State Income Tax Compliance

Abstract

In this chapter I extend previous results on specific and general deterrence of IRS enforcement on federal individual income tax to the specific and general deterrence effects of enforcement on state income taxes. The possibility that increased enforcement of the federal income tax through audit or criminal investigation could spill over to state income tax compliance was initially recognized in DGW (1988). This proposition has not previously been tested empirically. The preponderance of states have state income taxes in one form or another and there is typically an explicit relationship between taxation at the federal and state levels. In some cases this connection may be as simple as a state using the federal income tax base as its measure of state taxable income. In other cases, only some income items are subject to taxation and the federal adjusted gross income is specifically adjusted before state taxes are applied. In almost all cases there is an overlap between the federal and state income tax computation including assembling information required to prepare the return. Finally, as discussed in DGW taxpayers will generally presume an enforcement connection between state and federal returns and that there is a relationship between the probability of audit at the federal and state level.