Corporate Income Tax, Legal Form of Organization, and Employment

Dr. Daphne Chen, a Principal at Vega Economics, recently published her article "Corporate Income Tax, Legal Form of Organization, and Employment" in the October issue of American Economic Journal: Macroeconomics. AEJ is a top peer-reviewed academic journal in macroeconomics. In this article, she and her co-authors examined the impact of a corporate income tax reduction on firms’ decisions regarding capital and employment. They found that a reduction in the corporate income tax burden encourages adoption of the C corporation legal form, which reduces capital constraints on firms. Improved capital reallocation increases overall productive efficiency in the economy and therefore expands the labor market.

Abstract: 

A dynamic stochastic occupational choice model with heterogeneous agents is developed to evaluate the impact of a corporate income tax reduction on employment. In this framework, the key margin is the endogenous entrepreneurial choice of legal form of organization. A reduction in the corporate income tax burden encourages adoption of the C corporation legal form, which reduces capital constraints on firms. Improved capital reallocation increases overall productive efficiency in the economy and therefore expands the labor market. Relative to the benchmark economy, a corporate income tax cut can reduce the non-employment rate by up to 7 percent.

This article is related to Dr. Chen's other recently published article "The Importance of Legal Form of Organization on Small Corporation External Financing" published in Economic Inquiry. That article found that the chosen legal form of an organization affects a small corporation’s access to external equity capital, but not loan financing.

The views expressed in these articles are solely those of the authors, who are responsible for the content, and do not necessarily represent the views of Vega Economics.