Ravikumar, B and Zhang, Yuzhe (2010): Optimal auditing in a dynamic model of tax compliance.
Download (245Kb) | Preview
We study the optimal auditing of a taxpayer's income in a dynamic principal-agent model of hidden income. Taxpayers in our model initially have low income and stochastically transit to high income that is an absorbing state. A low-income taxpayer who transits to high income can under-report his true income and evade his taxes. With a constant absolute risk-aversion utility function and a costly auditing technology, we show that the auditing mechanism in our model consists of cycles. Within each cycle, a low-income taxpayer is initially unaudited, but if the duration of low-income report exceeds a threshold, then the auditing probability becomes positive. That is, the tax authority guarantees that the taxpayer will not be audited until the threshold duration is reached. We also find that auditing becomes less frequent if the auditing cost is higher or if the variance of income is lower.
|Item Type:||MPRA Paper|
|Original Title:||Optimal auditing in a dynamic model of tax compliance|
|Keywords:||Tax compliance, Tax auditing, Stochastic costly state verification|
|Subjects:||D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D82 - Asymmetric and Private Information; Mechanism Design|
|Depositing User:||B Ravikumar|
|Date Deposited:||28. May 2010 12:30|
|Last Modified:||26. Feb 2013 20:06|
Becker, G. (1968): "Crime and Punishment: An Economic Approach," Journal of Political Economy, 76, 169-217.
Fernandes, A., and C. Phelan (2000): "A Recursive Formulation for Repeated Agency with History Dependence," Journal of Economic Theory, 91, 223-247.
Green, E. (1987): Contractual Agreement for Intertemporal Trade, vol. Lending and the Smoothing of Uninsurable Income. University of Minnesota Press.
Monnet, C., and E. Quintin (2005): "Optimal Contracts in a Dynamic Costly State Verification Model," Economic Theory, 26, 867-885.
Popov, L. (2007): "Stochastic Costly State Verification and Dynamic Contracts," working paper, University of Iowa.
Reinganum, J., and L. Wilde (1985): "Income Tax Compliance in a Principal-Agent Framework," Journal of Public Economics, 26, 1-18.
Reinganum, J., and L. Wilde (1986): "Equilibrium Verification and Reporting Policies in a Model of Tax Compliance," International Economic Review, 27, 739-760.
Stigler, G. (1970): "The Optimum Enforcement of Laws," Journal of Political Economy, 78, 526-536.
Townsend, R. (1979): "Optimal Contracts and Competitive Markets With Costly State Verification," Journal of Economic Theory, 21, 265-293.
Wang, C. (2005): "Dynamic Costly State Verification," Economic Theory, 25, 887-916.
Zhang, Y. (2009): "Dynamic Contracting with Persistent Shocks," Journal of Economic Theory, 144, 635-675.
Available Versions of this Item
- Optimal auditing in a dynamic model of tax compliance. (deposited 28. May 2010 12:30) [Currently Displayed]