Tax Complexity as Price Discrimination

53 Pages Posted: 21 Feb 2024

See all articles by Ole Agersnap

Ole Agersnap

Princeton University

Julie Brun Bjørkheim

Norwegian School of Economics (NHH)

Date Written: February 5, 2024

Abstract

Most tax systems around the world are highly complex. While several economists have studied the potential costs associated with tax complexity, few have explored if complexity can also have beneficial effects. In a novel model where taxpayers can acquire costly knowledge to reduce their tax burden, we show that when elasticities of taxable income are heterogeneous, a complex tax system can act as a sorting device similar to second-degree price discrimination, where more elastic taxpayers will invest in more tax knowledge. We prove that if elasticities are increasing with income, introducing tax complexity can allow the government to raise higher tax revenues at no efficiency cost. However, we show that complexity primarily benefits the highest earners and thus
exacerbates inequality. In the empirical section of our work, we study a complex tax system in Norway. Using rich register data on business owners, we demonstrate that many taxpayers make accounting decisions that cause them to pay higher taxes than would have been possible, and we quantify the exact size of this tax overpayment at the individual level. We show that overpayment tends to be larger for women, the less wealthy, and immigrants. We validate our model predictions by showing that failure to optimize is associated with a lower estimated tax elasticity.

Keywords: Taxation; Personal Income Taxes, Fiscal Policies and Behavior of Economic Agents, Household, Tax Evasion and Avoidance

JEL Classification: H20, H24, H31, H26

Suggested Citation

Agersnap, Ole and Bjørkheim, Julie Brun, Tax Complexity as Price Discrimination (February 5, 2024). NHH Dept. of Business and Management Science Discussion Paper No. 2024/4, Available at SSRN: https://ssrn.com/abstract=4716868 or http://dx.doi.org/10.2139/ssrn.4716868

Ole Agersnap

Princeton University

Julie Brun Bjørkheim (Contact Author)

Norwegian School of Economics (NHH) ( email )

Helleveien 30
Bergen, NO-5045
Norway

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