Although the Biden administration’s intention may be to target top firms and earners with its new corporate tax proposals, many small businesses could be impacted by what would be unwise policy considering the disproportionate harm done already by the COVID-19 pandemic.
Contrary to the image some may hold of corporations, not all are necessarily large employers. New Census data from its County Business Patterns survey for 2019 show that 99.4 percent of C corporations have fewer than 500 employees, the Census definition of a small business. These small C corps also would be subject to the Biden administration’s proposed hike in the corporate taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. rate to 28 percent, not just the largest corporations.
Although most small businesses are structured legally as a pass-through entity, and therefore subject to individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. es rather than corporate taxes, nearly one-quarter are structured as C corporations. Some industries have a larger small business corporate sector than others and would be disproportionately affected by Biden’s corporate tax proposals. Industries where more than a quarter of its small businesses are structured as C corporations include mining, utilities, manufacturing, wholesale and retail trade, transportation, information, finance, and management of companies.
Many of these smaller corporate firms could become larger over time as they become more successful but would be harmed by a higher corporate tax rate. Recent research shows that corporate taxation distorts the “life cycle” of firms. By reducing after-tax incomeAfter-tax income is the net amount of income available to invest, save, or consume after federal, state, and withholding taxes have been applied—your disposable income. Companies and, to a lesser extent, individuals, make economic decisions in light of how they can best maximize after-tax income. , a higher corporate tax would make it more difficult for these firms to finance their investment with retained earnings, causing them to grow more slowly. Start-up rates altogether could be affected as well, which have already been falling since the 1980s. Research has found that nearly one-fifth of this decline in start-up rates could be explained by the U.S. high corporate tax rate prior to the 2017 tax reform.
Policymakers should recognize that corporate tax hikes will not only impact large firms, but many smaller and younger firms as well. Considering that many of these smaller firms are significant contributors to net job growth, raising corporate taxes at this time would not be conducive for a speedy economic recovery.
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