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Behavioral Effects of Withholding Taxes on Labor Supply

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  • Johannes Becker
  • Jonas Fooken
  • Melanie Steinhoff

Abstract

In most advanced economies, income tax collection uses third‐party withholding for wage income. Because withholding taxes do not necessarily reflect true effective taxes, these may give false signals of net‐of‐tax pay. We test labor supply responses to such misconceptions using laboratory experiments. Withholding taxes (and the resulting tax refunds) should be behaviorally neutral, but our results show that tax adjustments lead to effort adjustments, which suggests that withholding blurs tax incentives. While there is no statistically significant response in the overall sample, the participants in the subgroup who self‐assess to be motivated by monetary incentives (about half of the total sample) reduce their effort in response to withholding taxes and increase their effort after receiving tax refunds.

Suggested Citation

  • Johannes Becker & Jonas Fooken & Melanie Steinhoff, 2019. "Behavioral Effects of Withholding Taxes on Labor Supply," Scandinavian Journal of Economics, Wiley Blackwell, vol. 121(4), pages 1417-1440, October.
    • Handle: RePEc:bla:scandj:v:121:y:2019:i:4:p:1417-1440
    DOI: 10.1111/sjoe.12345
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    2. Vossler, Christian A. & McKee, Michael & Bruner, David M., 2021. "Behavioral effects of tax withholding on tax compliance: Implications for information initiatives," Journal of Economic Behavior & Organization, Elsevier, vol. 183(C), pages 301-319.

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    JEL classification:

    • H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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