How Taxing is Tax Filing? Leaving Money on the Table Because of Compliance Costs

Abstract

I use a quasi-experimental design and a novel identification strategy to estimate the burden of filing taxes. Employing a sample of US income tax returns, I observe the preferences of taxpayers when choosing between itemizing deductions and claiming the standard deduction. Taxpayers forego tax savings to avoid the hassle cost of itemizing, resulting in an average burden of itemizing of $644, with substantial heterogeneity. A revealed preference argument implies that itemizing deductions is as painful as working 19 hours. The burden of tax filing is larger for richer households, consistent with the fact that the value of time increases with income. I explore two explanations for the result. First, it could be due to an extreme aversion to filing taxes. Such aversion implies that itemizing deductions imposes aggregate hassles costs of 0.2% of GDP and back-of-the-envelope extrapolations to filing federal taxes yields an overall burden of 1.25% of GDP. Second, if taxpayers are time inconsistent they may forego large benefits even when hassle costs are relatively small due to procrastination. I provide evidence most consistent with taxpayers being present-biased. Both explanations – whether driven by preferences or mistakes – suggest that the tax filing burden is significantly larger than previously estimated. I discuss policy implications of the result.