President Trump has stated openly that not paying his taxes makes him smart. By using loopholes and claiming large business deductions, Trump avoided paying millions to the federal government. As the April 18th tax deadline draws near, American taxpayers must make similar, albeit much smaller, decisions.
Many may search the house or car trying to find missing receipts from “business” dinners or expenses to claim as deductions. These small instances of fudging are usually considered harmless. After all, what’s the problem in taking a $100 deduction for an “office” desk?
But if all 120 million taxpayers claim a similar deduction, we’re starting to talk about real money and real societal implications. When vast numbers of taxpayers abuse deductions or underreport their income, we begin to crowd out the honest taxpayers.
To better understand tax compliance, my colleagues and I conducted the largest behavioral tax compliance experiment in the world. What we found was that those who thought others reported their true total income in the study, were also honest on their taxes. Those who thought others reported much less, cheated a lot more.
This is exactly what we would expect, but the magnitude of the results surprised us. As human beings we have a need for cognitive consistency. In other words, we want to fit in and as Margaret Levi says, “no one wants to be a sucker.” It’s also possible that individuals rationalize their bad behaviors by convincing themselves that others also behave poorly. Though we can’t parse out these specific differences, the societal implications are similar.
A cornerstone of our society is the belief that others will fulfill their societal responsibilities, and that includes paying their taxes. Human beings are social animals. We thrive on doing what others do and we adapt to follow the norms of our society.
This is why tax avoidance and evasion, no matter how small, weighs heavy on society. Small instances of non-compliance create a sort of moral ambiguity in which there is a grey area between what is right and what is wrong. It’s much easier to rationalize fudging your taxes when everyone else is abusing deductions too, especially when that includes the President of the United States.
This also creates problems at the administrative level. For one, it’s easier for revenue agencies to find a single bad apple than to sort through a society of dishonest taxpayers to find the worst cases. Two, when the goal of collecting taxes clashes with the social norm of evading taxes, revenue agencies can lose their legitimacy.
In the U.S., for example, the IRS is the most disliked federal agency after Veterans Affairs. This makes it easier for politicians to cut funding, making enforcement even more difficult. Trump’s budget would cut the IRS by $239 billion ― not a small amount for an agency that is already starved of funding. And when the IRS can’t properly collect taxes, schools, hospitals, roads and all the basics of functioning society will suffer.
On the other hand, when compliance is the social norm individuals are aware of both the real societal pressures to follow the rules and pressures from the revenue agency. In fact, in societies in which the norm is compliance, social pressure alleviates much of the burden for revenue officials and can even make these agencies popular! Sweden’s revenue agency, for instance, is the third most popular federal agency in the country. This, of course, creates a virtuous circle of tax compliance.
Of course, we can’t predict the future of tax compliance under President Trump. But given what we know about the effects of social norms on individual behavior, my suspicion is that people feel a sense of unfairness and Trump’s rhetoric about the IRS can only hurt its popularity. But most of all, honest taxpayers will feel like suckers.