOR.⁶²

TABOR originally prohibited the state and its local governments from increasing tax rates without voter approval and required governments to obtain voter approval in order to spend funds collected through currently approved tax rates if the revenues exceeded the rates of inflation and population growth. Revenues above TABOR's limit had to be returned to taxpayers unless voters approved a revenue offset. However, TABOR did not accommodate productivity increases and recessions. This prevented the state and its localities from taxing additional income from year to year due to a “ratchet-down effect” whereby revenue falling below TABOR's limit in one year pushed the next year's limit below the level it would have been if the prior-year revenues had met or surpassed the limit.

TABOR was weakened when voters approved Amendment 23 in 2000, which responded to decreased K–12 education funding due to TABOR. This amendment required general and per-pupil education funding to be increased at least at the rate of inflation plus 1 percent for ten years and at the inflation rate thereafter. As a result, the state and its local governments cut funding for many other services in order to fund education, thereby eroding TABOR's popularity. In 2005, voters allowed the state to spend all revenue subject to TABOR limits for five years through FY 2009–2010. Thereafter, the state could spend above TABOR up to a cap that increases from the prior year's cap so as to eliminate the ratchet-down effect. Revenues above the TABOR limit but below the new cap must be spent on education, health care, police and firefighter pensions, and transportation priorities.

More than thirty states operate under some type of tax-and-expenditure limits (TELs), although only a few are embedded in the constitution. For instance, the North Carolina Constitution stipulates the following: “No poll or capitation tax shall be levied by the General Assembly or by any county, city or town, or other taxing unit” (Art. 5, Sec. 1). The Delaware document states that “shares of the capital stock of corporations created under the laws of this State, when owned by persons or corporations without this State, shall not be subject to taxation by any law now existing or hereafter to be made” (Art. IX, Sec. 6).

Arizona's constitution provides that “the legislature shall not appropriate for any fiscal year state revenues in excess of seven per cent of the total personal income of the state for that fiscal year as determined by the economic estimates commission” (Art. 9, Sec. 17[3]). The Arkansas legislature cannot levy taxes in any year that would exceed, in the aggregate, 1 percent of the assessed valuation of the property of the state (Art. 16, Sec. 8). In Michigan, “property taxes and other local taxes and state taxation and spending may not be increased above the limitations specified herein without direct voter approval” (Art. IX, Sec. 25).

Although not a limit per se, Hawaii's constitution mandates a tax review commission to be appointed every five years to evaluate “the State's tax structure [and] recommend revenue and tax policy” (Art. VII, Sec. 3).

Many constitutions (often the declaration of rights) require taxes to be levied and monies spent or borrowed only for public purposes. The meaning of “public purpose” is, of course, debatable. The final arbiter is usually a state's high court, although judges frequently defer to the legislature's definition of “public purpose.” In deciding whether a tax meets a public purpose, courts also consider judicial precedents, whether voters approved the tax, general public benefits derived from the tax, whether a large number or broad class of people benefits from the tax, the need for the tax, and the extent to which the tax competes with private-sector provisions of public goods. One historically controversial area has been borrowing to assist private enterprises for purposes of economic development. This has sometimes produced constitutional amendments to permit or limit such borrowing.

Related rights guarantees prohibit any tax power from being delegated to a private corporation or association and any suspension of taxes on corporations and corporate property via a grant or contract. A number of constitutions (e.g., Minnesota) have a provision similar to that of North Carolina: “The power of taxation shall be exercised in a just and equitable manner, for public purposes only, and shall never be surrendered, suspended, or contracted away” (Art. 5, Sec. 2).

