A New York Times report tonight sheds some light on the debate on whether ending tax cuts for the top 2%, which is how Obama proposes to deal with the pending expiration of Bush tax cuts, will, as low tax stalwarts contend, hurt small businesses.
Although my sample is anecdotal, it strongly says not, and more systematic analyses supports that view. Most small businesses are not profitable enough to provide enough income to put owners in high enough brackets for the tax increases to make a difference; per the Joint Committee on Taxation, 97% of business owners would not be touched by the proposed tax increases. And I would bet a pretty high proportion of those who would be are high end professionals (think doctors, attorneys, larger accounting firms) who might not like a tax increase, but are not going to make changes in how they operate their firm based on it. The Times provides some corroboration for this belief:
Even among the 750,000 businesses that would be subjected to the higher rates in 2011, many are sole proprietors — a classification so amorphous it can include everyone from corporate executives who earn income on rental property to entertainers, hedge fund managers and investment bankers. Because 80 percent of America’s 32 million businesses are sole proprietorships, 90 percent of the tax cut would be derived from businesses without employees.
But the real cincher is that a tax increase on top earners could produce more new business formation and activity. Why? You can run a lot of expenses through them, and higher marginal tax rates make writeoffs more attractive:
But much of the research over the last two decades has found that increases in top tax rates can lead to an increase in the formation of small businesses, as wealthy individuals apparently begin start-ups to avail themselves of the more generous tax breaks offered to businesses.
“Higher taxes may lead individuals to seek self-employment because the opportunities for tax evasion and avoidance are greater,” according to a report released this month by the nonpartisan Congressional Research Service, which surveyed more than 20 studies on the effects of taxes on hiring.
As someone who runs a small business, there is no question that the tax advantages are nontrivial. But most people also underestimate the difficulty and overestimate the financial rewards of setting up your own shingle.