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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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    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/pol.4.1.158
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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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    1. Sahm, Claudia R. & Shapiro, Matthew D. & Slemrod, Joel, 2011. "Check in the mail or more in the paycheck: does the effectiveness of fiscal stimulus depend on how it is delivered?," Working Paper Series 1298, European Central Bank.
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    3. Daniel Feenberg & Elisabeth Coutts, 1993. "An introduction to the TAXSIM model," Journal of Policy Analysis and Management, John Wiley & Sons, Ltd., vol. 12(1), pages 189-194.
    4. Raj Chetty & Adam Looney & Kory Kroft, 2009. "Salience and Taxation: Theory and Evidence," American Economic Review, American Economic Association, vol. 99(4), pages 1145-77, September.
    5. Abadie, Alberto & Gay, Sebastien, 2006. "The impact of presumed consent legislation on cadaveric organ donation: A cross-country study," Journal of Health Economics, Elsevier, vol. 25(4), pages 599-620, July.
    6. Naomi E. Feldman, 2010. "Mental Accounting Effects of Income Tax Shifting," The Review of Economics and Statistics, MIT Press, vol. 92(1), pages 70-86, February.
    7. Stefano DellaVigna & Ulrike Malmendier, 2006. "Paying Not to Go to the Gym," American Economic Review, American Economic Association, vol. 96(3), pages 694-719, June.
    8. Neumark, David, 1995. "Are Rising Earnings Profiles a Forced-Saving Mechanism?," Economic Journal, Royal Economic Society, vol. 105(428), pages 95-106, January.
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    Cited by:
    1. Annette Alstadsæter & Martin Jacob, 2013. "The Effect of Awareness and Incentives on Tax Evasion," CESifo Working Paper Series 4369, CESifo Group Munich.
    2. 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.
    3. Sara LaLumia & James M. Sallee, 2011. "The Value of Honesty: Empirical Estimates from the Case of the Missing Children," NBER Working Papers 17247, National Bureau of Economic Research, Inc.
    4. Alstadsæter, Annette & Jacob, Martin, 2013. "Who participates in tax avoidance?," arqus Discussion Papers in Quantitative Tax Research 148, arqus - Arbeitskreis Quantitative Steuerlehre.
    5. 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.

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