II. Income Taxes & Prohibition
III. Taxes & Repeal
IV. Alcohol Taxes Today
There were two major sources of federal government revenue for much of U.S. history. One was customs duties on imported products. The other was taxes on alcoholic beverages. About 30 to 40% of the government’s revenue came from alcohol taxes.
This created a serious problem for temperance advocates. Prohibiting alcoholic beverages would abolish a major source of government revenue. Clearly, this was a very powerful argument against National Prohibition.
Nevertheless, nine states had created state-wide prohibition by 1913. And 31 others had local option. Therefore, many counties across the country had their own prohibition. Consequently by that time half the country was dry (under prohibition).1
Prohibition caused a serious reduction in federal tax revenue from alcoholic beverages. So the federal government then looked for other sources of revenue. It found one in 1914 by imposing a federal income tax. This was a popular solution because the tax effected only a very, very small number of people. In fact, having to pay the tax was a status symbol about which people were often proud.
II. Income Taxes and Prohibition
The income tax enabled the passage of National Prohibition. The 18th Amendment prohibited the production, importation, or sale of alcoholic beverages. The income tax replaced the lost revenue. National Prohibition lasted from 1920 through 1933.
The revenue from the income tax permitted the federal government to operate during the prosperous 1920s. However, the country went into a severe economic depression after the stock market crash in 1929. Revenue from the income tax fell. But government spending increased. “Prohibition cost the federal government $11 billion in lost tax revenue. And it cost over $300 million to enforce.”2
By then, ordinary workers were having to pay income taxes. Labor unions then opposed income taxes. So did many other organizations and individuals. They called for another source of tax revenue. The obvious solution was to tax alcoholic beverages. The head of the Democratic National Committee promoted Repeal. He said it might create alcohol tax revenues high enough to eliminate the need for the federal income tax.3
III. Taxes and Repeal
But producing and selling alcoholic beverages was now illegal. National Prohibition had destroyed the fifth largest industry in the U.S. Illegal production and sale of alcohol had filled the void created by Prohibition. Obviously, moonshiners, bootleggers and gangsters didn’t pay taxes on their illegal alcohol. For example, Al Capone made $60,000,000 in one year.4 And it escaped taxes.
That led to the next logical conclusion. Simply legalize and tax the production and sale of alcoholic beverages. In turn, that paved the way to Repeal in 1933.
So that’s how taxes and Prohibition and Repeal were closely connected. Just follow the money. Now you know the story. Remember it next April 15th!
IV. Alcohol Taxes Today
Taxes on distilled spirits are very high today. They account for over half the retail price of a typical bottle of distilled spirits. That’s why it’s illegal to distill your own spirits. Yet people can brew their own beer and make their own wine. That’s because the taxes on beer and wine are much lower.
The very high taxes on spirits is why it’s still profitable to distill and sell them illegally. Reducing the taxes would reduce illegal production. That could lead to an increase in actual tax revenues.
Reducing taxes to increase revenues can be an effective strategy. For example, Canada had a very tax on cigarettes. The result was predictable. People counterfeited cigarette tax stamps and also illegally imported cigarettes. They did this on a massive scale. Canada then reduced the cigarette tax. After the tax was reduced, the total tax revenue exceeded the revenue under the higher tax.
In addition to raising total revenue, there’s another important reason to reduce taxes on distilled spirits. Illegally produced spirits (moonshine) often has high lead toxin levels. These can cause paralysis, seizures, blindness, and even death.
In one recent study, investigators examined moonshine made at 48 different stills. Over half the samples contained dangerously high lead levels.5 This is a very serious problem. Drinking moonshine causes about 80% of all adult lead poisoning deaths in the U.S.
Increasing revenue and saving lives (and preventing paralysis, seizures, and blindness) would be a win-win situation.
V. Resources on Taxes and Prohibition
Brown, L. Economics of Prohibition. Boston: Everett, 1916.
Carradine, R. Taxed to Death in Alabama as a Result of [State] Prohibition. NY: U.S. Brewers’ Assn, 1909.
Fernald, J. Economics of Prohibition. Memphis, TN: Rarebooksclub, 2012.
Fisher, I. Economic Benefits of Prohibition. Westerville, OH: Am Issue, 1926.
Gebhart, J. Cost of Prohibition and Your Income Tax. Washington: Assn Against Prohib Amend, 1929.
_______. Does Prohibition Pay? Washington: Assn Against Prohib Amend, 1930.
Miller, H. An Economist Looks at Prohibition. Westerville, OH: Am Issue, 1930.
Thornton, M. The Economics of Prohibition. Salt Lake City: U Utah Press, 1991.
Tillitt, M. The Price of Prohibition. NY: Harcourt, 1932.
Virginia Assn for Local Self-Govt. Your Tax Burdens will be Made Heavier by State-wide Prohibition. Richmond: The Assn, 1914.
Warburton, C. The Economic Results of Prohibition. NY: Columbia U Press, 1932. (Repub 2015)
Weise, C. The Political Economy of Prohibition and Repeal. M.S, thesis, Auburn U., 1998.
1 McGrew, J. History of Alcohol Prohibition. Schaeffer Drug Library website.
2 Lerner, M. Prohibition. PBS website.
3 Granger, G. Economic Effects of Prohibition Repeal. Washington: CQ Press, 1931.
4 Schlaadt, R. Alcohol Use and Abuse. Guilford, CT: Dushkin, 1992, p.16. Fite, G. and Reese, J. Economic History of the US. Boston: Houghton Mifflin, 1959, p. 579.
5 Tsai, M. Why is moonshine against the law? Slate website, Oct. 18, 2007.