Pass-Through Taxation and Economic Outcomes: Evidence from the Kansas Tax Experiment

This paper examines the economic effects of the 2012 Kansas tax reform, which sharply reduced individual income tax rates and fully exempted pass-through business income from state taxation. Using a panel of U.S.\states from 2000 to 2017 and the Synthetic Control Method, I construct a counterfactual Kansas to estimate the reform’s causal impact. The reform generated a large and persistent fiscal shock, with state income tax revenue declining sharply relative to the synthetic control. In contrast, there is no evidence of corresponding improvements in real economic performance. Real gross state product, personal income, and wage and salary employment show no meaningful gains, and sectoral outcomes exhibit no sustained expansion. Measures of pass-through activity, particularly proprietor income, increase relative to the synthetic control, though not statistically distinguishable from placebo variation. Overall, the results are inconsistent with a broad supply-side expansion and instead point to an income reclassification mechanism, whereby income shifts into tax-favored categories without corresponding increases in output, employment, or aggregate income.