Tax evasion and intertemporal choice

It has often been argued that the misreporting of regular wage income is limited by third-party withholding and reporting requirements. However, income arising from savings investment is often not subject to such withholding requirements. This paper uses a simple dynamic model to examine the problem of tax evasion of investment income. Assuming that individuals can misreport investment income but not wage income, it is shown that alterations in the audit rate and penalty rates affect an individual's saving (or investment) decisions. This suggests that parameters traditionally used to control tax evasion impact the aggregate output of an economy and the rate of economic growth. This paper is based on the author's dissertation completed at Virginia Polytechnic Institute and State University. The author is indebted to the dissertation committee, Helmuth Cremer (co-chair), Firouz Gahvari (co-chair), Catherine Eckel, Djavad Salehi-Isfahani, and Richard Steinberg for their guidance and suggestions. All remaining errors are the author's responsibility.