The US Government loses approximately $381 billion in unpaid taxes annually. If collected, these unpaid taxes would have increased total federal revenues by about 11.5% in 2018, an amount that would have covered almost half of the federal budget deficit that year. The government (and in this case, the IRS) has mostly used conventional tools like tax audits and penalties to address this problem. However, tax audits are costly. Even with very low overall audit rates of less than 1%, IRS enforcement costs are around $4.7 billion per fiscal year. Moreover, tax audits are not always successful in detecting tax evasion, and hence remain a limited solution. Thus, there is a need for less expensive but effective ways to increase taxpayer compliance.
Exploring such intervention opportunities for tax evasion is the main goal of this dissertation. The dissertation focuses on the behavioral aspects of tax evasion, specifically, on perceptions about tax evasion and key elements of the U.S. federal tax system. It shows that the US taxpayers have considerable misperceptions about their effective federal income tax rates and the penalties for underreporting taxes. It also provides evidence suggesting that these misperceptions can exacerbate tax evasion. Therefore, reducing or eliminating these misperceptions may prompt people to be more tax compliant. For that purpose, two behavioral interventions are proposed. The goal of the proposed interventions is to reduce tax evasion by countering misperceptions about effective tax and penalty rates. The proposed interventions are simple, relatively minor additions to federal income tax Form 1040. They could substantially reduce tax evasion rates by correcting taxpayers' misperceptions about their tax burden and the penalties for underreporting taxes. If successful, this reduction in tax evasion could potentially help the IRS to collect billions in additional tax revenues annually. The intervention designed was informed by principles from a prominent intervention framework called EAST (The Behavioural Insights Team, 2014). The ALP Tax Evasion Survey and publicly accessible IRS data were used to preliminarily assess the impact of the interventions on tax evasion.
Table of Contents
Review of the Existing Literature Relevant to Tax Evasion
Biases in Perception of Audit, Penalty and Effective Tax Rates
Tax Evasion Elasticities with Respect to Perceived Audit, Penalty and Tax Rates
Costly Misperceptions: Suggestions for Two Behavioral Interventions to Improve Tax Compliance