Business Wealth and Tax Policy

Abstract

This study has two major purposes. First, we extend capital structure model (CSM) research so that it can be applied to both ownership forms of for-profit organizations (FPOs): pass-throughs and C corp. We do this by deriving the first pass-through CSM equations. These equations complement the extant C corp CSM equations. Second, we derive new CSM equations to test tax policy reform. Since FPOs are responsible for most of federal tax revenue, these equations can produce outputs showing how FPO business wealth and federal tax revenue are changed when tax policy reform makes business growth more affordable by not taxing FPO earnings that are retained for growth. After deriving these new equations, we provide data in the form of effective tax rates and growth rates as well as a methodology to compute costs of borrowing. This data and methodology show how CSM equations can be applied to FPO studies. The major area of originality concerns the notion that both business wealth and federal tax revenue can increase if governments reform their tax policy by granting tax shields that promote growth while simultaneously doing away with tax shields that distorts owner efficiency caused by favoring debt over equity.