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Macroeconomic Policy and Financing for Development Division +66 2 288-1234 [email protected]

Do people cheat because they can get away with it or because they feel that the rules are unfair? I examine this question in the context of tax evasion. Specifically, I incorporate taxpayer perception into a widely used consumption-based method for estimating income tax evasion. Compared to the standard method which distinguishes taxpayers only by their occupational or income type as a way of measuring their “ability” to misreport income, the refined method introduces taxpayers who may be “able but unwilling” to cheat because they feel fairly treated with respect to public services and compared to other taxpayers. Applied to a longitudinal data for Korea (2007-2015), the standard method yields a uniform tax evasion rate of 13 per cent, but the refined method provides a range of 7 to 25 per cent based on taxpayer perception. This implies that strategies for improving tax compliance must be tailored to different motivations for tax evasion.

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Macroeconomic Policy and Financing for Development Division +66 2 288-1234 [email protected]