Last week, PWBM analyzed President Trump’s proposal for a payroll tax holiday that would suspend all payroll taxes for the remainder of 2020. Our analysis showed that the $807 billion in tax cuts would be distributionally progressive: the percent change in average after-tax incomes would be higher for lower-income groups than for higher-income groups.
Our previous analysis of the payroll tax holiday followed the budget scoring convention of assuming that cuts to the payroll tax liability of employers would pass through to workers in the form of increased wages. This assumption is based on empirical evidence showing that workers, not capital owners, bear the long-run economic burden of employer-side payroll taxes in the form of lower wages.
However, the payroll tax holiday is a temporary, short-run policy and thus the employer-side of the proposed payroll tax cut might not be fully distributed to workers. Businesses might be unwilling to raise wages this year only to cut them nine months later when the policy expires. The benefits of the payroll tax holiday’s employer-side tax cuts would then accrue to capital (business equity) owners rather than employees.
Table 1 presents distributional measures of the payroll tax holiday’s total tax change under the two opposing scenarios: one in which wages immediately rise (“wages rise”) and another in which wages remain fixed (“profits rise”). We assume that any new profits are distributed in proportion to realized corporate income, and that new corporate tax liabilities associated with new profits are borne exclusively by corporate equity holders.1
| Wages rise | ||||||
|---|---|---|---|---|---|---|
| Income group | Average tax change | Share with a tax cut | Percent change in after-tax income | Share of tax change | Share of federal taxes paid | |
| Under current law | Under the proposal | |||||
| Bottom quintile | -$320 | 32.9% | 10.7% | 1.9% | 0.1% | -0.6% |
| Second quintile | -$2,185 | 88.3% | 9.6% | 10.1% | 2.3% | -0.6% |
| Middle quintile | -$4,240 | 91.4% | 9.9% | 18.8% | 10.3% | 7.1% |
| Fourth quintile | -$6,790 | 86.2% | 8.8% | 26.0% | 19.1% | 16.5% |
| 80-90% | -$11,270 | 92.0% | 9.4% | 17.7% | 14.9% | 13.9% |
| 90-95% | -$14,455 | 94.1% | 8.5% | 10.7% | 10.9% | 11.0% |
| 95-99% | -$17,245 | 94.1% | 6.1% | 10.3% | 16.4% | 18.6% |
| 99-99.9% | -$23,065 | 94.3% | 2.8% | 3.1% | 12.7% | 16.3% |
| Top 0.1% | -$70,175 | 92.7% | 1.0% | 1.1% | 13.0% | 17.5% |
| Profits rise | ||||||
|---|---|---|---|---|---|---|
| Income group | Average tax change | Share with a tax cut | Percent change in after-tax income | Share of tax change | Share of federal taxes paid | |
| Under current law | Under the proposal | |||||
| Bottom quintile | -$215 | 34.5% | 7.2% | 1.2% | 0.1% | -0.4% |
| Second quintile | -$1,420 | 92.3% | 6.2% | 6.1% | 2.3% | 0.7% |
| Middle quintile | -$2,690 | 95.1% | 6.3% | 11.2% | 10.3% | 9.9% |
| Fourth quintile | -$4,860 | 94.2% | 6.3% | 17.4% | 19.1% | 19.9% |
| 80-90% | -$8,625 | 98.3% | 7.2% | 12.7% | 14.9% | 15.9% |
| 90-95% | -$12,795 | 99.1% | 7.6% | 8.9% | 10.9% | 11.9% |
| 95-99% | -$23,235 | 99.4% | 8.2% | 13.0% | 16.4% | 17.7% |
| 99-99.9% | -$82,120 | 99.6% | 10.1% | 10.2% | 12.7% | 13.7% |
| Top 0.1% | -$1,295,115 | 99.9% | 17.9% | 18.5% | 13.0% | 10.7% |
Note: “Income” is defined as AGI plus: above-the-line deductions, nontaxable interest income, nontaxable Social Security benefits, nontaxable pensions and annuities, employer-side payroll taxes, and corporate liability. For this short-run analysis, the corporate income tax is assumed to be borne entirely by the owners of corporate equity. Federal taxes included are individual income, payroll, and corporate income taxes.
Because capital income is more concentrated than wage income, the scenario in which profits rise results in higher tax cuts for the top end of the income distribution compared with the conventional assumption that wages would rise.2 As seen in Table 1, average tax liabilities would still fall for all income groups, but the average tax cut would be smaller at the bottom ($215 vs $320 for the lowest quintile) and much larger at the top ($1.3 million vs $70,000 for the top 0.1 percent) under the assumption that profits rise. The share of the tax change accruing to the top one percent of the income distribution would be just 4 percent if wages rise, but about 29 percent if profits rise. Figure 1 illustrates the difference in how total after-tax incomes for each income group change under the two scenarios.
Whether the employer-side payroll tax cut is passed along to workers does not significantly affect our conventional estimates of the payroll tax holiday’s budgetary impact, presented in Table 2. If employers respond to the policy by increasing wages, individual income tax revenues would rise and thus offset some of the lost payroll tax revenue. If business profits rise instead, the offset would operate through business taxes. We find that the difference in revenue raised under each scenario is close to zero.
| Scenario | 2020 | 2021 | 2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | Total |
|---|---|---|---|---|---|---|---|---|---|---|---|
| Wages rise | -563 | -244 | 0 | 0 | 0 | 0 | 0 | 0 | 0 | 0 | -807 |
| Profits rise | -593 | -221 | 0 | 0 | 0 | 0 | 0 | 0 | 0 | 0 | -814 |
John Ricco produced this analysis with writing support from Kody Carmody and Diane Lim.
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Following recent research, we trace the ownership of corporate equity on tax data according to dividends and 25 percent of net capital gains. For sensitivity analysis, we distributed the new profits in proportion to all business income, but the results do not materially change. For corporate tax incidence, we depart from our usual 75 percent capital income/25 percent wage earnings split to emphasize the short-run nature of this policy. ↩
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See Table 1.4 from the IRS’s Statistics Of Income Tax Stats for a comparison of income composition by AGI group. ↩
,Wages rise,Profits rise Bottom quintile,10.7,7.2 Second quintile,9.6,6.2 Middle quintile,9.9,6.3 Fourth quintile,8.8,6.3 80-90%,9.4,7.2 90-95%,8.5,7.6 95-99%,6.1,8.2 99-99.9%,2.8,10.1 Top 0.1%,1.0,17.9