PROTECTING SMALL BUSINESS, PROMOTING ENTREPRENEURSHIP

Proposed Tax Increases are Destructive to Small Businesses and U.S. Economic Recovery

By at 12 April, 2021, 1:37 pm

by Raymond J. Keating-

Back in 1819, Chief Justice John Marshall summed up the straightforward economic problem with taxation in nine words: “the power to tax involves the power to destroy.”

Over two hundred years later, far too many politicians have ignored this eloquent expression of an economic truth, as most recently evidenced by President Joe Biden’s plans to increase taxes.

It also must be noted that few economists, when abiding by economic principles as opposed to expressing their political preferences, would argue that it’s a good idea to raise taxes particularly during a time when entrepreneurs, businesses, workers and investors are working to recover from a steep economic decline – in our case, trying to recover from a pandemic recession.

Nonetheless, President Biden has put forth a discomfortingly lengthy list of proposed tax increases. The latest push has been on raising taxes on U.S. corporations tied to a massive increase (above increases already planned) of $2 trillion in federal spending on a long political wish list over the coming eight years.

Corporate Tax Hike Would Hit Small Businesses

The central issue in the Biden corporate tax increase would be a 33 percent increase in the corporate income tax rate – taking the tax rate from 21 percent to 28 percent.

There are, of course, several problems with such a proposal. Near the top of the list to keep in mind would be that such a corporate tax increase would not just be about raising taxes of very large businesses (not that that would be positive, by any means), given that the vast majority of C corporations are small businesses, as noted in the following table (2017 latest employer data from the U.S. Census Bureau).

Number of Employees

    Percent of Total Corporations (Employers)

Less than 5

    54.8%

Less than 10

    72.5%

Less than 20

    84.6%

Less than 100

    96.2%

This proposed tax increase very much is about raising taxes on small businesses.

Also, in this package of tax increases on businesses are proposals to increase the minimum tax on corporations; to repeal the Foreign-Derived Intangible Income (FDII) deduction, which actually provides incentives for companies to shift intellectual property assets into the U.S.; and to manipulate business decisions on allocating resources via tax policy, as opposed to what makes the most economic sense.

In addition, President Biden proposes to raise additional taxes on oil and natural gas companies. Once again, this is an industry overwhelmingly populated by smaller businesses. For example, in the oil and natural gas extraction industry, 89.4 percent of employer firms have fewer than 20 employees; and in the support for oil and natural gas operations sector, 82.9 percent have fewer than 20 workers.

Deeper Effects of Raising Taxes: The Hit to Investment, Innovation, Productivity and Competitiveness

Whether inflicting higher taxes on small or big businesses – in this case, of course, both and those in between – the general negatives for the economy are clear.

First and foremost, draining resources from private sector businesses, which must serve consumers well in order to thrive and survive, and handing those dollars over to government is a net negative for the economy, as government makes decisions based on politics and suffers under incentives that generate enormous inefficiencies.

Second, raising taxes on the returns on investing, innovating and building in business means fewer resources and incentives for investing, innovating and building, with economic, income and employment growth suffering accordingly.

Third, workers are hurt given that their earnings are tied to their productivity. With higher taxes on corporations reducing incentives and resources for investing and innovating, productivity suffers accordingly.

Fourth, increasing corporate income taxes naturally makes the U.S. a less attractive place to establish, build and invest in businesses. The Tax Foundation has reported that if the federal corporate tax rate is increased to 28 percent, the combined federal-state corporate income tax rate in the U.S. would be “higher than every country in the OECD, the G7, and all our major trade partners and competitors including China.”

And while the Biden administration talks of some kind of global “race to the bottom” in terms of corporate income taxes, the reality is that the 2017 reduction in the U.S. corporate income tax rate to 21 percent meant that the combined federal-state tax rate in the U.S. was still slightly above the OECD, non-U.S. average, according to the Tax Foundation.

Plan Urges Other Nations to Raise Taxes  

The Biden plan also calls on other nations to impose their own minimum corporate income taxes to fit the desires of, well, the Biden administration. The foolishness of doing so should be manifest to policymakers around the world, and given that, President Biden has proposed punishing foreign corporations by denying “deductions to foreign corporations on payments that could allow them to strip profits out of the United States if they are based in a country that does not adopt a strong minimum tax.” That, of course, would only serve to limit the attractiveness of doing business in the U.S., while also incentivizing other nations to punish U.S. international businesses. It would mean reduced trade and economic growth for U.S., thereby hurting U.S. entrepreneurs, businesses and workers.

The list of ills goes on. The Tax Foundation’s analysis of the Biden plan points to lost economic growth, less investment, reduced productivity, fewer jobs and lower wages.

NAM Study: Weight of Biden Tax Agenda Harmful to Wages and GDP

A study from the National Association of Manufacturers looked at the full Biden plan to increase taxes. That is, the Biden agenda that “would increase the corporate income tax rate to 28 percent, reinstate the corporate AMT, eliminate expensing of most depreciable assets, eliminate the 20 percent deduction for certain pass-through business income, increase the top individual income tax rate to 39.6 percent, and tax capital gains and dividend income at ordinary rates for taxpayers with incomes above $1 million and tax unrealized capital gains at death.”

Again, even given some limited model shortcomings, the findings are basically the same in terms of the plan being a serious net economic negative. For example, it was noted:

“The simulation results indicate that although such tax policy changes would raise significant amounts of revenues, these revenue increases would naturally have economic costs, and these costs increase with the size of the corporate income tax rate increase… To capture orders of magnitude, the short run effects of the tax change, measured at 2023 levels (two years after assumed enactment in 2021), correspond to a decline in GDP of $107 billion, a decline in investment in ordinary capital of $70 billion, and, to a rough approximation, a reduction of 1.0 million jobs, accompanied by an increase in transfer payments of $65 billion. These effects translate into a reduction of $638 in wage income per household coupled with an increase of $585 in transfers per household two years after enactment of the tax change.”

Justice Marshall was right. The power to tax very much involves the power to destroy – and that includes the power to destroy small businesses and jobs.

U.S. tax and regulatory policy needs to provide relief to incentivize entrepreneurship, investment, innovation, productivity gains, and job growth. Such policies also should make the U.S. the best place on earth to set up shop and to invest. Unfortunately, the Biden agenda does the exact opposite.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council.

 

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