Most state constitutions—usually the declaration of rights—require some or all taxes to be uniform. Equal protection clauses impose additional equality requirements. One scholar identified twelve types of uniformity clauses.⁶³ Delaware's constitution, for example, has a broad rule: “All taxes shall be uniform upon the same class of subjects within the territorial limits of the authority levying the tax” (Art. VIII, Sec. 1). However, this rule applies most frequently to property taxes. Basically, equals must be taxed equally, and similarly situated people taxed similarly. The Nebraska Constitution created a Tax Equalization and Review Commission that has the “power to review and equalize assessments of property for taxation” (Art. IV, Sec. 28). A few constitutions also specify that in-state property belonging to out-of-state residents cannot be taxed more highly than in-state property owned by state residents (although the US Constitution implicitly prohibits such discriminatory taxation in any event).

One controversy surrounding uniformity is whether some people or activities can be exempted from a tax, such as exemptions of prescription drugs and certain foods from a sales tax, exemptions of pension income from an income tax, and special assessments that benefit certain property owners. Obviously, numerous exemptions exist; satisfying this rule is a matter of legislative and judicial interpretation. Another controversy is whether or how a state can tax at different rates, such as progressive income taxes, different rates for license and gross-receipts taxes, and property-tax abatements and circuit breakers. There are numerous examples of such differential tax rates. Legislatures ordinarily manage these differences by placing persons, objects, and activities into classifications. So long as every member of a class is taxed uniformly and so long as the classification is rational and not discriminatory, it passes constitutional muster.

Some unusual features of many state constitutions are their initiative and referendum rules. Most important is that eighteen state constitutions (e.g., California, Colorado, and Ohio) allow citizens to bypass the legislature and place constitutional amendments concerning fiscal and nonfiscal matters directly on the ballot for voter action. As with TABOR in Colorado, initiatives can have huge impacts on state finances. Over time, voter initiatives also can produce clashing outcomes, sharply limit the fiscal discretion of the legislature, and earmark substantial amounts of tax dollars to specific purposes. Some observers argue, for example, that initiatives in California have contributed greatly to the state's fiscal crisis.

In an effort to deal with this problem, Arizona's constitution demands the following:

An initiative or referendum … that proposes a mandatory expenditure of state revenues for any purpose, establishes a fund for any specific purpose or allocates funding for any specific purpose must also provide for an increased source of revenues sufficient to cover the entire immediate and future costs of the proposal. The increased revenues may not be derived from the state general fund or reduce or cause a reduction in general fund revenues. (Art. 9, Sec. 23)

In all states except Delaware, voters must approve amendments to their constitution; hence, they can reject unwanted fiscal amendments proposed by an initiative or by the legislature. Many constitutions also require certain state and especially local fiscal policy proposals (most often general-obligation borrowing) to be put to a referendum. In 2010, for example, voters in twenty-eight states approved twenty-five of forty-one ballot measures on taxes, nineteen of twenty-one bond and debt measures, and fifteen of twenty-two budget measures.

Many states (e.g., Delaware and New Hampshire) require revenue bills to originate from the House of Representatives. This rule is partly due to the formerly quasi-federal character of many states whereby representation in the Senate was based on towns and counties.

A constraining rule on almost all state legislatures as compared to Congress is that votes are based on the entire membership of each house, not quorums. In addition, super-majorities are needed to raise some or all taxes in about fifteen states. “No tax or license fee may be imposed or levied except pursuant to an act of the General Assembly adopted with the concurrence of three-fifths of all members of each House” (Delaware Art. VIII, Sec. 11[a]). The same rule applies in Oregon (Art. IV, Sec. 25[2]). In Arizona, a net increase in state revenues requires approval of two-thirds of the members of each house of the legislature. If the governor vetoes the measure, three-fourths of the members of each house must approve the measure (Art. 9 Sec 22[A]). In 2010, California voters repealed a requirement that the state budget be passed by a two-thirds vote of the legislature but mandated that state and local fees be enacted by a two-thirds legislative vote so as to prevent legislators from disguising taxes as fees. That same year, Washington voters approved a rule requiring a two-thirds vote of the legislature or a majority vote of the people to approve state tax increases.

