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Tax Overwithholding as a Response To Uncertainty

Author

Listed:
  • Jannett Highfill

    (Bradley University)

  • Douglas Thorson

    (Bradley University)

  • William V. Weber

    (Eastern Illinois University)

Abstract

This article analyzes a basic timing problem faced by taxpayers—they must choose their levels of withholding and/or estimated tax payments before knowing exactly what their incomes and deductibles will be. Thus, the laws on withholding impose a compliance cost on taxpayers because they must pay a government-imposed penalty when they underwithhold and they must, in essence, give the government an interest-free loan when they overwithhold. The model in this article shows that when the penalty for underwithholding exceeds the opportunity cost of overwithholding, it is optimal for taxpayers to overwithhold more often than they underwithhold. Furthermore, this model is shown to substantially explam the observed withholding patterns for the U.S. individual income tax.

Suggested Citation

  • Jannett Highfill & Douglas Thorson & William V. Weber, 1998. "Tax Overwithholding as a Response To Uncertainty," Public Finance Review, , vol. 26(4), pages 376-391, July.
  • Handle: RePEc:sae:pubfin:v:26:y:1998:i:4:p:376-391
    DOI: 10.1177/109114219802600405
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    References listed on IDEAS

    as
    1. William V. Weber & Jannett K. Highfill & Mathew J. Morey, 1994. "A Cross-Country Comparison of Consumer Discount Rates," Palgrave Macmillan Books, in: Dilip K. Ghosh & Edgar Ortiz (ed.), The Changing Environment of International Financial Markets, chapter 5, pages 56-68, Palgrave Macmillan.
    2. Mark B. Cronshaw & James Alm, 1995. "Tax Compliance With Two-Sided Uncertainty," Public Finance Review, , vol. 23(2), pages 139-166, April.
    3. Loewenstein, George & Thaler, Richard H, 1989. "Intertemporal Choice," Journal of Economic Perspectives, American Economic Association, vol. 3(4), pages 181-193, Fall.
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    Cited by:

    1. Lorenzo Casaburi & Rocco Macchiavello, 2019. "Demand and Supply of Infrequent Payments as a Commitment Device: Evidence from Kenya," American Economic Review, American Economic Association, vol. 109(2), pages 523-555, February.
    2. Michael Gelman & Dan Silverman & Matthew Shapiro & Shachar Kariv, 2019. "Rational Illiquidity and Excess Sensitivity: Theory and Evidence from Income Tax Withholding and Refunds," 2019 Meeting Papers 542, Society for Economic Dynamics.
    3. Damon Jones, 2012. "Inertia and Overwithholding: Explaining the Prevalence of Income Tax Refunds," American Economic Journal: Economic Policy, American Economic Association, vol. 4(1), pages 158-185, February.
    4. Michael Gelman & Shachar Kariv & Matthew D. Shapiro & Dan Silverman, 2022. "Rational Illiquidity and Consumption: Theory and Evidence from Income Tax Withholding and Refunds," American Economic Review, American Economic Association, vol. 112(9), pages 2959-2991, September.
    5. Maria Rosaria Marino & Corrado Pollastri & Alberto Zanardi, 2022. "Withholding self‐employed and business incomes: An application to Italian firms," Metroeconomica, Wiley Blackwell, vol. 73(4), pages 1200-1216, November.
    6. Brockmeyer,Anne & Hernandez,Marco, 2016. "Taxation, information, and withholding : evidence from Costa Rica," Policy Research Working Paper Series 7600, The World Bank.
    7. Gallagher, Emily A. & Gopalan, Radhakrishnan & Grinstein-Weiss, Michal & Sabat, Jorge, 2020. "Medicaid and household savings behavior: New evidence from tax refunds," Journal of Financial Economics, Elsevier, vol. 136(2), pages 523-546.
    8. Botond Koszegi & Adam Szeidl, 2013. "A Model of Focusing in Economic Choice," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 128(1), pages 53-104.
    9. Ashvin Gandhi & Michael Kuehlwein, 2016. "Reexamining Income Tax Overwithholding as a Response to Uncertainty," Public Finance Review, , vol. 44(2), pages 220-244, March.
    10. Scott B. Jackson & Paul A. Shoemaker & John A. Barrick & F. Greg Burton, 2005. "Taxpayers' Prepayment Positions and Tax Return Preparation Fees," Contemporary Accounting Research, John Wiley & Sons, vol. 22(2), pages 409-447, June.

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