How Personal Income Tax Increases Hurt Small Businesses

The Tax Foundation recently published an outstanding map that shows the percentage of “pass-through entities” filling in the federal personal income tax code in each of the 50 states. Pass-through entities are essentially businesses that are filling their business earnings in the personal income tax code, instead of the corporate income tax code, such as sole proprietorships, partnerships, LLCs and S-corporations. The map is below:




The take-away from this map is an important theme that we at ALEC stress frequently: the personal income tax is not just paid by wealthy individuals. As the Tax Foundation notes, 54.8 percent of all workers employed by a private business work for a firm that files in the personal income tax code. That amounts to 66.6 million workers. The figure varies between roughly 51 percent and 67 percent across the states. A table detailing the top and bottom five states is below:


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As such, those arguing for “soaking the rich” by moving from a flat income tax to a graduated income tax, or increasing the burden on the top in those states that already have a graduated income tax, are not just arguing about taxing “millionaires”—they want to tax small businesses. These small businesses are major drivers of job growth and wage growth. Increasing their tax burden means less resources for expanding production facilities, R&D expenses in efforts to develop new products, hiring new workers, paying more generous salaries or increasing employee benefits.

Given this, policymakers and citizens should think twice when they hear calls for a higher income tax on the wealthy. A call for higher personal income taxes is a call for higher taxes on small business.

In Depth: Cronyism

Cronyism in tax policy stifles innovation, hinders competition and introduces a deep temptation for corruption. The 2014 ALEC Center for State Fiscal Reform study, The Unseen Costs of Tax Cronyism: Favoritism and Foregone Growth, found that in the most recent year in which states published their respective tax expenditure…

+ Cronyism In Depth