Alaska's constitution is complex:

Except for appropriations for Alaska permanent fund dividends, appropriations of revenue bond proceeds, appropriations required to pay the principal and interest on general obligation bonds, and appropriations of money received from a non-State source in trust for a specific purpose … appropriations … made for a fiscal year shall not exceed §2,500,000,000 by more than the cumulative change, derived from federal indices as prescribed by law, in population and inflation since July 1, 1981. Within this limit, at least one-third shall be reserved for capital projects and loan appropriations. The legislature may exceed this limit in bills for appropriations to the Alaska permanent fund and in bills for appropriations for capital projects … if each bill is approved by the governor, or passed by affirmative vote of three-fourths of the membership of the legislature over a veto or item veto, or becomes law without signature, and is also approved by the voters…. Each bill for appropriations for capital projects in excess of the limit shall be confined to capital projects of the same type, and the voters shall, as provided by law, be informed of the cost of operations and maintenance of the capital projects. No other appropriation in excess of this limit may be made except to meet a state of disaster declared by the governor…. (Art. 9. Sec. 15)

Alabama's constitution prohibits any revenue bill from being passed during the last five days of the legislative session. Arizona's charter stipulates: “Every law which imposes, continues, or revives a tax shall distinctly state the tax and the objects for which it shall be applied; and it shall not be sufficient to refer to any other law to fix such tax or object” (Art. 9, Sec. 9).

Some states (e.g., Alabama and Pennsylvania) have a rule such as:

The general appropriation bill shall embrace nothing but appropriations for the ordinary expenses of the executive, legislative, and judicial departments of the state, for interest on the public debt, and for the public schools. The salary of no officer or employee shall be increased in such bill, nor shall any appropriation be made therein for any officer or employee unless his employment and the amount of his salary have already been provided for by law. All other appropriations shall be made by separate bills, each embracing but one subject. (Alabama, Art. 4, Sec. 71)

Most state constitutions contain provisions about specific taxes and other finance matters.

Property, or ad valorem (Latin for according to value), taxes have long been a staple of state and local revenue systems.⁶⁴ These taxes are levied in all states on real property such as land, improvements on land (e.g., a home), and business property and on personal property (e.g., an automobile) by a few states. The property-tax levy typically consists of the property's assessed value multiplied by an assessment ratio (i.e., percentage of property value subject to taxation) multiplied by the tax rate. Although states levy some property taxes, especially on public utilities such as railroad tracks and power lines, the lion's share of property taxation was devolved during the nineteenth century to local governments (e.g., counties, municipalities, townships, independent school districts, and levee districts). A few constitutions (e.g., Nebraska, North Dakota, and Texas) prohibit the state from taxing property for state purposes.

Given the historic importance of property taxes to local governments and the tax's ubiquitous incidence on landowners, it frequently arouses taxpayer ire. The element of the tax attacked most often is the rate. Limits on property-tax rates began to appear in constitutions during the late nineteenth century (e.g., Alabama) when local governments used it to finance roads, streets, sewers, and other infrastructure and to retire debt. During the Great Depression (1929–1938), voters revolted against property-tax rates that precipitated foreclosures. Perhaps the most famous (or infamous) property-tax revolt was Proposition 13 (the Jarvis-Gann citizen initiative) that amended California's constitution in 1978. This initiative shifted property-tax valuation away from current market values toward acquisition values. It limited tax increases to 2 percent per year (unless a property is sold) and required two-thirds majorities to approve state statutes and local referendums increasing other types of taxes. Many observers argued that Proposition 13 triggered a nationwide tax revolt and helped usher Ronald Reagan (California's governor in 1967–1975) into the White House in 1981, although empirical evidence for these claims is weak.

In 2010, Indiana voters approved a constitutional amendment capping property taxes. A few states limit the amount of revenue or revenue increase derived from the property tax, thereby requiring a rate reduction if, for example, inflation increases assessed values, which then produce revenues above the cap. Many limits exempt tax increases dedicated to debt service, but some, such as Proposition 13, permit no exceptions.

