Kolloquium: Wealth Tax, Entrepreneur­ship, and the Legal Form of Business Organization

Abstract:
This paper investigates the impact of wealth taxation on equity and efficiency within a heterogeneous-agent model featuring incomplete markets and occupational choice. In the model, entrepreneurs -concentrated at the top of the income and wealth distribution -choose between operating as pass-through entities or as C-corporations, each subject to distinct tax treatments. While C-corporations face higher operating costs, they benefit from superior access to credit due to fewer legal restrictions. Hence, thelegal form choice shapes both the net returns to entrepreneurial investment and the severity of financial constraints. We calibrate the model to the U.S. economy to assessthe aggregate and distributional effects of a flat wealth tax, accounting for the induced reallocation across occupations and legal forms. The results show that the equity-efficiency trade-off of wealth taxation is critically shaped by the interaction of legal form choice and financial frictions. Introducing a flat wealth tax on top of the existing tax system generates substantial revenue, but discourages C-corporation formation, tightens credit constraints, distorts aggregate outcomes, and increases wealth inequality. Efficiency improves when the additional revenue is used to reduce the corporate tax rate,but deteriorates if it is instead used to lower the personal income tax rate. In both cases, wealth inequality rises.