Research shows that, in most cases, ‘the rich’ worked for their money

At the state capitol last week, there was much talk about taxing ‘the rich’. In the House tax committee hearings for hikes in the capital gains tax and estate tax, it was just assumed that ‘the rich’ got that way without actually doing anything; perhaps they inherited it or just got lucky on the stock market. House Democrats seemed convinced this was the case. Rep. Loeffler said she would be willing to bet it was and that she would like to see some research on the subject.

Fortunately, that research already exists. Sadly for Rep. Loeffler, it disproves her argument.

In a recent paper for the National Bureau of Economic Research titled ‘Capitalists in the Twenty-First Century’, economists Matthew Smith, Danny Yagan, Owen M. Zidar, and Eric Zwick ask the question “Are the richest Americans idle rich—who derive most of their income from their non-human capital—or are they entrepreneurs and other working rich—who derive most of their income from their human capital?”

They write

This paper uses de-identified administrative tax data to characterize top incomes and their rise in the twenty-first century. Throughout the paper, we measure income using both directly observed fiscal income from tax returns following Piketty and Saez (2003) and imputed national income following Piketty, Saez and Zucman (2018). We first establish how much top earners make from three broad sources: wage income, business income, and other more passive capital income such as interest and rent payments. In 2014, most income at the very top is non-wage income, the primary source of which is business income. 

Most top business income comes from private “pass-through” businesses that are not taxed at the entity level; instead, income passes through to the owners who pay taxes on their share of the firm’s income. This feature allows us to build a new dataset linking pass-through firms to their owners for 11 million firms between 2001 and 2014. This dataset enables us to ask whether top pass-through income should primarily be thought of as labor income accruing to the human capital of active owner-managers or as capital income accruing to the financial and physical capital of idle owners.

Their findings are that,

Consistent with the labor income view…top earners are predominantly working rich rather than idle rich, and that the majority of top income accrues to the human capital of these wage earners and entrepreneurs.

Much modern politics is about promising voters a bunch of stuff which someone else will pay for. But who is this ‘someone else’? It is attractive to think of a feckless heir having a few dollars shaved off their inheritance. That is the idea pedaled by people like Rep. Loeffler. But it is wrong. This research shows that most of ‘the rich’ who are expected to pay for everything got that way by working. We can only hope that, having asked for the research, Rep. Loeffler takes it on board.

John Phelan is an economist at the Center of the American Experiment.