Many constitutions have special provisions for agricultural property, usually requiring it to be valued in terms of current agricultural uses, not alternate uses of higher value (e.g., a shopping center). The Washington Constitution allows the legislature to extend this principle to “standing timber and timberlands, and … other open space lands which are used for recreation or for enjoyment of their scenic or natural beauty” (Art. VII, Sec 11).

Constitutions may require property to be taxed at “fair market value,” “fair cash value,” “true and full valuation in money,” or “just valuation.” A few constitutions prohibit local governments from assessing property owners for the costs of sidewalks, street paving, sewers, and the like at levels exceeding the increased value enjoyed by the property owner from such improvements.

Most states require uniformity of assessment, and some require reassessment at regular intervals. Given the importance and subjectivity of property assessment, twenty-two states mandate elected local assessors, fourteen allow localities to elect or appoint assessors, and ten require appointment.⁶⁵

All state constitutions permit property-tax exemptions. These may include religious, charitable, educational, cemetery, cultural, historical, and water facilities plus federal, state, and local government properties. Exemptions also exist for widows, senior citizens, veterans, and disabled persons, though these are usually enacted via statutes. Circuit breakers, too, are usually provided by statute. Almost half of the state constitutions provide for a homestead exemption whereby a certain portion (e.g., §3,000) of the value of one's home is exempt from the tax. A few constitutions (e.g., Amendment 27 to the Arkansas Constitution) authorize property-tax exemptions or abatements to attract or expand business firms. At least two states, New Mexico and Oklahoma, exempt property (including commercial goods) that is “moving in interstate commerce” through the state, even if it is placed in a warehouse where “the property is assembled, bound, joined, processed, disassembled, divided, cut, broken in bulk, relabeled or repackaged.” Utah has a broad provision going beyond the property tax: “Nothing in this Constitution may be construed to prevent the Legislature from providing by statute for taxes other than the property tax and for deductions, exemptions, and offsets from those other taxes” (Art. XIII, Sec. 4).

Forty-five states levy a sales tax and all levy excises (e.g., on cigarettes and alcoholic beverages), although most of these levies are not rooted constitutionally.⁶⁶ State constitutions say little about these taxes. Montana's constitution simply limits the sales tax rate to 4 percent. Michigan's charter limits the rate to 4 percent but allows a later 2 percent add-on to help fund education. Michigan further mandates that 15 percent of the revenue from the 4 percent tax “be used exclusively” to assist “townships, cities and villages, on a population basis” (Art. IX, Sec. 10). California limits sales taxation on food. Nevada's constitution exempts “all household goods and furniture used by a single household and owned by a member of that household” and “food for human consumption” but does not exempt “prepared food intended for immediate consumption” or alcoholic beverages (Art. 10, Sec. 3). The Ohio Constitution (Art. 12, Sec. 13) has a complex provision prohibiting taxation of food, ingredients, and packaging from wholesale to retail purchases. Colorado's Constitution (Art. 10, Sec. 20) authorizes cigarette taxes specifically to reduce smoking.

All states levy motor-fuel taxes, nearly all of which are statutory. However, a number of constitutions require such taxes to be dedicated to highway programs. Arizona's rule is indicative: “No moneys derived from fees, excises, or license taxes relating to registration, operation, or use of vehicles on the public highways or streets or to fuels or any other energy source used for the propulsion of vehicles on the public highways or streets, shall be expended for other than highway and street purposes including the cost of administering the state highway system” (Art. 9, Sec. 14). Massachusetts amended its constitution to permit such revenues to support mass transportation (Art. CIV).

Income taxes, which are levied on all or some personal income by forty-three states, also are based mostly on statutes. Only a few constitutions (e.g., Indiana and Kansas) authorize the legislature to enact a personal or corporate income tax. Ohio has the most extensive provision: “The taxation of incomes, and the rates of such taxation may be either uniform or graduated, and may be applied to such incomes and with such exemptions as may be provided by law” (Art. 12, Sec. 3). A few constitutions (e.g., Kansas) authorize the legislature to couple the state income tax to the federal income-tax code.

