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Inertia and Overwithholding: Explaining the Prevalence of Income Tax Refunds

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  • Damon Jones
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    Abstract

    Over three-quarters of US taxpayers receive income tax refunds, which are effectively zero-interest loans to the government. Previous explanations include precautionary and/or forced savings motives. I present evidence on a third explanation: inertia. I find that following a change in tax liability, prepayments are only adjusted by 29 percent of the tax change after one year and 61 percent after three years. Adjustment increases with income and experience, and for EITC recipients, I rule out adjustment greater than 2 percent. Thus, policies affecting default-withholding rules are no longer neutral decisions, but rather, may affect consumption smoothing, particularly for low-income taxpayers. (JEL D14, H24, K34)

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    Bibliographic Info

    Article provided by American Economic Association in its journal American Economic Journal: Economic Policy.

    Volume (Year): 4 (2012)
    Issue (Month): 1 (February)
    Pages: 158-85

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    Handle: RePEc:aea:aejpol:v:4:y:2012:i:1:p:158-85

    Note: DOI: 10.1257/pol.4.1.158
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    Cited by:
    1. Jacob, Martin & Alstadsæter, Annette, 2013. "Payout policies of privately held firms: Flexibility and the role of income taxes," arqus Discussion Papers in Quantitative Tax Research 152, arqus - Arbeitskreis Quantitative Steuerlehre.
    2. Annette Alstadsæter & Martin Jacob, 2013. "The effect of awareness and incentives on tax evasion," Working Papers, Oxford University Centre for Business Taxation 1314, Oxford University Centre for Business Taxation.
    3. Sara LaLumia & James Sallee, 2011. "The Value of Honesty: Empirical Estimates from the Case of the Missing Children," Department of Economics Working Papers 2011-05, Department of Economics, Williams College.
    4. Annette Alstadsæter & Martin Jacob, 2013. "Who Participates in Tax Avoidance?," CESifo Working Paper Series 4219, CESifo Group Munich.
    5. Dayanand S. Manoli & Nicholas Turner, 2014. "Cash-on-Hand & College Enrollment: Evidence from Population Tax Data and Policy Nonlinearities," NBER Working Papers 19836, National Bureau of Economic Research, Inc.

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