The Effect of Low Corporate Tax Rate on Payroll Tax Evasion

CERGE-EI Working Paper Series No. 448

43 Pages Posted: 29 Nov 2011

See all articles by Boryana Madzharova

Boryana Madzharova

Charles University in Prague - CERGE-EI, a joint workplace of Charles University and the Economics Institute of the Czech Academy of Sciences

Date Written: November 1, 2011

Abstract

It is a commonly held view that the widespread policy of cutting the corporate income tax has a positive effect on taxable income through decreasing firms' incentive to hide profits. A neglected side of this policy, however, is its potential to trigger more evasion in other tax bases, such as the social security base, especially if the corporate income tax rate is low compared to the payroll rate. We develop a model in which employers and employees cooperate in declaring lower wages to the tax authorities in order to evade payroll contributions. Since wages and payroll taxes are a deductible expense for firms, a lower reported wage translates into higher corporate profits on paper and hence, shifting of tax liability out of social security into the corporate tax base. Using firm-level panel data for Bulgaria, where the problem of contribution evasion is prevalent, we find that a 1% increase in the net-of-tax-share of the corporate tax rate reduces reported wages in the economy by .21%, but leads to higher taxable incomes. An identical increase in the payroll net-of-tax-share results in a .28% rise in wages. Thus, even though the separate tax bases respond significantly to changes in the corporate tax rate, the impact on the combined tax base of wages and taxable incomes is estimated to be small.

Keywords: Corporate tax, Payroll tax, Evasion, Wage underreporting

JEL Classification: H25, H26, H55, J3

Suggested Citation

Madzharova, Boryana, The Effect of Low Corporate Tax Rate on Payroll Tax Evasion (November 1, 2011). CERGE-EI Working Paper Series No. 448, Available at SSRN: https://ssrn.com/abstract=1965751 or http://dx.doi.org/10.2139/ssrn.1965751

Boryana Madzharova (Contact Author)

Charles University in Prague - CERGE-EI, a joint workplace of Charles University and the Economics Institute of the Czech Academy of Sciences ( email )

Politickych veznu 7
Prague, 111 21
Czech Republic

HOME PAGE: http://www.cerge-ei.cz

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
132
Abstract Views
997
Rank
453,661
PlumX Metrics