Otherwise, a few constitutions contain restrictions. Delaware prohibits income-tax increases from being made retroactive from their date of enactment (Art. VIII). The Illinois Constitution says, “A tax on or measured by income shall be at a non-graduated rate. At any one time there may be no more than one such tax imposed by the State for State purposes on individuals and one such tax so imposed on corporations. In any such tax imposed upon corporations the rate shall not exceed the rate imposed on individuals by more than a ratio of 8 to 5” (Art. IX, Sec. 3[a]). Michigan's document holds that “no income tax graduated as to rate or base shall be imposed by the state or any of its subdivisions” (Art. IX, Sec. 7). Utah dedicates income-tax revenues to public schools. A 1975 amendment (Art. VIII, Sec. I, Para. 6) to New Jersey's constitution requires all personal income-tax revenues to be placed in a perpetual Property Tax Relief Fund and appropriated annually to reduce or offset property taxes.

No constitution specifically prohibits an income tax, but Florida's charter effectively blocks enactment of a personal income tax, as does the Texas constitutional rule requiring any income tax enacted by the legislature to be approved by a majority of the state's voters before taking effect (Art. 8, Sec. 24).

The Alabama and Ohio constitutions authorize estate taxes, and a few constitutions authorize the “pick-up tax” whereby the state tax equals the allowable federal estate-tax credit. South Dakota's constitution, however, prohibits any inheritance tax (Art. 11, Sec. 15). Other constitutions are silent on estate taxes.

Forty states levy severance taxes on natural resources; only Ohio's constitution specifically authorizes them. Nevada limits the tax to a rate not to exceed 5 percent of the net proceeds (Art.10, Sec. 5). A few states earmark some severance-tax revenues. In North Dakota, “Not less than fifteen percent of the tax imposed for severing coal shall be placed into a permanent trust fund … administered by the board of university and school lands, which shall have full authority to invest said trust funds … and may loan moneys from the fund to political subdivisions” (Art. X, Sec. 21).

Although many state constitutions have provisions on the chartering and governance of corporations, corporate taxation is handled mostly by statute. There are only some miscellaneous provisions such as New York's charter: “Where the state has power to tax corporations incorporated under the laws of the United States there shall be no discrimination in the rates and method of taxation between such corporations and other corporations exercising substantially similar functions and engaged in substantially similar business within the state” (Art. XVL, Sec. 4).

In 2010, Iowa voters approved a constitutional amendment providing that when the legislature next increases the sales tax, three-eighths of each cent of the new revenue shall be deposited in a new, permanent Natural Resources and Outdoor Recreation Trust Fund. As noted above, all states earmark motor-fuel tax revenues to highways, but various other earmarks of specific tax revenues (e.g., from tobacco and alcoholic beverages), as well as lottery proceeds, can be found in some constitutions.

All state constitutions provide for public education, usually instructing the legislature to provide for free public schools (K–12). In some cases, the constitution may provide for the structure of schools, specify tax authority for education, and dedicate certain state revenues to education. Trends in recent decades have included state assumption of more responsibility for financing education and litigation arguing that state constitutional education and equal protection provisions mandate state equalization of school funding across local districts or pupils.

Public financing for statewide office campaigns was approved by voters in Maine in 1996 and in Arizona in 1998.⁶⁷ There are partial programs in some other states, but nearly all are statutory. Hawaii's document, though, instructs the legislature to “establish a campaign fund to be used for partial public financing of campaigns for public offices of the State and its political subdivisions” (Art. II, Sec. 5). However, most constitutions say little about campaign financing, except for occasional provisions such as “No fee shall ever be required in order to have the name of any candidate placed on the official ballot for any election or primary” (Arizona, Art. 7, Sec. 14).⁶⁸

Forty-seven states have one or more budget stabilization funds. Such funds are constitutionally authorized in twelve states (i.e., Alabama, Alaska, California, Delaware, Louisiana, Missouri, Oklahoma, Oregon, South Carolina, Texas, Virginia, and Washington). The constitutional authorization ordinarily specifies the level of revenues to be deposited in the fund at regular intervals and the procedures for spending and replenishing the fund.

