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Are household surveys like tax forms: evidence from income underreporting of the self-employed

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Abstract

There is a large literature showing that the self-employed underreport their income to tax authorities. In this paper, we quantify the extent to which the self-employed also systematically underreport their income in U.S. household surveys. To do so, we use the Engel curve describing the relationship between income and expenditures of wage and salary workers to infer the actual income, and thus the reporting gap, of the self-employed based on their reported expenditures. We find that the self-employed underreport their income by about 30 percent. This result is remarkably robust across data sources and alternative model specifications. Failing to account for such income underreporting leads to biased conclusions. We document this bias in existing measures of earnings differentials, wealth differentials, precautionary savings, lifecycle earnings profiles, and earnings variation across MSAs. Our results show that it is naive for researchers to take it for granted that individuals will provide unbiased information to household surveys given their demonstrated tendency of providing distorted reports of the same information to other administrative sources.

Suggested Citation

  • Erik Hurst & Geng Li & Benjamin Pugsley, 2011. "Are household surveys like tax forms: evidence from income underreporting of the self-employed," Finance and Economics Discussion Series 2011-06, Board of Governors of the Federal Reserve System (U.S.).
  • Handle: RePEc:fip:fedgfe:2011-06
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    More about this item

    Keywords

    Households; Self-employed; Income; Disclosure of information;
    All these keywords.

    JEL classification:

    • C8 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance
    • J3 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs

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