The Rise of Pass-Throughs and the Decline of the Labor Share

This paper studies the coevolution in the United States of the fall in the corporate sector labor share and the rise of the share of business activity organized in tax-preferred, pass-through form. We find that reallocating activity to the form it would have taken prior to the Tax Reform Act of 1986 accounts for 30% of the decline in the corporate sector labor share between 1978 and 2017. Our adjustments attribute 15% of the decline to labor income recharacterized as profits among S-corporations within the corporate sector. The remaining 15% is due to the rise in labor-intensive business activity that elects partnership rather than corporate form. In our adjusted series, the labor share decline in the United States is primarily a manufacturing sector phenomenon that was offset—fully until 2000 and partly since then—by the rise of services.