A number of constitutions establish permanent trust funds and other funds for specific purposes, such as a Veterans Land Fund and a Water Development Fund in Texas. This is another form of revenue earmarking insisted upon by the people. Revenue for the funds usually comes from specific sources (e.g., specific taxes, land proceeds, or levies on minerals or oil). Some funds can borrow money.

In 2010, North Dakotans approved a constitutional amendment establishing a state legacy fund to be stocked with certain oil and gas tax revenues. New Mexico has a “severance tax permanent fund” from which the legislature can make appropriations “for the benefit of the people” (Art. VIII, Sec. A). The recently established Idaho Millennium Permanent Endowment Fund gets the revenues received by the state from the 1998 master settlement agreement with tobacco companies. Perhaps most well known is the Alaska Permanent Fund, created in 1976. It is funded by oil and gas tax revenues, and it distributes money to all residents each year. Each resident gets the same amount because the US Supreme Court ruled that payments calibrated to years of Alaska residency violated the US Constitution's right to interstate travel.⁶⁹

State constitutions originally said little about borrowing and debt. States were assumed to possess inherent borrowing authority, and they made little peacetime use of borrowing until New York made money from financing construction of the Erie Canal in 1817. Other states also borrowed to finance infrastructure, but the Panic of 1837 drove many states toward bankruptcy, and about ten states defaulted on bonds. The federal government declined to bail out such states. This fiscal crisis triggered reforms, which, since the 1840s, have produced extensive provisions in most constitutions.

A few constitutions (e.g., Connecticut, New Hampshire, and Vermont) have no specific debt provisions. The most frequent restriction is a referendum requirement to approve state general-obligation debt except in cases of war, insurrection, natural disasters, and debt refinancing, although a few states (e.g., Florida) limit refinancing to reducing interest payments.

Another common restriction is a super-majority legislative vote to incur debt. Delaware requires a three-fourths majority of each legislative chamber to approve general-obligation debt except in cases of war, insurrection, and debt refinancing (Art. 8, Sec. 3). Many constitutions (e.g., Arizona) establish debt limits for general-obligation borrowing. A typical example is Mississippi: “Neither the State nor any of its direct agencies, excluding the political subdivisions and other local districts, shall incur a bonded indebtedness in excess of one and one half (1½) times the sum of all the revenue collected by it for all purposes during any one of the preceding four fiscal years, whichever year might be higher” (Art. 4, Sec. 115). Hawaii also establishes a limit, but if the governor declares an emergency, debt can exceed the limit if approved by a two-thirds vote of each legislative house.

Most documents permit borrowing only for public purposes. Some constitutions (e.g., Alaska and Delaware) additionally require specification of reasons for debt and require borrowed money to be spent for those reasons only. Most constitutions also prohibit the state from giving or lending its credit to aid any individual, association, or corporation, although the Massachusetts Constitution, while having this prohibition, allows the state to “give, loan or pledge its credit” if approved by a two-thirds vote of a quorum in each house of the legislature (Art. LXXXIV).

However, public purpose rules and other debt restrictions do not usually apply to revenue bonds, although a few state constitutions (e.g., Florida and Nebraska) explicitly exclude all or certain revenue bonds from debt restrictions.

Many constitutions also stipulate rules such as this: “Neither the state nor any county, school district, municipality, special district, or agency of any of them, shall become a joint owner with, or stockholder of … any corporation, association, partnership or person” (Florida Art. VII, Sec. 10).

