Yesterday at the colloquium, Richard Prisinzano of the Treasury Department and Danny Yagan of the Berkeley Economics Department presented their joint work (along with six co-authors from Treasury and the University of Chicago), which will soon be appearing in the next annual volume of the NBER's Tax Policy and the Economy, entitled "Business in the United States: Who Owns It and How Much Tax Do They Pay?"
This is an important contribution, or rather the first of what are likely to be a series of important contributions, that attempt to increase our knowledge by making use of U.S. federal tax return information about businesses in the U.S. that are taxed as pass-throughs (i.e., partnerships or S corporations). In particular, it seeks to link information from partnership-level Form 1065 returns to that from partner-level Schedule K-1 returns, thereby presenting a comprehensive picture of who reports partnership income and how much U.S. federal income tax is paid on such income. In a more rational world, this would have been done years ago, and doing it would be easier than it actually is. I'll focus here just on partnerships, although there is also some information in the paper in re. S corporations.
The paper's main conclusions are threefold:
(1) Taxable income from partnerships is more concentrated among high-earners than that from C corporations.
(2) Partnership ownership is opaque - 20% of it goes to unclassifiable partners, and 15% is in circularly owned partnerships (as in the case where ABC owns most of DEF, which owns most of GHI, which owns most of ABC). The income that they can trace through to the K-1s ends up being less than the 100% that should be there, given the 1065s.
(3) The average federal income tax rate on business income from U.S. pass-throughs appears to be significantly lower than that for C corporations. This reflects both the types of income involved (much of it dividends and capital gains) and the tax rates of the partners (including tax-exempt entities and foreigners) that get allocated partnership income.
There are many remaining questions, e.g., pertaining to whether the authors have correctly identified "business income," as opposed to investment income, as this might be relevant to how one thinks about the findings. Data limitations, along with open questions regarding what we mean, for policy-relevant purposes, by "business versus investment income," make this an area for further research. Also, the paper's data is for 2011, and it will be interesting to see what happens to the various bottom lines starting in 2013, when the long-term capital gain and dividends tax rates increased from 15% to 20% (or 23.8% if one can't avoid the 3.8% Medicare tax on net investment income).
If one accepts the above findings and they continue to hold post-2013, possible implications include the following:
1) The finding that partnership income is lower-taxed might be relevant to the debate about corporate tax reform, including in the scenario where a corporate tax rate reduction is financed through base-broadening that raises net revenue from the partnership sector,
2) That same finding also calls attention to partnership tax issues of recent note - pertaining, for example, to the carried interest rule and what for a long time was the astonishingly low (although now apparently increasing) audit rate for large partnerships.
3) It also might be relevant to how one thinks about high-end inequality and current U.S. federal income taxation of the top 1 percent or 0.1 percent.
4) The fact that tax-exempt entities and foreigners can invest tax-free through partnerships, whereas they are effectively (albeit indirectly) taxed if they own shares in C corporations that can't wholly avoid paying U.S. tax, ought to get further attention. Now, we've known along that these persons are treated differently, depending on which way they invest. And there are further issues pertinent to how we should want to tax them. For example, do we think that various types of tax-exempt entities, whether they be pension funds or universities, should be getting larger subsidies or smaller ones than under present law? And to what extent do we think that foreigners would bear the incidence of the taxes that they pay through corporate investment and don't pay through partnership investment?
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