VAT threshold and small business behavior: evidence from Thai tax returns

This paper examines how small firms respond to the VAT registration threshold in the context of high informality. Using the panel of VAT and corporate income tax return data from Thailand, we study bunching response at the threshold, examine the role of informality, and investigate growth effects. We find that Thai firms respond strongly to the notch with the bunching pattern consistent with the incentive at the threshold. We also present suggestive evidence that highlights the VAT informality (defined as the presence of non-VAT firms) as a key incentive underlying the bunching response. Finally, our findings indicate that the threshold provides a brake on small business growth. We demonstrate that firms not registered for VAT have significantly lower growth rate than a propensity score-matched group of firms that voluntarily registered. Such effects are stronger for firms closer to the threshold with part of them likely driven by misreporting. These findings have important implications for the VAT threshold policy in developing countries and are widely applicable since the size-dependent thresholds are commonly applied to small businesses.