Tax Compliance and Loss Aversion

Engström, Per; Nordblom, Katarina; Ohlsson, Henry; Persson, Annika

doi:10.1257/pol.20130134

Cited by 71 publications

(65 citation statements)

References 30 publications

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“…A natural reference point for taxpayers at the time of tax filing is whether they owe additional tax (relative to what has already been collected) or expect a refund. Engström et al (2013) find that in Sweden, taxpayers are more aggressive about claiming deductions when they owe additional tax at the time of filing than when they expect a refund, consistent with the predictions of prospect…”

Section: Behaviorally Informed Policy Tools To Change How Individualssupporting

confidence: 75%

Applying Insights from Behavioral Economics to Policy Design

Madrian¹

2014

100

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The premise of this article is that an understanding of psychology and other social science disciplines can inform the effectiveness of the economic tools traditionally deployed in carrying out the functions of government, which include remedying market failures, redistributing income, and collecting tax revenue. An understanding of psychology can also lead to the development of different policy tools that better motivate desired behavior change or that are more cost-effective than traditional policy tools. The article outlines a framework for thinking about the psychology of behavior change in the context of market failures. It then describes the research on the effects of a variety of interventions rooted in an understanding of psychology that have policy-relevant applications. The article concludes by discussing how an understanding of psychology can also inform the use and design of traditional policy tools for behavior change, such as financial incentives.

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Section: Behaviorally Informed Policy Tools To Change How Individualssupporting

confidence: 75%

Applying Insights from Behavioral Economics to Policy Design

Madrian¹

2014

100

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“…A formal test using a method developed by Lind and Mehlum (2010) that can discriminate between a monotonic concave relation and an inverted-U relation finds evidence consistent with the audit trigger model. 8 Our finding that, for a substantial proportion of firms, bunching at the withholding threshold in Ecuador is not likely to be due to loss aversion is different from the recent evidence in the context of Sweden and USA that finds an important role for loss aversion for individual taxpayers (Engstrom et al (2015), Rees-Jones (2017)). Our theoretical results offer a plausible explanation for this difference: the relatively weak tax administration in Ecuador makes it difficult to satisfy the conditions required for bunching caused by loss aversion and reference dependence noted above.…”

contrasting

confidence: 83%

“…On the other hand, if P and θ are very high, then it is unlikely that the first inequality will be satisfied, which implies that bunching due to loss aversion is also less likely when enforcement regime is very strong. However, the recent evidence that individual taxpayers in Sweden and USA bunch in withholding threshold due to loss aversion presented by Engstrom et al (2015) and Rees-Jones (2018) suggests that the first inequality is not violated in these cases. This is consistent with the widely held view that the enforcement regime in developed countries is not strong enough to account for the observed tax compliance in a an Allingham-Sandmo model of tax evasion (Saez et al (2016)).…”

Section: Withholding In a Prospect Theory Model: Do Reference Dependementioning

confidence: 97%

“…Using data from Costa Rica, Brockmeyer and Hernandez (2016) provide evidence that an increase in the withholding rate increases corporate tax revenue. In an interesting and careful analysis of withholding of personal income tax in Sweden, Engstrom et al (2015) develop a regression kink and discontinuity design to provide credible evidence that individual tax payers with a preliminary deficit (tax liability greater than withheld amount) use deductions to escape from the loss domain. Using a prospect theoretic model with reference dependence, loss aversion, and linear preference, they provide an estimate of the loss aversion parameter.…”

Section: Related Literaturementioning

confidence: 99%

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Loss Aversion, Transaction Costs, or Audit Trigger? Learning About Corporate Tax Compliance from a Policy Experiment with Withholding Regime

