In his State of the State address last week, John Kasich returned to a favorite theme, cutting personal income tax rates, with the aim of unleashing small business, “the engines of job creation in our state.” The governor not only wants to reduce income tax rates by 20 percent (bringing the reduction to 41 percent since 2005). He has proposed a 50 percent deduction for small business owners on annual income up $750,000.
“What a shot in the arm,” the governor declared.
Is he right? Ease what he describes as “punishing” tax rates and small businesses will lead the way in economic development and job creation?
Worth weighing as a companion to the governor’s address is an analysis by Michael Mazerov of the Center on Budget and Policy Priorities, a Washington, D.C., think tank. Mazerov punctures many of the claims by the governor and others. He argues there is “virtually no evidence” to support the contention that the level of personal income taxes is key to the growth of small business.
Mazerov cites a 2011 study by the Treasury Department that found just 2.7 percent of personal income taxpayers are the owners of small businesses that have employees other than the owner or owners. The Treasury defined a small business as having between $10,000 and $10 million in business receipts and at least $5,000 in business-related deductions. Mazerov adds that the savings from an across-the-board tax cut would flow mostly to wage and salary earners, recipients of dividends, interest and other income, or those with little, if any, relation to a small business operation.
Consider the Kasich income tax cut, Mazerov calculating that 43 percent of the savings would flow to the wealthiest 1 percent. Thirteen percent would go to the bottom 60 percent of taxpayers.
More, roughly 90 percent of small businesses generate less than $50,000 a year in taxable income. Apply a tax cut on half that sum, and the owner hardly has the makings of an expansion or the hiring of new employees.
What Mazerov also shows is that small businesses add workers in response to increased demand, not the level of taxation. He points to the conclusion of the nonpartisan Congressional Budget Office: “Increasing the after-tax income of businesses typically does not create much incentive for them to hire more workers in order to produce more, because production depends principally on their ability to sell their products.”
Mazerov relays that the Small Business Administration commissioned a study, released last year, that looked at the relationship between state personal income tax policy and entrepreneurship. The primary finding? States with high personal income tax rates have just as many small businesses as other states. The Ewing Marion Kauffman Foundation found much the same, personal income tax rates having little bearing on start-up activity.
What matters to those engaged in starting businesses? Mazerov points to sufficient resources upon which to build — educated workers, sound public works, research institutions spurring innovation, or those items that require a tax system bringing necessary revenue. Thus, a big effort to cut personal income taxes risks missing the mark, the state neglecting the real engines of job creation.