Frictions and taxpayer responses: evidence from bunching at personal tax thresholds
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Frictions and taxpayer responses: evidence from bunching at personal tax thresholds Stuart Adam2 · James Browne3 · David Phillips2 · Barra Roantree1
© The Author(s) 2020
Abstract We exploit kinks and notches in the UK personal tax schedule over a 40-year period to investigate how taxpayers respond to income tax and social security contributions. At kinks, where the marginal rate rises, we find bunching by company owner-managers and the selfemployed, but not those with only employment income. Responses to notches, where the average rate rises, provide compelling evidence that this is because most employees face substantial frictions: fewer than a quarter bunch even where doing so would increase both consumption and leisure. We develop a new approach for identifying selection in who responds and for decomposing responses into hours and wage components. We find that those employees who do bunch at notches are almost exclusively part-time workers, but tend to have lower wages and work more hours than those part-time workers who do not bunch. Keywords Behavioural response · Income tax · Social security contributions · Optimisation frictions · Elasticity of taxable income · Bunching JEL H20 · H24 · J22 The authors thank Richard Blundell, Raj Chetty, Eric French, Henrik Kleven, Guy Laroque, Ian Preston, and Emmanuel Saez for their helpful comments, along with colleagues at DIW Berlin, CPB Netherlands and IPP Paris for many helpful discussions throughout the course of the broader project of which this paper was a part. Browne’s work on the paper was conducted while he was at the IFS. The opinions expressed and arguments employed, as well as any errors or omissions, are those of the authors, who gratefully acknowledge funding from the European Research Council (ERC-2010-AdG-269440WSCWTBDS), the ESRC Centre for the Microeconomic Analysis of Public Policy (ES/M010147/1), ESRC Research Grant ES/K006185/1 and the Nuffield Foundation (OPD/40517). The New Earnings Survey Panel Dataset is produced by the Office for National Statistics and supplied by the Secure Data Service at the UK Data Archive. The Survey of Personal Incomes is Crown Copyright material and has been used with the permission of the Controller of HMSO and the Queen’s Printer for Scotland. * Barra Roantree [email protected] 1
Economic and Social Research Institute (ESRI) and Trinity College Dublin (TCD), Dublin, Ireland
2
Institute for Fiscal Studies (IFS), London, England
3
Tony Blair Institute for Global Change (TBI), London, England
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1 Introduction How individuals respond to personal income taxes is of enormous importance for public policy, with both the revenue yield from reforms and the efficiency costs of taxation highly dependent on the magnitude and nature of responses. Since Feldstein (1999) showed that the elasticity of taxable income (ETI) is—under certain conditions—a sufficient statistic for these efficiency costs, a large volume of work has sought to estimate this parameter. This work typical
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