Is the Taxable Income Elasticity Sufficient to Calculate Deadweight Loss? The Implications of Evasion and Avoidance

Abstract In an influential article, Raj Chetty (2009, “Is the Taxable Income Elasticity Sufficient to Calculate Deadweight Loss? The Implications of Evasion and Avoidance.” American Economic Journal: Economic Policy 1 (2):31–52) argues that in the presence of tax evasion the elasticity of taxable income (ETI) is no longer a sufficient statistic for the marginal efficiency cost of funds (MECF). We show that, under Chetty’s (2009, “Is the Taxable Income Elasticity Sufficient to Calculate Deadweight Loss? The Implications of Evasion and Avoidance.” American Economic Journal: Economic Policy 1 (2):31–52) risk-neutrality assumption, correctly measuring the standard MECF only requires adding detected evasion inclusive of penalties. In the more general case of risk aversion, it further requires amending the formula to address the private risk-bearing cost of tax evasion.

Download Full-text

Is the Taxable Income Elasticity Sufficient to Calculate Deadweight Loss? The Implications of Evasion and Avoidance

American Economic Journal Economic Policy ◽

10.1257/pol.1.2.31 ◽

2009 ◽

Vol 1 (2) ◽

pp. 31-52 ◽

Cited By ~ 104

Author(s):

Raj Chetty

Keyword(s):

Income Elasticity ◽

Weighted Average ◽

Deadweight Loss ◽

Tax Rates ◽

Tax Rate ◽

Taxable Income ◽

Income Elasticities ◽

Highly Sensitive ◽

Efficiency Cost ◽

Resource Cost

Martin Feldstein's (1999) widely used taxable income formula for deadweight loss assumes the marginal social cost of evasion and avoidance equals the tax rate. This condition is likely to be violated in practice for two reasons. First, some of the costs of evasion and avoidance are transfers to other agents. Second, some individuals overestimate the costs of evasion and avoidance. In such situations, excess burden depends on a weighted average of the taxable income and total earned income elasticities, with the weight determined by the resource cost of sheltering income from taxation. This generalized formula implies the efficiency cost of taxing high income individuals is not necessarily large despite evidence that their reported incomes are highly sensitive to marginal tax rates. (JEL H21, H24, H26)

Download Full-text

Elasticity of Taxable Income and Deadweight Loss

Health and Social Welfare Review ◽

10.15709/hswr.2009.29.2.213 ◽

2009 ◽

Vol 29 (2) ◽

pp. 213-242 ◽

Cited By ~ 2

Author(s):

Choi, Seng-Eun

Keyword(s):

Deadweight Loss ◽

Taxable Income ◽

Elasticity Of Taxable Income

Download Full-text

On Bunching and Identification of the Taxable Income Elasticity

10.3386/w24136 ◽

2017 ◽

Cited By ~ 1

Author(s):

Sören Blomquist ◽

Whitney Newey ◽

Anil Kumar ◽

Che-Yuan Liang

Keyword(s):

Income Elasticity ◽

Taxable Income

Download Full-text

The bunching estimator cannot identify the taxable income elasticity

10.1920/wp.cem.2017.4017 ◽

2017 ◽

Cited By ~ 6

Author(s):

Soren Blomquist ◽

Whitney K. Newey

Keyword(s):

Income Elasticity ◽

Taxable Income

Download Full-text

ELASTISITAS PENDAPATAN WAJIB PAJAK (ELASTICITY OF TAXABLE INCOME) DI INDONESIA

KEBERLANJUTAN ◽

10.32493/keberlanjutan.v4i2.y2019.p1192-1217 ◽

2019 ◽

Vol 4 (2) ◽

pp. 1192

Author(s):

Arif Nugrahanto

Keyword(s):

Labor Supply ◽

Income Elasticity ◽

Secular Trend ◽

Working Hours ◽

Tax Rates ◽

Net Income ◽

Transfer Policy ◽

Taxable Income ◽

Elasticity Of Taxable Income ◽

Short Run

AbstractThe responses of taxpayers due to the changes in tax rates have attracted the curiosity of many economists. The magnitude of taxpayers’ responses is substantially considered to be very importance in the formulation of tax and transfer policy (Giertz, 2009). The fundamental analysis on how to see the respond of taxpayers due to any changes in tax rates uses elasticity of labor supply, which estimates the changes of working hours with respect to the changes in tax rates. Because people’s response to a tax change may take several forms, including a labor supply response, elasticity of labor supply must be read carefully, as pertaining only to specific circumstances. Then, the elasticity of taxable income, which was originated by Lindsey (1986), is used and introduced to overcome such restrictions.Using very rich panel data of Indonesian taxpayers from 2007 to 2010, this study generates numerous findings about the elasticity of taxable income. The extent of taxpayers’ response deeply depends on how the secular trend of income is isolated and controlled. Without income control, the elasticity of taxable income is 0.289, while using a 10-spline of log of income, the extent is 0.368. Moreover, the study also uses net income as complement of the core estimation. This study identifies that the elasticity of taxable income in Indonesia is in the range of 0.302-0.368 depending on the income definition applied. The findings confirm with most literature on this subject and closely near to what was specified by Saez, et. al (2010) as “a consensus value.” But it should be underlined that these magnitudes are just in the short run period. This also found that the short run and medium period produce varying magnitudes. The medium run period calculation generates the number of close to zero. It might be due to the existence of income shifting, as stated by Goolsbee (2000). Another argument is myopic phenomenon. As taxpayers only focus on the situation that just happen surroundings them.The difference in the effect highpoints what Slemrod (2001) said that the magnitude of reported income elasticity is not an unchanged parameter; indeed, it is subject to government policy. Moreover, the surroundings of the tax reform and after all may also have influences.

Download Full-text

The Tax Elasticity of Financial Statement Income: Implications for Current Reform Proposals

National Tax Journal ◽

10.17310/ntj.2020.4.06 ◽

2020 ◽

Vol 73 (4) ◽

pp. 1047-1064

Author(s):

Dhammika Dharmapala

Keyword(s):

Conceptual Framework ◽

Welfare Analysis ◽

Financial Statement ◽

Deadweight Loss ◽

Corporate Tax ◽

Taxable Income ◽

Relevant Evidence ◽

Elasticity Of Taxable Income ◽

Current Reform

Current reform proposals in international and corporate tax (most notably the Organisation for Economic Co-operation and Development’s Global Anti-Base Erosion proposal) envisage taxing financial statement income. This paper develops a conceptual framework, based on the literature on the elasticity of taxable income (ETI), for the welfare analysis of such proposals and discusses the available evidence on the tax elasticity of financial statement income. The central conclusion is that the most relevant evidence suggests a large responsiveness of financial statement income to taxes (and, hence, albeit with significant limitations and caveats, arguably a large deadweight loss). The paper also highlights the need for more evidence on this question.

Download Full-text