#GerzenseeInsights "Tax Systems"

In theoretical models of public finance, it usually does not matter who transfers the tax payment to the authorities. For example, the theory suggests that it is irrelevant for tax incidence and revenue whether employers or employees remit payroll taxes. However, there is ample evidence that the choice of who remits a tax matters for the tax revenue collected or the amounts distributed through benefit programs. So who remits has an impact on compliance and tax revenue, even if it is not theoretically expected to do so. For example, Kopczuk et al. (2016) show that the incidence and revenue collected from diesel taxes in the United States depend on whether the refiner, wholesaler, distributor, retailer, or consumer remits the tax to the government. Recent work by Garriga and Tortarolo (2024) shows that shifting the payment of child benefits from employers to the government increased the amount received by individuals. An important argument for why the theoretical "remittance invariance folk wisdom" does not hold in reality is that evasion opportunities differ across transaction parties. For example, if it is easier for employees to misreport their earned income than it is for employers, then a change from requiring the employee to remit the tax to the government to requiring the employer to remit the tax may have a positive effect on tax revenues.

Indeed, if individuals along the income distribution engage in different degrees of tax avoidance, this can have important implications for income inequality as well as effective tax progressivity, as measured by administrative tax returns. However, since the goal of tax avoidance is to hide income, it is notoriously difficult to measure and to study. Johns and Slemrod (2010) use data from the National Research Program's Tax Reporting Compliance Study to show that misreporting increases with income (at least up to the 99.0 to 99.5 income percentiles). This suggests that income inequality as measured by reported income is lower than true income inequality. More recent work (e.g., Alstadsæter et al. (2019)) argues that the data used by John and Slemrod misses sophisticated tax evasion at the top of the income distribution, suggesting that the difference between measured and reported income inequality may be even larger.

It is well known that cash transactions make it easier to underreport or misreport the transaction to tax authorities. Therefore, programs that discourage the use of physical cash can affect reported income and, therefore, tax revenues collected.  Electronic payments can increase both the perceived and actual likelihood that the tax authority will be able to monitor a transaction. Evidence from around the world suggests that encouraging the use of electronic transactions can increase tax compliance and tax revenues, and that these effects are substantial. For example, Hess (2020) shows that when U.S. states moved to distribute cash transfers electronically, reported taxable income increased between $0.56 and $1.15 for every dollar that was replaced by electronic payments. Similar effects have been observed in very different contexts. For example, when India introduced its demonetization policy in 2016, reported sales increased and so did tax revenues (Das et al., 2023). 

While administrative tax data are often necessary for the analysis of tax systems, there is ample convincing evidence that more readily available data sources can be used, or that these alternative sources can be combined with more traditional tax data. Most empirical work analyzing tax systems relies on administrative data provided by tax authorities. These data are often of high quality and cover a large proportion of (if not all) taxpayers. However, accessing this data can be challenging. The good news is that there are numerous examples where more accessible data sources have been used to provide rigorous evidence on tax policy. For example, data from search queries on Google, Wikipedia, and IRS information services have been used to better understand when and how taxpayers acquire information (Hoopes et al., 2015). Cullen, Turner, and Washington (2021) show how combining IRS tax data with more readily available survey data and voting records can provide interesting insights into how the political alignment of U.S. counties with the party of the president affects tax evasion in these counties.