Does the taxation of wealth have repurcussions on companies?
The wealth tax has been making headlines in recent years. While few countries still have a wealth tax, there have been lively debates around the possible introduction of wealth taxes in several countries, for example the U.K. and the U.S. Historically, most countries abolished wealth taxes in the 1990s and early 2000s. Norway is one of few developed nations that still has it.
The Norwegian wealth tax is a tax on an individual’s net wealth*. In 2018, the revenue raised from the wealth tax made up 1.1% of total Norwegian tax revenue and 0.6% of GDP. The proportion was higher only in Luxembourg (7.2% of total tax revenue and 2.9% of GDP in 2018) and in Switzerland (4.8% of total tax revenue and 1.3% of GDP in 2018).
*The tax base for the Norwegian wealth tax consists of an individual’s assets (real estate, bank savings, and securities including both listed and nonlisted shares) less the household’s debt. The value of net assets above the standard deduction is taxed at 0.85% (0.7% represents income for municipalities, and 0.15% goes to the central government).
A common argument in favor of a wealth tax is that it reduces inequality by increasing the tax contributions of the wealthiest individuals in society. Compared to other taxes, the wealth tax is also less likely to distort economic incentives for value creation.
An argument against the wealth tax is that most of the assets subject to the tax—such as shares in nonlisted companies—are illiquid. Business owners must pay the wealth tax in a given year whether the company generates positive cash flow or not. For small firms without easy access to external funding, the tax may restrict the resources they have available for investment. This is a reason why recent proposals about the introduction of a wealth tax in the US start from a high threshold. In comparison, the Norwegian wealth tax starts from a low threshold, although the standard deduction has gradually increased in recent years: from 120,000 in 2000 to 1,500,000 in 2020.
CCGR researchers have analyzed how Norwegian family-owned companies are affected by the wealth tax. (Family-owned companies are here defined as firms where members of one family together own at least 50 percent of the equity).
The data shows that around half of Norwegian family firms have owners that do not pay the wealth tax at all. For those that do pay wealth tax, Figure 1 shows the distribution of the amount in the year of 2015. For a given firm, the figure calculates the average of its owners’ tax payments. Firms’ averages are then allocated into 10,000kr.-size buckets ranging from 10,000 kr. and below to 290,000kr. and above. For example, the first column shows that in almost 7000 firms, owners pay between 0 and 10,000 kr. in wealth tax on average.
Overall, the distribution is highly skewed: in the majority of firms, owners pay less than 50,000 in wealth tax. However, 2,500 firms (shown as one column) have owners that pay in excess of 290,000 kr. on average.
Even a relatively low tax payment of 50,000 kr. may be large for an owner with little cash on hand – especially given that the tax will be repeated every year. To assess the effect of a wealth tax on companies, the relevant issue is the size of the tax relative to owners’ liquid assets. If owners do no hold cash or other liquid assets that can be used to pay the tax, they may have to withdraw resources from their firms.
Figure 2 illustrates the size of the wealth tax relative to business owners’ liquid net assets over time for different firms in the distribution (median, 80th, 90th, and 95th percentiles). For example, in 2000, wealth tax constituted less than 1.8% of liquid assets for half of firm owners, but more than that for the other half. 10% of firm owners had a wealth tax payment of at least 18% of their liquid assets, and 5% paid in excess of 40% of their liquid assets.
After 2000, the wealth tax has gradually declined relative to owners’ liquid assets for the median firm. However, in around 10% of firms the tax represents at least 10% of the owner’s liquid assets, and in around 5 percent of firms, it is at least 20%.
Another relevant measure is the wealth tax compared to the revenue generated by the firm. When revenues are large, firms are more likely to have positive profits that owners can distribute as dividends in order to pay the tax.
Figure 3 compares the wealth tax to firms’ revenues. For 80% of firms, the tax payment makes up around 1% of annual revenues. For 10% of firms, however, the tax constitutes at least 3-5% of revenues, and for 5% it is above 8-16% of revenues.
The above figures show that the wealth tax can be substantial relative to owners’ liquid wealth and relative to the revenues generated in the firm. This in itself, however, does not imply that the tax has detrimental effects on firms’ performance and growth. While the tax for some firms and owners seems quite large, it may not effectively constrain those firms’ operations. To establish such causality, a statistical link from the tax paid by a particular owner to the performance of the firm needs to be established.
Studying changes in the taxation of residential real estate, CCGR research has established such a causal link. In a sample of family firms, it is shown that higher taxation of business owners’ personal wealth lead them to take out more dividends and higher salaries from their firms. Affected companies experience lower investment and growth. The effect is largest for owners whose liquid assets are low relative to the tax increase.
These results are illustrated below. Figure 4 shows that the likelihood that a firm pays dividends is higher when the owners are wealth tax payers than when they are not. When owners do not pay wealth tax, only 15% of firms pay dividends. When owners do pay wealth tax, almost 30% of firms pay dividends. When one considers owners that have the highest mismatch between the wealth tax they pay and their personal liquid assets, the ratio of firms that pay dividends exceeds 30%. The mismatch is computed here as the 5% of owners with the highest ratio of tax to liquid assets.
If owners indeed take out cash from their firms for reasons related to their personal financial circumstances, rather than the firm’s commercial circumstances, we would expect firms to pay dividends even in years with negative profits. This is exactly what the data shows.
Figure 5 plots the fraction of firms that pay dividends to their owners in a year where they also report negative earnings. The figure shows that the fraction of firms that pay dividends despite making losses is substantially when their owners pay wealth tax. When owners do not pay wealth tax, less than 1% of firms pay dividends and report losses. When owners do pay wealth tax, 2% of loss-making firms pay dividends but increases to 5% of firms when we consider those firms whose owners have the largest mismatch between tax and liquid assets. The proportion of dividend-paying firms approximately doubles for each column in the figure.
The positive correlation between dividend policy and owners’ wealth tax-position can also be illustrated by considering how much of firms’ annual earnings that are paid out as dividends. Figure 6 plots the dividend-payout ratio for profitable firms. The fraction is higher the more wealth tax the firms’ owners pay relative to their personal liquid assets.
If a firm cannot easily raise capital to fund its business plans, the reduction in its liquidity can result in lower investment and lower growth. Figures 7 and 8 illustrate that firms whose owners are wealth tax payers do indeed appear to have lower revenue and asset growth. The average growth rate of firms whose owners pay wealth tax is considerably lower than the average growth rate of firms whose owners do not pay wealth tax.
It is important to emphasize that the above graphs are an illustration of the finding that firms with wealth tax-paying owners disburse more cash to owners and grow more slowly. In their own right, the graphs do not constitute sufficient evidence that the wealth tax is the source of negative effects on the firm because the firm itself is part of the tax base. The graphs hide the possibility that firms may be systematically different across columns. For example, wealth tax-paying owners could have firms that are on average larger, more mature, and therefore more likely to pay dividends and grow at slower rates. If so, the lower growth would result from the firms’ characteristics rather than the wealth tax imposed on their owners.
To establish a causal effect from the wealth tax to the growth of firms, one needs to conduct a statistical study that carefully controls for firm characteristics and consider only tax payments that are strictly linked to the owner’s personal assets rather than the firm. The full CCGR research study can be found here and a summary of the study here.
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