Journal Issue
Working Paper Summaries (WP/93/1 - WP/93/54)

Summary of WP/93/21: “A Primer on Tax Evasion”

International Monetary Fund
Published Date:
August 1993
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Tax evasion is a universal phenomenon that has existed for thousands of years. It occurs in such forms as the nondeclaration or underreporting of income, sales or wealth; overreporting of deductible expenses; smuggling activities; or any number of other ways. Opportunities to evade taxes vary according to the type of income earner (professionals and independent contractors versus wage earners); structure of the economy (agriculture and commerce versus industry, or large enterprises and establishments versus small shops and operators); and structure of the tax system (number of taxes, level of tax rates, dependent versus nondependent income sources, accounting concepts of tax liabilities, withheld final taxes versus a global tax structure based on declarations).

Although tax evasion has received little attention in the post-Second World War literature on public finance, it has recently been resurrected as a control instrument for reducing the fiscal deficit. It is also receiving more attention as a result of an increasing concern about underground economic activities and their ramifications for economic policies.

The theory of tax evasion has many limitations since it is heavily dependent on assumptions about the attitude toward risk and on knowledge of the probability of detection (with full applicability of the penalty laws). In reality, tax evasion may be influenced by many other factors. The probability of detection is kept confidential by the tax administration. Also, the penalties may not be fully applied if tax evasion is widespread.

Various countries have recently attempted to develop methods that will help them estimate tax evasion. These include estimating the size of the underground economy or the amount of cash held in the economy and comparing the value of a particular tax declared to the tax administration with potential revenue from that tax calculated on the basis of the national accounts and the input-output matrix. The latter method, currently being used by selected country authorities, has been often used and refined by IMF tax missions.

Countries vary widely in the share of resources they allocate to tax administration and in the share of those resources in total tax collection. Tax administration plays an important role in determining the level of tax evasion. A tax administration, like an efficient firm, given its budget, should maximize output--that is, tax revenue--while ensuring equitable treatment of taxpayers and minimizing compliance costs. Among the instruments a tax administration has at its disposal to address evasion are withholding; presumptive and minimum taxes; selective auditing; penalties and sanctions; and controls that allow for cross checks between, for example, the value-added tax (VAT) and customs information or the VAT and income tax.

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