Taxing the Wealthy

It is easy to demonize the “wealthy” who reside in the upper two income tax brackets.  After all, these “scrooges” are sitting on a pile of money, and they need to pay their fair share.  The thinking is that the government can simply skim some money off the top with virtually no effect on business since it is a tax on “personal income.”   This is the standard rhetoric coming from those who support the expiration of the Bush Tax Cuts in January 2011, but are they right that it will not affect businesses? 

Wealth is often talked about in very concrete terms.  If you make $250,000 a year, then you are automatically rich.  The concept of wealth can be quite relative.  For instance, a physician who makes $250,000 a year but has six children, a mortgage, three car payments, medical malpractice insurance, and six college educations to fund could have the same standard of living as a single person who makes $60,000 a year and has few personal expenses.  Also, consider the small business owner who reports $1,000,000 of profits on his income tax form but reinvests a vast majority of the money back into his company.  He uses $80,000 as personal income, but is forced to claim $1,000,000.  My point being, those individuals in the top two tax brackets do not necessarily live lavish lives with lots of extra money.  This is particularly true for small business owners.

A small business is classified as a sole proprietorship, s-corporation, or partnership.  Small business owners do not usually pay separate taxes for their businesses but rather report their profits by adding it to their personal income tax forms.  Therefore, if you raise personal income taxes, you raise small business taxes.

            Small business owners typically reinvest a large portion of their personal earnings back into their company. But the when the Bush Tax Cuts expire, there will be less to invest.  With less investment into small businesses, there will be fewer jobs and fewer goods produced.  Hence, living standards will be lower than they otherwise would have been.

            This adds further validation to my last post that this recovery will be marked by persistently sluggish job creation.  Net job creation comes from startups (which are usually small businesses in the first year of operation).  The increased tax burden will leave small business owners with less money to hire people.

            The idea that businesses will be untouched by the January 2011 tax increase is simply fallacious.  Unfortunately, small businesses will be the victim.