Do Corporate Tax Cuts Increase Income Inequality?

Abstract

We study the effects of corporate taxes on income inequality. Using state corporate taxes as a setting, we provide evidence that corporate tax cuts lead to increases in income inequality. This result is robust across regression, matching, and synthetic controls approaches, and to controlling for a host of potential confounders. We use Statistics of Income data from the IRS to explore mechanisms behind this result. We find tax cuts lead to higher income for both top and bottom earners, but the gains to capital income for top earners exceed the gains to total income for bottom earners. This result suggests that, while all earners appear to benefit from a corporate tax cut, the relation between tax cuts and inequality is positive, in part, because high income individuals shift their compensation to reduce taxes.

Issues of Fairness in Taxing Corporate Profit

“…Perhaps more important, they find that low-skilled, young, and female employees bear a larger share of the tax burden. By contrast, Nallareddy et al [21] use variation across US states and find that corporate tax cuts lead to increases in income inequality. Specifically, they find that tax cuts increase income for both top and bottom earners.…”

“…A basic function of the international tax system is to co-ordinate the exercise of these claims, or rights; this is often referred to in the literature as 'allocating taxing rights'. 21 Very broadly, taxing rights over the profit of a multinational could be allocated to countries in one of four locations: (1) the residence of the ultimate individual shareholders (or possibly an intermediary mutual fund); (2) the residence of the ultimate parent company; (3) the location in which the business' functions and activities take place, including for example, management, production, purchasing, marketing, financial management, advertising, and many other aspects of the business; and (4) where sales are made to third-party customers. The issue here is whether notions of fairness can guide the appropriate allocation of taxing rights over corporate profit to countries in one or more of these locations.…”

“…There is much to be said about the fairness of the institutional architecture and processes used to develop international corporate tax norms and law -see, for example, Brauner [32,33], Oei [34], and Hearson [35] -but this section focuses on substantive fairness. 21 On the basic structure of the international tax system, see Devereux et al [23], chapter 3.…”

Corporate Taxes and Economic Inequality: A Credit Channel

“…The first focuses on the large theoretical and empirical literature (dated at least back to Graham, 1936) examining the effect of corporate taxation policy on economic inequality (for a recent review, see Faccio and Iacono, 2021). Among the most recent studies, Nallareddy et al (2018) show that a 1% cut in corporate taxes raises the share of income accruing to the top 1% by 0.9, with this result largely due to top earners shifting income from labor to capital income to reduce their overall tax liabilities. Hines (2020) finds an opposite effect, suggesting that an increase in the corporate tax rate shrinks the corporate sector, leading several business owners to shift to the noncorporate sector (a reallocation effect).…”

A Schumpeterian Exploration of Gini and Top/Bottom Income Shares

“…Our result shows that a declining business dynamism, captured by a fall in new firm entry rate as well as decreasing R&D productivity levels, is a major contributor to the X relationship. Falling corporate income taxes were also found important in line with Nallareddy, Rouen and Serrato (2018). Business dynamism is a driver of income growth via creating new products/jobs and reallocating resources from obsolete production units to more efficient ones.…”