Tax Avoidance and the
Deadweight Loss of Income Taxes
[An abridgement of an article published in
Review of Economics and Statistics, November 1999]
Income taxes are an important source of government revenue, but do
have negative consequences. Previous estimates have stated that for
every dollar raised in tax revenue, there is an efficiency loss of 2.5
percent. However, a recent study says these previous estimates do not
consider the effect of tax rates on tax avoidance -- that is, engaging
in legal non-taxable behavior such as accepting health benefits
instead of salary, taking more leisure time, and being less
productive. As tax rates rise, tax avoidance becomes more severe.
The study estimates that:
- The efficiency loss from current income taxes is more than 30
- If Social Security taxes are included, there is a 50 percent
- A 10 percent increase in taxes would raise revenue by only $21
billion, while reducing efficiency by $44 billion.
The study finds that these conditions are aggravated because of the
progressive tax structure of the U.S. tax code.