Individual morality and reputation costs as deterrents to tax evasion

Abstract Empirical evidence suggests some taxpayers never evade, evasion increases with the tax rate, and evasion decisions are interdependent. These findings are not easily explained by the existing theory which models evasion as an independently-made amoral gamble. This paper uses nonpecuniary costs of evasion to reconcile theory with evidence. Once individuals are assumed to differ by an honesty characteristic, taxpayers dichotomise into groups, the more honest of which responds to a tax change as the evidence suggests. A further extension is to introduce an endogenous reputation cost. This suggests a positive relationship between the number of evaders and the tax rate.