Some constitutions place a dollar ceiling on debt (e.g., §100,000, Nebraska, Art. XIII, Sec. 1) but then permit debt for specific purposes (e.g., infrastructure) spelled out in the constitution if approved by a majority or usually super-majority vote of the legislature.

One of the most prominent budget features is that forty-four constitutions require some type of annually balanced operating budget. Most constitutions also require all appropriations and expenditures of public funds to be made by law; a few specify annual or biennial state budgeting and designate the fiscal year (usually July 1 to June 30); most allow the governor to propose the state budget; all allow the governor to veto appropriations bills (and forty-four states allow a line-item veto); and some provide for appointed or elected finance officials, such as state treasurer, auditor, and comptroller. Some constitutions (e.g., Pennsylvania) specifically prohibit appropriations for charitable, educational, or benevolent institutions not under absolute state control and for any denomination or sectarian institution, corporation, or association. Missouri's constitution requires all revenues to be placed in the state treasury and then appropriated by the legislature in the following order of priority (1) payment of sinking fund and interest on state debt, (2) public education, (3) costs of assessing and collecting state revenue, (4) payment of the civil lists, (5) support of eleemosynary and other state institutions, (6) public health and welfare, (7) all other state purposes, and (8) expenses of the general assembly (Art. 3, Sec. 36).

Given that local governments are legal creatures of the states, most constitutions have provisions pertinent to local government finance, although a few, such as New Hampshire and Vermont, say nothing about regulating local governments. By contrast, Oklahoma's document has lengthy provisions, including delineation of the boundaries of the state's seventy-seven counties. Many of the provisions affecting local governments, such as property-tax rules, were discussed above.

A number of constitutions (e.g., California and Colorado) prohibit the state legislature from levying taxes for local purposes but allow it to grant specific tax powers to local governments. New Mexico's constitution specifies, though, that “no tax or assessment of any kind shall be levied by any political subdivision whose enabling legislation does not provide for an elected governing authority” (Art. VIII, Sec. 9). Generally, in Dillon's Rule states, local governments cannot levy taxes or fees not explicitly authorized by their charters; in home-rule states, municipalities and sometimes counties have some revenue flexibility so long as they do not contradict state law. The Illinois Constitution (Art. VII, Sec 6[g]) allows the legislature, by a three-fifths vote, to deny or limit tax powers and also limit debt for home-rule units. Many amendments to the Alabama Constitution authorize specific local taxes for specific units so long as the locality's voters approve the taxes. Most constitutions prohibit the legislature from enacting laws that apply to specific counties or municipalities, requiring instead general laws applicable to classes of local governments (e.g., by population size). Some also prohibit the legislature from enacting special laws on certain local subjects, such as laws amending charters, regulating local affairs, creating local offices, or prescribing local officials' duties.

Usually, all of the general constitutional rules that apply to state public finance also apply to local governments. However, many state constitutions place additional tax-rate and tax-level restrictions on local governments, as well as debt limits. Michigan's constitution states, “Property taxes and other local taxes and state taxation and spending may not be increased above the limitations specified herein without direct voter approval” (Art. IX, Sec. 25). A few constitutions contain specific restrictions. An Arizona amendment states that any local jurisdiction having “authority to impose any tax, fee, stamp requirement or other assessment, shall not impose any new tax, fee, stamp requirement or other assessment, direct or indirect, on the act or privilege of selling, purchasing, granting, assigning, transferring, receiving, or otherwise conveying any interest in real property” after 2007 (Art. 9, Sec. 24). Debt limits may be framed in terms of a fixed percentage (e.g., 6 percent in Arizona) of the assessed value of the locality's property subject to property taxes, a fixed limit such as the locality's current-year revenues, or a local referendum requirement. Many constitutions prohibit the state from assuming responsibility for local debts. Some constitutions also spell out accounting, auditing, and other rules intended to minimize local financial corruption.

