with Christos Kotsogiannis
Abstract
This paper studies income tax evasion by self-employed households in a quantitative life-cycle incomplete-markets model with heterogeneous agents. A central innovation is that, realistically, evaded taxes are a form of contingent debt. Since evasion becomes part of a portfolio decision, intertemporal and risk considerations play a central role. Calibrated to match U.S. aggregate average measures of evasion, the model reproduces the untargeted empirical pattern of evasion by income both qualitatively and quantitatively. The decreasing profile of misreporting by reported income quantiles comes remarkably close to that documented in IRS audit data. The misreporting single-peaked profile by true income accounts for the re-ranking effect also observed in data. That undetected arrears accumulate with income and wealth is important for these results. The model also succeeds in generating evasion rates that decline with working-life age. Counterfactual experiments show that eliminating tax evasion and extending the period over which noncompliance can be audited have substantial effects on steady-state macroeconomic outcomes and welfare.
Latest version (20 August 2026) https://ssrn.com/abstract=5153855
Online Appendix (20 August 2026)
Working paper of older version - updated December 2020