What Happens When You Tax the Rich? They Flinch...

WHAT HAPPENS WHEN YOU TAX THE RICH?
EVIDENCE FROM EXECUTIVE COMPENSATION
Austan Goolsbee
University of Chicago, G.S.B.
and American Bar Foundation
Original Submission: October, 1997
Revision: February, 1999
Abstract
This paper examines the responsiveness of taxable income to changes in marginal tax rates using
detailed compensation data on several thousand corporate executives from 1991 to 1995. The
data confirm that the higher marginal rates of 1993 led to a significant decline in taxable income.
Indeed, this small group of executives can account for as much as 20% of the aggregate change in
wage and salary income for approximately the one million richest taxpayers; one person alone can
account for more than 2%. The decline, however, is almost entirely a short-run shift in the timing
of compensation rather than a permanent reduction in taxable income. The short-run elasticity of
taxable income with respect to the net of tax share exceeds one but the elasticity after one year is
at most 0.4 and probably closer to zero. Breaking out the tax responsiveness of different types of
compensation shows that the large short-run responses come almost entirely from a large increase
in the exercise of stock options by the highest income executives in anticipation of the rate
increases. Executives without stock options, executives with relatively lower incomes, and more
conventional forms of taxable compensation such as salary and bonus show little responsiveness
to tax changes.
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