High Taxes on Individuals Have Huge Impact on Business

Non-Corporate Entities Are an Increasing Share of Business Activity 

Washington, D.C., June 6, 2012—Barack Obama and Mitt Romney agree on at least one thing: lowering the corporate tax rate is important for improving the competitiveness of American business. They disagree when it comes to lowering individual income tax rates, however, even though the amount of business activity that is taxed at that level is now larger than ever before, according to a new study from the Tax Foundation. 

President Obama would increase the current top rate on individual income from 35 percent to 39.6 percent, while Romney would cut all individual rates by 20 percent—which would lower the top rate of 35 percent by 7 percentage points to 28 percent.

There has been tremendous growth over the past three decades in the number of taxpayers reporting business income as sole proprietors, S corporations, limited liability corporations (LLCs), and partnerships. These non-corporate firm types are often referred to as “pass-through” entities because the firm’s profits are passed directly through to the owners and taxed on the owner’s individual tax return. Because of this relationship, high tax rates on individuals have a direct effect on profitability and competitiveness of business in the U.S.

“The various proposals to raise income taxes on high-income earners fall very heavily on America’s non-corporate businesses,” said Tax Foundation President Scott Hodge. “These pass-through businesses account for a large percentage of business income and employment in the U.S. Raising taxes on them at this time could curtail their hiring and other investment plans, further delaying economic recovery.”

Between 1980 and 2008, the total number of pass-through businesses nearly tripled, from roughly 10.9 million to 31.8 million. At the same time, the number of traditional C corporations declined from 2.2 million to 1.8 million. Half of all income from pass-throughs with at least one employee accrues to taxpayers with incomes above $1 million. Ninety percent of this business income was generated by employers with incomes above $200,000.

Tax Foundation Fiscal Fact No. 314, “Individual Tax Rates Also Impact Business Activity Due to High Number of Pass-Throughs” by Scott Hodge and Alex Raut is available online.

The Tax Foundation is a nonpartisan research organization that has monitored fiscal policy at the federal, state and local levels since 1937. To schedule an interview, please contact Richard Morrison, the Tax Foundation’s Manager of Communications, at 202-464-5102 or morrison@taxfoundation.org.