The impact of the corporate income tax: evidence from state organizational form data

By taxing the income of corporate firms at a different rate than non-corporate firms, taxes can play an important role in a firm's choice of organizational form. The sensitivity of the organizational form decision to tax rates provides a key indicator of the distortion created by the corporate income tax. This paper uses new cross-sectional data on organizational form choices across states compiled in the Census of Retail Trade to estimate this sensitivity. The results document a significant impact of the relative taxation of corporate to personal income on the share of real economic activity that is done by corporations and that the impact is many times larger than has been found in the previous empirical literature based on time-series data. The results show little impact, however, on the actual operations of firms such as their labor intensity, wages and the like. They do indicate that firms are able to exploit the progressivity of the corporate income tax system by dividing into numerous firms.