October 17, 2010

October 17, 2010 | Commentary on Taxes, Tax Hikes

Tax Increase Would Kill Economic Growth, Jobs

Ohio's unemployment rate remains above 10 percent - and above the national average. Shedding more jobs in August didn't help. A steady stream of disappointing economic numbers indicates that the nation may be on the cusp of yet another job-destroying recession that could put more Ohio workers out of a job.

It is in this troubled economic environment that President Barack Obama and his allies are pressing ahead with plans to raise taxes. Higher taxes always mean slower economic growth and fewer jobs. In fact, the Heritage Foundation estimates that the Obama tax increase would cause Ohio to lose almost 27,000 jobs per year over the next decade. That's 27,000 Ohioans who will needlessly be out of work because of an unnecessary and misguided tax increase.

As Ohioans know all too well, the state cannot afford to lose any more jobs.

The most harmful part of the president's plan is a tax increase on small businesses. His plan calls for raising tax rates on small businesses that earn more than $250,000 a year starting Jan. 1 - less than three months from now.

Obama argues that his plan won't hurt most small businesses because only a few earn enough to pay at the higher rates he proposes. True, a relatively small number of small businesses earn enough to qualify for the higher rates. But that doesn't tell the whole story.

Many small businesses represent part-time efforts of their owners. Often the small business is one person working on the side to pick up a few extra dollars. They report the income they earn from that work on their tax forms as small- business income even though they don't employ others or engage in the functions traditionally considered business activity. Raising the top two income-tax rates won't affect many of these side businesses.

But consider the small businesses that would be affected. They have employees. They invest in machinery. They offer goods and services widely. And the successful ones earn significant sums to compensate for the risks of running a business and to earn a return on capital invested, typically plowing those earnings back into the business so it can expand further by investing more money and hiring more workers. And because they earn significant sums, successful small businesses earn the bulk of small-business income.

So, while only a small portion of taxpayers reporting small-business income would face Obama's higher rates, those facing the higher rates are the successful and expanding small businesses that create the new jobs the economy needs to grow.

The facts bear this out. According to the Treasury Department, 8 percent of small businesses earn enough to pay at the top two income-tax rates, but those businesses earn 72 percent of all small-business income. They also pay 82 percent of all income taxes paid by small businesses.

A survey by the National Association of Independent Business found the businesses most likely to face Obama's higher rates are those employing between 20 and 250 workers. Targeting them for higher taxes would cause the largest possible harm to job creation.

Obama's small-business tax increase won't just hurt the economy in the short term. It also will stifle entrepreneurship, which will lower economic growth. When an entrepreneur makes the decision about whether to start a business, the tax rate plays a large role in that decision. Startup businesses need large amounts of capital in their formative years. A common source of that vital capital is the income the business itself generates. Higher taxes shrink the pool of available income the small business has to tap.

If taxes take too much, an entrepreneur might conclude that opening a new venture is too risky and pass on the chance. This would mean fewer jobs created. In the worst-case scenario, the newest Microsoft or Apple never gets out of the starting blocks. A higher rate on small businesses means the economy is far less likely to enjoy the benefits of the "next big thing."

When Congress comes back to Washington after the election, it will have to decide where to set tax rates on small businesses starting next year. If lawmakers are serious about helping the economy recover and creating jobs for the unemployed, they will take a pass on Obama's tax-increase plan.

Instead, Congress should keep tax rates on small businesses where they've been for a decade. To raise rates now would make jobs harder to find for the unemployed in Ohio and across the country.

Curtis S. Dubay is a senior policy analyst at the Heritage Foundation, where he specializes in tax issues.

About the Author

Curtis S. Dubay Research Fellow, Tax and Economic Policy
Thomas A. Roe Institute for Economic Policy Studies

First appeared in The Colombus Dispatch