Determinants of Tax Compliance
Many studies on tax compliance focus on exploring the determinants of tax compliance.
The majority of the studies focuses on tax enforcement i.e. tax audits and penalties, which are
those that matter in the traditional approach. The others investigate alternative factors such as
positive incentives, tax amnesties, attitudes and perceptions toward tax systems, tax rates, actual
income levels, and demographic characteristics. All of these studies attempt to understand the
determinants of tax compliance in order to find ways to improve tax administration to achieve
higher tax compliance. However, there is still no systematic study about these determinants in
Thailand.
A. Tax Audits
Tax audits are very popular issues in tax compliance research. Audit probability, audit
productivity (fraction of unreported income discovered), and prior audit notifications are those of
interests to scholars. It is expected that higher audit rates will increase compliance (Alm, 1999).
According to the compliance lottery view or expected utility theory, if audit probability and
productivity are higher, the expected loss of being caught will be higher. As a result, taxpayers
will report a larger amount of income (Allingham & Sandmo, 1972). The studies that use TCMP
data such as Witte and Woodbury (1985), Dubin and Wilde (1990) and surveys such as Kinsey
(1992), Shreffinn and Triest (1992) support this hypothesis reporting that compliance is higher
when audit rates increase. Experimental methods also yield the same results as reviewed by Alm
(1999, p. 756) with the estimated reported income-audit rate elasticity ranging from 0.1-0.2.
Alm and McKee (2006) come up with very interesting findings. They use experimental
method to examine individual compliance responses to advance information on audit probability
and productivity. Productivity of audits refers to how much unreported income will be
discovered via audits. The findings suggest announcement increased compliance for people who
know they will be audited, but reduced compliance for those who will not be audited. The overall
compliance actually falls with advance notification of audits. The results are interesting in the
sense that telling taxpayers exactly what will happen to their reports might not always yield a
positive outcome.
Recently, Alm, Jackson, and McKee (2009) use laboratory experiments to examine the
compliance impact of types of information dissemination (formal information by the tax
authority and informal communication among taxpayers) regarding audit frequency and results.
Pre-announcing audit rates credibly and emphasizing the previous period audit frequency in
annual reporting of enforcement effort become important tools that tax authority could pursue to
achieve higher compliance. Another finding is that informal communication will only be
effective with presence of official announcement of audit rates.
B. Penalties
Again, it is expected from the compliance lottery view that higher penalties will increase
compliance. Alm (1999, p. 756) reports that compliance increases only slightly with an increase
in penalty rate i.e. the income-fine rate elasticity of less than 0.1. The review by Kirchler,
Muehlbacher, Kastlunger, and Wahl (2007) suggests that several studies found no support for the
increase of tax compliance from higher penalties.
According to Mikesell and Birskyte (2007, p. 1064), the impact on compliance of
penalties is much lower than the audit rates for two major reasons. First, there are political and
social constraints in imposing high penalties. Second, penalties are only effective when
accompanied with higher probability of audits. Increasing fine rates means very little if tax
authority does not enforce those penalties more strictly. Furthermore, from the responsible
taxpayer view, higher penalties might not always yield positive outcomes and could discourage
voluntary compliance. Kirchler et al. interestingly conclude that:
On the one hand, fines should be high enough to decrease the expected value of tax evasion and to
assure its deterrent effect on taxpayers. On the other hand, if fines are too high, the tax system would
be perceived as unjust and unfair and taxpayers would use any possibility to legally avoid their taxes.
(Kirchler, et al., 2007, p. 15)
C. Positive Incentives
The perspective of tax compliance scholars have shifted toward more positive incentives
for tax compliance instead of focusing only at deterrence of noncompliance through detection
and punishment (Slemrod, 1992). Slemrod emphasizes the trend of using “carrot” rather than
“stick” in solving tax compliance issues. Experimental studies report higher compliance with the
use of positive rewards. Alm, Jackson, and McKee (1992) use laboratory experiments to
investigate the compliance effects of enforcement efforts (i.e., audit rate and penalties) and
positive incentives (lottery prize, fixed reward, future audit reduction, and the increase in public
good). The results suggest that both enforcement efforts and positive incentives help increase
taxpayer compliance. Positive incentives, in particular, must be immediate and salient to have a
significant effect on taxpayer compliance. Taxpayers are qualified for rewards only if they fully
comply. Therefore, compliance rates are shifted for those taxpayers from very low rates to very
high rates.
D. Tax Amnesties
Tax amnesties could be considered another measure to increase tax compliance for both
intentional and unintentional noncompliant taxpayers. According to Andreoni et al. (1998), tax
amnesties have been used by 33 of 50 states to give chances for noncompliant taxpayers to
voluntarily pay their back taxes without criminal investigation and penalties. Tax amnesties have
raised significant amount of revenues for many states such as $401 million for New York and
over $100 million for California, Illinois, Michigan, and New Jersey (Andreoni, et al., 1998, p.
853). Conversely, tax amnesty could be perceived as increasing opportunity for tax evaders to
evade more if provided too often. Alm et al. (1990) suggests two major interesting results from
their experiments. First, tax amnesty could lower post-amnesty compliance because intentional
compliant taxpayers expect future amnesties. Second, increase in post-amnesty enforcement
effort (e.g., penalties) could reduce that reverse affect and could actually increase post-amnesty
compliance better than just increasing enforcement alone.
. Attitudes and Perceptions toward Tax Administration
Attitudes and perceptions toward the tax administration also affect tax compliance
decisions (Shreffinn & Triest, 1992). There are three major types of attitude and perception that
affect tax compliance decisions: 1) procedural fairness of tax systems and government
administration, 2) quality of government services, 3) social norms about tax evasion.
