Despite their ubiquity in public discourse, traditional C corporations such as the publicly traded ones listed on the S&P 500 no longer comprise the majority—or even the largest portion—of U.S. business income. Since the 1980s, business income has primarily migrated from C corporations to businesses organized as “partnerships.” Partnerships accounted for 36 percent of business income from 2013 to 2022, compared with 32 percent for traditional C corporations. Understanding how business income has shifted across different business forms is essential for understanding changes in business taxes and economic inequality in the United States.
According to the Internal Revenue Service (IRS), businesses can be organized under several different legal and tax structures. (see Table 1) These forms differ in ownership rules, governance, and—most importantly for this analysis—how business income is taxed:
- C corporations are taxable entities that pay taxes on their profits under the corporate income tax system. This system taxes profits at 21 percent, and then dividends paid to shareholders often incur an additional tax. Most publicly traded companies are C corporations.
- Sole proprietorships are pass-through businesses owned by a single taxpayer whose business income is reported on the owner’s personal tax return. Taxes are paid at the owner’s personal rates minus the pass-through deduction. These are often simple, “mom-and-pop” businesses.
- Partnerships are pass-through businesses (sometimes called LPs or LLCs) owned by two or more partners who can be people or other business entities. Partnership income is not taxed but can be passed through different levels of entities until it reaches a taxpayer who must pay tax on it at personal rates minus the pass-through deduction.
- S corporations are pass-through businesses that generally must be owned by people, but they similarly allow income to flow through to owners and be reported on their individual tax returns rather than being taxed under the corporate income tax system. Other pass-through businesses have various, often strict ownership rules.
Among these business types, the composition of U.S. business income changed substantially between 1988 and 2022, per IRS statistics of income data. The combined share of U.S. business income earned by pass-through businesses increased from 44 percent in 1988 to an average of 68 percent from 2013 to 2022, reflecting a broad shift away from C corporations. (see Figure 1) The largest increase has occurred among partnerships, whose share of business income rose from 6 percent in 1988 to an average of 36 percent from 2013 to 2022. S corporations and other pass-through businesses also increased their share, from 16 percent to 24 percent over the past decade. At the same time, sole proprietorships—often small mom-and-pop establishments—shrunk from 22 percent to 7 percent, while C corporations declined from 56 percent to 32 percent. (see Figure 1)
Causes of changes in the composition of business income
Several sharp shifts in the corporate income data also stand out. Business income across multiple organizational forms declined during the 2001 recession and the 2008 financial crisis, while corporate income surged following the 2003 dividend and capital gains tax cuts, and again after the 2017 Tax Cuts and Jobs Act, which cut the corporate tax rate substantially. Partnership income has been on a steady rise, growing at an annual average rate of 14 percent since 1988. These fluctuations suggest that the distribution of business income is shaped by both economic conditions and tax policy changes.
Several policy changes contributed to the rise of partnerships and the fall in the C corporation share of business income. Tax reforms beginning in the 1980s lowered the tax rates pass-through business structures faced below that of the owners of traditional corporations. At the same time, changes to business organization rules—including the expansion of LLCs, partnerships, and S corporations—gave businesses greater legal flexibility in how they organized and reported income. Growth in sectors such as finance, real estate, and other service industries, which commonly rely on pass-through structures, reinforced these trends and contributed to the long-term rise of partnership income. In short, high-income, sophisticated business owners can now organize their businesses as partnerships to achieve most of the benefits of having a corporation (limited liability, many investors, and huge complexity) but pay lower tax rates.
Implications for tax policy
On the most basic level, the shift of business income away from corporations to pass-through businesses has reduced federal revenues relative to a tax system in which more business activity remained organized through corporations. Research shows that pass-throughs pay less tax per dollar of income than C corporations because pass-through business owners’ profits face one tax rate of 29.6 percent, while owners of C corporations can pay a maximum of 36.8 percent (21 percent corporate tax plus the maximum 20 percent dividend income tax rate).*
Tax policy has recently lowered tax rates on pass-through business income. The Tax Cuts and Jobs Act of 2017 created the Section 199A deduction, allowing eligible pass-through business owners to deduct 20 percent of qualified business income, and the One Big Beautiful Bill Act made the deduction permanent. This lowered the top marginal tax rate on qualifying pass-through business profits from a maximum of 37 percent to 29.6 percent and encourages businesses to continue to organize as pass-throughs instead of as C corporations. Nearly 90 percent of the benefits of this provision go to people making more than $200,000 per year and about half go to millionaires.
Partnerships firms can operate through multiple layers of partnerships and related entities, making it increasingly difficult for tax authorities to trace income and conduct effective audits. Government watchdogs such as the Government Accountability Office and the treasury inspector general for tax administration have repeatedly raised alarm bells about the IRS’ capacity to collect taxes legally owed from increasingly complex partnerships.
Impacts on income inequality
The growth of pass-through businesses has contributed significantly to rising income inequality. Owning a pass-through business is increasingly how the rich become rich in America. In 2022, the top 1 percent received roughly one-quarter of their total income from pass-through businesses. The top 1 percent’s pass-through business income has grown more than 1000 percent since 1980 (after inflation), according to data from the Congressional Budget Office. The tax benefits of owning a pass-through business allow high-income people to earn this money at a tax discount compared with corporate income or labor income.
Pass-through business income is far more inequitably distributed than traditional corporate income: One study found that 69 percent of pass-through income accrued to the top 1 percent, compared with 45 percent of corporate income.
Taxing pass-through business profits, especially of partnerships, can be even more progressive than taxing corporate profits. Though corporate stock ownership is very inequitable, pass-through business income is far more inequitably distributed than traditional corporate income: One study found that 69 percent of partnership income accrued to the top 1 percent, compared with 45 percent of corporate income. (see Table 1)
Taxing businesses beyond the corporate sector
The rise of pass-through businesses has fundamentally changed the landscape of business taxation, with more business income being taxed outside the corporate rate structure than within it. Many of today’s largest and most complex firms operate as partnerships rather than traditional corporations, yet they often face lower tax burdens and less effective IRS oversight. As pass-through businesses continue to grow in number, size, income, and economic influence, policymakers must look beyond corporations when designing business tax policy to tax wealthy businesses.
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Proposals such as a shell company tax, which would impose a modest tax on profits transferred through layers of untaxed entities, represent one possible approach to limiting tax avoidance, raising revenue from the top 1 percent, and increasing transparency. Other proposals, such as eliminating the Section 199A pass-through deduction or forcing certain partnerships to be taxed like corporations, are worthy reform ideas and would be necessary companions to corporate tax reforms. Ensuring that large partnerships are taxed and audited effectively is increasingly essential to promoting fairness, equity, and confidence in the tax system.
The authors would like to thank Sara Estep, Christian Unkenholz, Michael Negron, Bobby Kogan, Alex Thornton, and Jazmine Amoako for their valuable contributions and review, as well as the Data Visualization and Editorial team for preparing figures and supporting the review process.
*Authors’ note: Discounts the Net Investment Income Tax and Self-Employment Contributions Act (SECA) taxes, which can add (3.8 percent) to these rates.