Abstract:

Entrepreneurial labor supply involves various decisions on the business environment, costs of business, and hiring employees, and the effect of tax policy on entrepreneurial entry and labor supply is often complicated by many factors. Distortions caused by income tax may be larger for entrepreneurs and the responsiveness of entrepreneurial taxable income to changes in tax rates may be greater than wages and salaries. Taking into account that entrepreneurship is one of the important driving forces of economic growth, the effect of income tax policy on entrepreneurial entry and the magnitude of distortions caused by income tax for entrepreneurs are of interest. The three essays in this dissertation study the impact of income tax policy on entrepreneurial entry, entrepreneurial labor supply and taxable income.

My first essay develops a static model for entrepreneurial entry with explicit entry constraint as well as liquidity constraint. Expanding Evans and Jovanovic (1989) to the model with various taxes and explicit entry constraint, I find that the impacts of individual wealth and taxes on entrepreneurial entry vary by different groups of potential entrepreneurs. There are several implications: Even when potential entrepreneurs do not face liquidity constraint, individual wealth affects entrepreneurial entry, provided that probability of success is low. The income tax provides positive links to entrepreneurial entry, especially for people who are less likely to be selected as entrepreneurs, providing theoretical supports for the hypothesis of tax avoidance, insurance against business risk for less talented potential entrepreneurs who may face binding entry constraint. However, higher income tax rates may not affect truly productive entrepreneurial activities that may boost economic growth, in which case, higher income tax rate would indeed increase the deadweight loss of income tax.

My second essay examines how income tax progressivity affects entrepreneurial entry and the duration of wage jobs. With administrative W-2 Self-Employment Income Records matched with the Health and Retirement Survey, I find that the progressive tax reduces the hazard of entrepreneurial entry. The magnitude of the estimates differs by various transition measures, convexity measures, allowance for multiple spells, and use of instrumental variable. Overall, the estimates suggest that a 1 percentage point change in convexity of tax system reduces the hazard approximately by 11 percent. The paper also finds that the hazard of entrepreneurial entry is relatively constant over time, and the hazard does not differ much between younger and older workers.

My third essay studies the deadweight loss of the income tax on the self-employed and elasticity of self-employment taxable income for the period of 1980 to 1991. I find large responsiveness of self-employment taxable income to changes in marginal tax rates. The estimated elasticity for self-employment income is large, ranging from 1.809 to 3.263. The calculated deadweight loss of income tax is 14 percent to 29 percent of self-employment income tax revenue collected, larger than estimates measured by consumption, capital income, corporate capital income, and labor hours. Overall, the findings of this paper suggest that the changes in marginal tax rates cause other behavioral responses than changes in labor supply measured by hours.