Monthly Option Might Work Better, Mr. Tax Man
The IRS estimates that about $345 billion in owed taxes go unpaid each year. A large part of this shortfall can be attributed to self-employed business owners, who are far less compliant in reporting and paying their taxes than wage-earning employees. They account for approximately 68 percent of this “tax gap.”
Curatola, along with co-author Valrie Chambers, conducted a behavioral experiment to find out if a pay-as-you-go option might be preferable to taxpayers, and produce a better result. The idea that taxpayers would be willing to pay in advance runs contrary to neoclassical economists’ theory that taxpayers would act “rationally” and, en masse, reject the opportunity to pay estimated taxes early because of the potential loss of interest they might have earned on those dollars.
Turns out many taxpayers are OK with being irrational.
“We found that when respondents were explicitly offered the opportunity to make monthly rather than only quarterly payments, the majority opted to make prepayments at least once, and had significantly fewer dollars of delinquency,” Curatola says.
Further, he offers a counter-argument to those who worry about the potential loss of interest income: “Tax problems can be a devastating threat to the self-employed business owner, in part because the IRS has the power to affix liens to financial assets including bank accounts. A smaller, more frequent payment strategy could also be a stress reducer, especially for young entrepreneurs.”
Anthony Curatola, Ph.D., is Drexel LeBow’s Joseph F. Ford Professor of Accounting. His paper, “Could Increasing the Frequency of Estimated Tax Payments Decrease Delinquency Rates Among the Self-Employed?” was published in Advances in Taxation.