Tax audit uncertainty and the work-versus-leisure decision

The possibility of being audited provides an incentive for the more larceno us among us to accurately report taxable income when underreporting income carries a penally. It seems safe to assume that by increasing either the li kelihood of an income tar audit or the penalty for underreporting taxable i ncome, the tar authority can reduce the extent to which conscious cheating takes place. That seemingly safe assumption, however; becomes much less so when the linkage between posttax income and the work-versus-leisure decisio n is taken into account This article explores the ubiquitous and confoundin g effects on both reported income and work effort for non-risk-preferring t axpayers of changes in the audit probability, the sanction rate, the tar ra ts and taxpayer wealth. Ir is shown that contrary to intuition and popular wisdom, raising the audit probability or the sanction rare will not necessa rily lead to higher reported incomes, and neither increases in the far rate nor greater taxpayer wealth will necessarily encourage increased leisure.