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A Project of The Annenberg Public Policy Center

Half of the Wealthy Own Small Businesses?

President Obama’s proposed budget calls for rolling back President Bush’s tax cuts for couples earning more than $250,000 (and individuals earning more than $200k). The increase would take effect in 2011. And, not so surprisingly, it has some Republicans up in arms. One of their main beefs: The move would hurt small businesses.

On "FOX News Sunday" on March 1, Republican Rep. Paul Ryan of Wisconsin told host Chris Wallace that "more than half of the people who pay these higher taxes are the small businesses of America." Indiana Rep. Mike Pence echoed that claim, telling Bloomberg News that about half of those who make $250,000 are small-business owners.

True? Well, unfortunately, we can’t say whether this statistic is correct. And, neither can Ryan and Pence. The figure is a guess. Some evidence suggests the true percentage may be much lower than that.

First, some background: Some business owners certainly would be affected by Obama’s proposed tax increase. Many business owners file taxes as individuals (not as corporations), and those who are among the wealthiest Americans will pay a higher tax rate on any net income (that’s after all deductions are taken) above $200,000 or $250,000, depending on whether they file as individuals or couples. It’s the top two marginal tax rates that would be affected under Obama’s budget, increasing in 2011 from 33 percent to the pre-Bush-tax-cut level of 36 percent, and from 35 percent to 39.6 percent.

How do Republicans figure half of those folks are small-business owners? The minority staff of the House Budget Committee, of which Ryan is the ranking GOP member, pointed us to a 2007 Treasury Department report on corporate and individual business taxes, which estimated that "about 75 percent of the taxpayers" in the top tax bracket "are flow-through business owners." As the report explains, this includes those who report "net ordinary income from sole proprietorships, S corporations, and partnerships plus net long-term and short-term gains from partnerships, S corporations, estates and trusts." Angela Kuck, communications director for the Budget Committee’s Republicans, told us that since some of those taxpayers would "only have a modest share of small business income, to be on the conservative side, we say that the ‘majority’ of individuals paying the top tax rates are small business owners."

Note that the Treasury estimate includes anyone who files any business income or loss on tax returns – which means people who do some freelance or consulting work on the side, attorneys or others who get partnership distributions, farmers, and passive investors in real estate, in addition to what one would consider true small-business owners. Because of the way our tax system works, both a pizza shop owner and a politician earning book royalties would file business income (or losses), and the data doesn’t differentiate between them.

In light of that, we certainly agree that the 75 percent figure should be downgraded. But additional information on these upper-income taxpayers indicates that the percentage of small-business owners likely would be much lower than 50 percent. For 2009, the Urban-Brookings Tax Policy Center similarly projects that 73 percent of tax units that fall in the top two brackets report some type of business income or loss. (In true numbers, that’s 663,000 tax units among the wealthiest Americans that will report some type of business income.) But only 27 percent of all upper-income tax filers report business income that accounts for more than half of their wages. It’s likely that a small-business owner would make most of his or her income from the small business. (The Treasury Dept. report also finds a significant difference between the number of taxpayers who report business income/loss and those whose business income makes up more than half of their earnings.)

In the end, it’s unclear exactly what percentage of these top earners are truly small businesses. What is clear, however, is that we’re not talking about all that many small businesses in the first place. The vast majority of individuals who report business income or losses are not making upwards of $200,000 a year. In fact, only 2 percent of all those reporting business income in 2009 will earn enough to fall in the top two brackets. As we explained back when Obama’s tax plan was attacked on the campaign trail, the overwhelming majority of these mom-and-pop shops we hear about would not see their taxes go up under Obama’s proposal.