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Pareto-Efficient Tax Breaks

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  • Sebastian Koehne
  • Dominik Sachs

Abstract

We analyze Pareto-efficient tax breaks for personal taxation in a private information environment. In addition to a labor-leisure choice, the agents decide how to spend their money between consumption and work-related goods. We derive an efficiency condition that relates the rate of tax deductibility for work-related goods to the marginal tax rate at each income level. This condition holds irrespective of the skill distribution and the taste for redistribution. If the efficiency condition is violated (which it is almost generically), we characterize utility-neutral and incentive-compatible allocation perturbations that minimize resource costs. We apply our theory to study possible tax breaks for domestic services in the US economy. We find that this reform introduces marginal deduction rates for domestic services ranging from 60% to 90% combined with a small increase of the marginal tax rates on labor income. The implied annual resource gains are up to 50 Dollars per household.

Suggested Citation

  • Sebastian Koehne & Dominik Sachs, 2016. "Pareto-Efficient Tax Breaks," CESifo Working Paper Series 6147, CESifo.
    • Handle: RePEc:ces:ceswps:_6147
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    References listed on IDEAS

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    Cited by:

    1. Spencer Bastani & Sören Blomquist & Luca Micheletto, 2020. "Pareto efficient income taxation without single-crossing," Social Choice and Welfare, Springer;The Society for Social Choice and Welfare, vol. 55(3), pages 547-594, October.
    2. Spencer Bastani & Sören Blomquist & Luca Micheletto, 2019. "Nonlinear and piecewise linear income taxation, and the subsidization of work-related goods," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 26(4), pages 806-834, August.
    3. Spencer Bastani & Sören Blomquist & Luca Micheletto, 2020. "Child Care Subsidies, Quality, and Optimal Income Taxation," American Economic Journal: Economic Policy, American Economic Association, vol. 12(4), pages 1-37, November.

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    More about this item

    Keywords

    optimal taxation; tax deduction; Pareto-improving tax reform;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation

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