Scandinavian Working Papers in Economics
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Department of Economics, Uppsala University Working Paper Series, Uppsala Center for Fiscal Studies, Department of Economics, Uppsala University

No 2015:2:
Income underreporting among the self-employed: a permanent income approach

Per Engström () and Johannes Hagen ()

Abstract: The consumption based method to estimate underreporting among self-employed, introduced by Pissarides andWeber (1989), is one of the workhorses in the empirical literature on tax evasion/avoidance. We show that failure to account for transitory income fluctuations in current income may overestimate the degree of underreporting by around 40 percent. Previous studies typically use instrumental variable methods to address the issue. In contrast, our access to registry based longitudinal income measures allows a direct approach based on more permanent income measures. This also allows us to evaluate the performance of a list of instruments widely used in the previous literature. Our analysis shows that capital income is the most suitable instrument in our application, while education and housing related measures do not seem to satisfy the exclusion restrictions.

Keywords: Income underreporting; tax evasion; self-employment; Engel curves; permanent income; (follow links to similar papers)

JEL-Codes: D12; H24; H25; H26; (follow links to similar papers)

24 pages, June 15, 2015

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This paper is published as:
Engström, Per and Johannes Hagen, (2017), 'Income underreporting among the self-employed: a permanent income approach', European Economic Review, Vol. 92, February, pages 92-109

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