Evaluating tax evasion in the European Union: a case study of the prevalence and character of ‘envelope wage’ payments

In the current climate of economic crisis, European governments are trying to raise revenue via various means such as fighting tax evasion. This paper evaluates a form of tax evasion in Europe that has so far received little attention. This is the illegitimate wage practice used by legitimate businesses whereby they pay their formal employees two separate wages, an official wage that is declared to the state for tax and social security purposes and an unofficial ‘envelope’ wage which is not declared and allows employers to avoid paying their full social insurance and tax liabilities. Examining a data-base composed of 26,659 face-to-face interviews conducted in the 27 member states of the European Union, using unordered and ordered discrete models as well as interval regression, we provide evidence of the factors that significantly impact on the propensity to receive envelope wages and the amounts received. We control for relevant socio- economic and other characteristics of individuals in our estimations. There is an interesting geographical variation in the incidence of ‘envelope wages’ in Europe. Most workers receiving envelope wages are concentrated in South-Easter and East-Central Europe while few of them are found in Nordic Countries and Continental Europe including the UK and Ireland. Arguably, this is a reflection of heterogeneity in social norms, attitudes towards the state and income inequality across countries. Our estimates corroborate this geographical heterogeneity and identify other significant correlates affecting the probability of participating in ‘under-declared’ activity, namely gender, age, sector of employment, firm size, occupation and household income. We also find perception variables about the scale of evasion to be significant predictors of the probability of evasion.