In a few states, the constitution can provide for some revenue sharing with local governments. Ohio's charter states that “Not less than fifty per cent of the income, estate, and inheritance taxes that may be collected by the state shall be returned to the county, school district, city, village, or township in which said income, estate, or inheritance tax originates, or to any of the same, as may be provided by law” (Art. 12, Sec. 9). In the realm of the idiosyncratic, Kentucky's constitution requires each county to have a fiscal court, which is the county legislative body.

A big issue for local officials, however, is unfunded state mandates. Some constitutions (e.g., Maine and Michigan) prohibit various forms of unfunded mandates. Michigan's Headlee Amendment (1978) provides the following rule: “The state is prohibited from requiring any new or expanded activities by local governments without full state financing, from reducing the proportion of state spending in the form of aid to local governments, or from shifting the tax burden to local government” (Art. IX, Sec. 25). A common complaint of local officials is that legislatures find many ways to circumvent such mandate restrictions, as has happened in Michigan.

Although, on average, state constitutions, compared to the US Constitution, contain more details about and specific restrictions on taxing, spending, and borrowing, most state constitutions are not, on balance, excessively restrictive of state fiscal powers. This chapter, however, has not attempted to assess the actual impacts of these provisions. Those impacts have been examined elsewhere.⁷⁰

Today, some of the most significant restraints on state tax powers, though less so for state spending and borrowing, stem from federal statutes and court rulings. Even though the federal Constitution imposes no significant restraints on state tax powers, Congress and the courts have employed the Constitution's commerce clause, export-import clause, and privileges and immunities clause, as well as the Fourteenth Amendment's due process and equal protection clauses, to restrict state taxation. Some of the growth of these federal restrictions has been associated with the general expansion of federal power, especially since the 1960s.⁷¹ Rising federal restrictions have been due also to the rise of a national, now global, economy in which so many taxable activities involve interstate and foreign commerce. A leading state concern today is the federal prohibition on state collections of sales taxes on most out-of-state purchases made by their residents via the Internet, telephone, and mail order. The unwillingness of Congress to authorize such taxation costs states about §18 billion per year in sales-tax revenue. A related concern is the 1998 Internet Tax Freedom Act, which was extended to 2014 in 2007. This act prohibits federal, state, and local taxes on Internet access as well as such Internet levies as bandwidth, bit, and e-mail taxes.

Although the federal government does not regulate state and local spending in a general way, numerous policies affect, co-opt, and mandate state and local spending. Federal court orders, for example, can require expenditures of billions of state and local revenues for institutional reform, such as school desegregation and prison improvements; matching requirements attached to federal grants co-opt state and local funds for federally desired policies; and unfunded mandates require state and local spending on specific federal objectives (e.g., environmental protection). The National Conference of State Legislatures estimates that Congress shifted about §130 billion in unfunded costs to the states in fiscal years 2004–2008.⁷²

By contrast, the federal government has subsidized state and local borrowing by allowing taxpayers to exclude from their federal income-tax liability interest earned on many state and local bonds. This allows state and local governments to borrow at comparatively low interest rates. The 2009 federal stimulus act provided for taxable Build America Bonds (BABs) by which the federal government subsidizes the interest payments that local governments make to investors, increasing the bonds' yield by 35 percent. About §174 billion in BABs were issued by states by late 2010. Critics, however, contend that BABs merely encouraged state and local governments to accumulate more debt. The program was allowed to expire at the end of 2010.

The federal-state tax coordination envisioned by Hamilton never came to pass. Political restraints kept the federal government out of state and local tax lairs for some 145 years, but during the 1930s, the federal government began to circumscribe and intrude upon state and local taxation in unilateral ways. Changes in federal tax laws occur with little consultation with state and local officials, and enactment of a federal sales or value-added tax, as proposed by some, could squeeze state consumption taxes, such as the sales tax. Full discussion of federal-state issues, however, is beyond the scope of this chapter.

I wish to thank Richard L. Cole, University of Texas at Arlington, Troy E. Smith, Brigham Young University-Hawaii, and Conrad Weiler, Temple University, for their helpful comments.