Carrillo

Emran

2018

SSRN Journal

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We analyze firm's tax choices facing a withholding and enforcement regime with a focus on three mechanisms of bunching: (i) transaction costs, (ii) withholding threshold as a reference point for taxpayer that creates a kink due to loss aversion, and (iii) withholding threshold as a reference point for audit (audit trigger model). The transaction costs model predicts that none of the firms that bunch at the withholding threshold would declare higher taxes when withholding rate is increased, as was the case in Ecuador in 2007. Evidence from a tripledifference research design shows higher tax payments by these firms. A prospect theoretic model with the power value function of Kahneman and Tversky (1979) does not generate bunching at the withholding threshold. While linear prospect theory (LPT) can generate bunching under certain conditions, it also yields testable predictions that are not consistent with the behavior of a significant proportion of firms. Under the LPT, given an enforcement and withholding regime, if a firm bunches in one year it should also bunch in all the following years, or if it unbunches in a following year, it should declare taxes less than the withheld amount. The evidence from panel data on the universe of all corporations in Ecuador shows very low persistence in bunching: conditional on bunching at least once, only 3-4 percent firms bunch every year before changes in the withholding rate, and among the firms that unbunch 35-40 percent declare taxes more than the withheld amount, thus contradicting the LPT model for a substantial proportion of the firms. Using the Sasabuchi t test as developed by Lind and Mehlum (2010), we find that the relation between probability of bunching and assets of a firm is inverted-U which is consistent with the audit trigger model. The evidence suggests that the behavior of the firms cannot be captured by a single model. The strength of enforcement is important in determining bunching in an LPT model which suggests cross-country differences in the role played by loss aversion in bunching of taxpayers at policy thresholds.

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“…The paper also adds to the evidence on reference dependence from settings including insurance choice (Sydnor, 2010;Barseghyan et al, 2013), labor supply (Fehr and Goette, 2007;Farber, 2015), domestic violence (Card and Dahl, 2011), goal setting (Allen et al, forthcoming), and tax elusion (Engström et al, 2015;Rees-Jones, 2013). Across these settings, the reference point is the status-quo, or the forward-looking expectation (Kőszegi and Rabin, 2006).…”

mentioning

confidence: 94%

Reference-Dependent Job Search: Evidence from Hungary

DellaVigna¹,

Lindner²,

Reizer³

et al. 2016

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We propose a model of job search with reference-dependent preferences, where the reference point is given by recent income. Newly unemployed individuals search hard given that they are at a loss, but over time they get used to lower income, and thus reduce their search effort. In anticipation of a benefit cut their search effort rises again, then declines once they get used to the lower benefit level. The model fits the typical pattern of the exit from unemployment, even with no unobserved heterogeneity. The model also makes distinguishing predictions regarding the response to benefit changes, which we evaluate using a unique reform. In 2005, Hungary switched from a single-step UI system to a two-step system, with unchanged overall generosity. The system generated increased hazard rates in anticipation of, and especially following, benefit cuts in ways the standard model has a hard time explaining. We estimate a model with optimal consumption and endogenous search effort, as well as unobserved heterogeneity. The referencedependent model fits the hazard rates substantially better than most versions of the standard model. We estimate a slow-adjusting reference point and substantial impatience, likely reflecting present-bias. Habit formation and a variety of alternative models do not match the fit of the reference-dependent model. We discuss one model which also fits well, but is at odds with calibrated values and other evidence. Unemployment insurance programs in most Western countries follow a common design. The benefits are set at a constant replacement rate for a fixed period, typically followed by lower benefits under unemployment assistance. In such systems, the hazard rate from unemployment typically declines from an initial peak the longer workers are unemployed, surges at unemployment exhaustion, and declines thereafter. This has been shown in a variety of settings, such as in the United States (Katz and Meyer, 1990), Hungary (Micklewright and Nagy, 1999), Austria (Card et al., 2007a), Slovenia (van Ours and Vodopivec, 2008), Germany (Schmieder et al., 2012a), and France (Le Barbanchon, 2012). StefanoIt is well-known that a basic job search model a la Mortensen (1986) and van den Berg (1990) is unable to match this pattern. This model predicts an increasing exit hazard up until benefit expiration, with a constant exit rate thereafter. To match the time path, job search models add unobserved heterogeneity among workers. More productive workers are more likely to find a job initially, leading to a decrease in the hazard over time as the workers still unemployed are predominantly of the less productive type.In this paper, we propose, and test, a behavioral model of job search which can account for this time path of unemployment even in the absence of unobserved heterogeneity. Namely, we incorporate one of the best established facts in psychology, that people's perceptions and decisions are influenced by relative comparisons. We assume that workers have referencedependent preferences over their utility...

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Tax Compliance and Loss Aversion

Cited by 71 publications

References 30 publications

Applying Insights from Behavioral Economics to Policy Design

Applying Insights from Behavioral Economics to Policy Design

Loss Aversion, Transaction Costs, or Audit Trigger? Learning About Corporate Tax Compliance from a Policy Experiment with Withholding Regime

Reference-Dependent Job Search: Evidence from Hungary

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