Entrepreneurship is a fundamental function in history, and taxes can have a significant influence on business activity. Corporate income taxes, personal income taxes, capital gains taxes, and payroll taxes all affect the amount of fungible capital available to entrepreneurs. Higher tax rates can reduce the amount of money available to reinvest in businesses, leading to less job creation. In addition, complex tax codes can reduce the incentives to start a business.
This document provides an overview of how tax policy affects business activity, including how tax rates and the structure of tax policy influence entrepreneurs' decisions to take risks. Under a progressive tax program, profits will push the entrepreneur to move to higher tax brackets, while losses will have the opposite effect. This implies that profits will be subject to a higher tax rate than the rate against which losses can be deducted, making risk-taking less attractive. The higher the tax rate, the more capital is removed from the hands of the businessman and into the hands of the government. Some economists and politicians theorize that prospective entrepreneurs could completely avoid starting small businesses if they believe that high tax rates will substantially affect their profits. Therefore, eliminating tax barriers for entrepreneurs would improve the dynamism of the United States and make the US tax code more neutral, efficient and simple for all taxpayers.
In addition, high income tax rates and inefficient tax structures influence innovation and entrepreneurship. The relationship between corporate income taxes and entrepreneurship is stronger than the relationship between other taxes and entrepreneurship. Although there are impacts on entrepreneurship seen in the literature, the size of these effects has not been shown to be particularly large. Progressive tax rates increase entrepreneurship entry rates, while highly complex tax codes reduce them. Lowering corporate income tax rates or increasing fiscal progressivity increases entrepreneurship rates. Through corporate income taxes, governments can exert significant influence on business activity.
This is important for policy makers who are considering reducing corporate income tax rates in order to promote business activity. Corporate income taxes have also been shown to affect the quality or type of entrepreneurship, as well as the quantity. A more neutral tax code would increase incentives to work, save and invest for all members of the economy, including entrepreneurs.
