Tax Bunching , Income Shifting and Self - employment

This paper proposes a dynamic extension to Saez (2010) bunching formula that allows us to distinguish bunching based on real responses and income shifting. We provide direct evidence of income shifting and pronounced bunching in taxable income for the case of Danish self-employed. If income shifting was neglected in this case, we would conclude that taxable incomes were highly sensitive to changes in marginal tax rates. We show, however, that more than half of the observed bunching in taxable income for the self-employed is driven by intertemporal income shifting, implying a structural elasticity in the range of 0.14-0.20. Keywords: Self-employment, tax bunching, retained pro…ts, tax avoidance, income shifting. JEL-Classification: H20, J20. We thank Raj Chetty, Mette Ejrnæs, John Friedman, Fedor Iskhakov, Claus Thustrup Kreiner, Søren LethPetersen, Tore Olsen and John Rust for valuable comments and insightful discussions. We thank the Centre for Applied Microeconometrics for providing access to the data. Financial support from The Danish Council for Independent Research in Social Sciences (FSE) and the Economic Policy Research Network (EPRN) is gratefully acknowledged. yDepartment of Economics, University of Copenhagen, Øster Farimagsgade 5, building 26, DK-1353 Copenhagen K, E-mail: [email protected] zDepartment of Economics, University of Copenhagen, Øster Farimagsgade 5, building 26, DK-1353 Copenhagen K, E-mail: [email protected]