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  • November 27, 2017

Wealth taxes (and how to evade them)

A self-reporting component of the tax process creates opportunities for evasion.

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Not everyone pays their taxes — at least not in full. As the Paradise Papers recently documented, offshore tax havens allow wealthy companies and individuals to avoid paying higher rates.

The debate on wealth taxes raises this concern as well: will taxing assets induce evasion? Or, might it even cause people to reduce their savings and lower their wealth? In a new paper in the November issue of the American Economic Journal: Economic Policy, author David Seim uses evidence from Sweden to find out.

Sweden implemented a wealth tax in 1910. The current two-bracket system — no taxes below a cut-off and a single rate above — began in 1991. Taxes are based on both third-party reported wealth (such as assets reported by a bank) and self-reported wealth.

Seim finds that, unlike third-party reported wealth, self-reported wealth increases right before the cut-off, as shown below in Figure Two. The disproportionate number of people who just barely fall below the threshold indicates that some individuals are manipulating their reports in order to avoid the tax.

 

Figure 2  from Seim (2017) 

 

Fortunately, people do not alter their savings, income, or portfolios in response to the wealth tax, all of which would have more serious consequences for the economy than underreporting does.

Because people do not change their economic behavior (only their reports), the wealth tax may still be an effective redistributional tool in Sweden — even acknowledging that when it’s easy to evade the tax, some people will.