Procedural fairness is important in tax systems and government administration because it
gives taxpayers justifiable reasons for paying their share of taxes. According to Tyler (1997, p.
1), procedural fairness gave the people feelings of obligation that they should obey group rules
because they are legitimate and entitled to be obeyed. In seeing that everyone is treated equally,
procedurally fair, and in a respectful manner, the social norms against tax evasion and trust in
government are strengthen (Hanousek & Palda, 2004; Slemrod, 2003; Torgler, 2003). Procedural
fairness in tax systems and government administration lead people to believe that fair procedures
will lead to fair distribution (Thibaut & Walker, 1975). Thus, procedural fairness creates positive
attitudes and perceptions toward tax systems and government administration that help promotes
taxpayer compliance.
As well as procedural fairness, responsive service is effective for increasing compliance
via positive attitudes toward tax administrators and tax systems (Smith, 1992). Hanousek and
Palda (2004) found strong evidence that the quality of government services affect tax compliance
decision. If taxpayers perceive that they are not receiving justifiable quality government services
for their tax money, they will avoid taxes. From this perspective, taxpayers avoid tax because
they believe the government is inefficient and unresponsive to their needs. Thus, citizens’
willingness to comply and pay taxes depends upon the quality of government services. Providing
faster and better quality services will help increase taxpayer compliance.
In addition to procedural fairness and responsive service of tax systems and government
administration, social norms about tax evasion influence taxpayer compliance decisions.
Particularly, social norms determine the degree to which tax evasion is perceived as acceptable
behavior in the society. Negative publicity of noncompliance, for example, might increase tax
evasion because of the change in social norm that noncompliance becomes acceptable behavior
in the society (Shreffinn & Triest, 1992). Seeing other people evade taxes send the signal to
taxpayers that tax evasion becomes more acceptable, neglected by the government, and
unfortunately is the norm (Alm, 1999).
Procedural fairness, responsive service, and social norms are attitudes and perceptions
that ultimately affect trust in government. Higher trust in government is associated with higher
tax compliance (Hanousek & Palda, 2004; Slemrod, 2003; Torgler, 2003). Therefore, it is very
crucial for the government to be procedurally fair, be responsive and maintain social norms
against tax evasion.
F. Tax Rates
According to Alm (1999, p. 753), empirical findings suggest that higher tax rates lead to
less compliance with underreported income-tax rate elasticity ranging from -0.5 to -3.0. This
could be interpreted that higher tax rates increase the gains from cheating from the compliance
lottery view. However, it does not make much sense to lower marginal tax rates in order to
reduce tax evasion. Tax rate should be designed based on efficiency and equity concerns
(Sandmo, 2005).
G. Actual Income Levels
The positive relationship between actual income and tax compliance are general
theoretical expectation. Alm et al. (1992) report that higher income leads to higher reported
income, with an estimated reported income-income elasticity between 0 and 1 in empirical
evidences and roughly ¾ in experimental results. However, Kirchler, et al., (2007) review the
evidences on a direction of relationship between actual income and tax compliance and found
that the evidences are mixed. Some report a positive relationship between actual income and tax
compliance (See, for example, Alm et al., 1992; Christian, 1994; Fishlow & Friedman, 1994)
while others report a negative relationship (See, for instance, Baldry, 1987; Collins & Plumlee,
1991; Slemrod, 1985) or even no relationship (See Feinstein, 1991; Kirchler, et al., 2007).
H. Demographic Characteristics
The TCMP data suggests that younger, single, and self-employed people tend to have less
compliance. Experimental studies also find that younger people are less compliant. And, females
are more compliant than males (Alm, 1999; Andreoni, et al., 1998). Younger people might have
a more limited knowledge about tax obligation, as they are just starting their careers, and lower
senses of citizenship. Single people might have lower compliance because they might perceive
the tax systems as less fair because they are eligible to lower deductions than those with families.
The income of self-employed people cannot be easily audited hence they are more likely to be
less compliant. Female is believed to be more responsible than male at the same age so they may
be more compliant.
Then, the two major views of tax compliance were discussed. One is the traditional utility
maximization approach that taxpayers weight expected gains and losses from noncompliance,
which assuming people pay taxes primarily because the fear of punishment therefore
enforcement and penalties are needed for compliance. The other is the alternative approach of
responsible taxpayer view that believes people will pay taxes if they are motivated and
understand their obligations, including when it is convenient to do so. Both views are necessary
to understand tax compliance decision as those decisions are not made solely on monetary basis
or moral basis but on both.
In studying the determinants of tax compliance, the three major research methods are
employed: historical data, surveys, and experimental studies. Each research method has different
strengths and weaknesses that scholars choose to employ different methods to confirm various
aspects of tax compliance issues. Important factors that affect tax compliance suggested by the
literature are audit rates, penalties, positive incentives, tax amnesties, attitudes and perceptions
toward tax administration, tax rates, actual income levels, and demographic characteristics. More
attention was given to enforcement via audits and penalties, in which many scholars
studied the effects of the probability of audits and fines on tax compliance. Although less
attention was given to incentives and softer motivational strategies such as making the tax
system fair and convenient to improve tax compliance, it is on the rising trend. Nonetheless,
there is no comprehensive study about these determinants in Thailand. The next chapter presents
hypotheses in exploring tax compliance perceptions and determinants in Thailand and describes
the research methods used to test these hypotheses.
