Enlisting Employees in Improving Payroll-Tax Compliance: Evidence from Mexico

63 Pages Posted: 14 Sep 2013

See all articles by Todd Kumler

Todd Kumler

Columbia University

Eric A. Verhoogen

Columbia University - School of International & Public Affairs (SIPA); IZA Institute of Labor Economics; Centre for Economic Policy Research (CEPR)

Judith A. Frías

Instituto Mexicano del Seguro Social (IMSS)

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Abstract

Non-compliance of firms with tax regulations is a major constraint on state capacity in developing countries. We focus on an arguably under-appreciated dimension of non-compliance: under-reporting of wages by formal firms to evade payroll taxes. We develop a simple partial-equilibrium model of endogenous compliance by heterogeneous firms to guide the empirical investigation. We then compare two independent sources of individual-level wage information from Mexico – firms' wage reports to the Mexican social security agency and workers' responses to a household labor-force survey – to investigate the extent of wage under-reporting and how it responded to an important change in the social security system.We document that under-reporting by formal firms is extensive, and that compliance is better in larger firms. Using a difference-in-differences strategy based on the 1997 Mexican pension reform, which effectively tied pension benefits more closely to reported wages for younger workers than for older workers, we show that the reform led to a relative decline in under-reporting for younger workers. Within metro area/sector/firm size cells, the decline in under-reporting was greater in cells initially employing a younger workforce on average. The empirical patterns are consistent with our theoretical model and suggest that giving employees incentives and information to improve the accuracy of employer reports can be an effective way to improve payroll-tax compliance.

Keywords: tax compliance, state capacity, Mexico, heterogeneous firms, pension reform

JEL Classification: O17, H26, H55

Suggested Citation

Kumler, Todd and Verhoogen, Eric A. and Frías, Judith A., Enlisting Employees in Improving Payroll-Tax Compliance: Evidence from Mexico. IZA Discussion Paper No. 7591, Available at SSRN: https://ssrn.com/abstract=2325849 or http://dx.doi.org/10.2139/ssrn.2325849

Todd Kumler (Contact Author)

Columbia University ( email )

New York, NY 10027
United States

Eric A. Verhoogen

Columbia University - School of International & Public Affairs (SIPA) ( email )

420 West 118th Street
New York, NY 10027
United States

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Judith A. Frías

Instituto Mexicano del Seguro Social (IMSS) ( email )

Paseo de la Reforma No. 476
Col. Juárez, México D.F. 06600
Mexico

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