Do Taxpayers Behave Rationally?
Here’s a link to a new USA Today article that claims tax “refunds†are on the rise. I have the word refunds in quotes because we have to use the term loosely in this context. The refunds, in this case, are those sent to taxpayers who had too much money withheld from their paychecks over the course of a year.
This phenomenon has always struck me as odd. I’ve heard the argument (and it is repeated in the article) that people simply like the idea of “forced saving.†In other words, people deliberately have too much money withheld from their paychecks because they know they will receive a refund after they turn in their tax forms.
Here’s the last paragraph of the article:
But many people love the forced savings and its reward — the fat refund — no matter how much it costs. “Taxes are so complicated people are just happy to come out ahead on April 15 rather than behind,” says Ellen Katz, editor of the Tax Savings Report newsletter.
The problem, though, is that people are not coming out ahead by doing this. They are losing money. Had they set up an automatic withdrawal from their paycheck into their own savings account, they would have been earning interest throughout the year.
I think I’m going to start a program that encourages people to send me a fraction of their paychecks every week. Then, on April 15th, I’ll give them back every cent they let me have. I’m more trustworthy than the IRS.
NM
March 22nd, 2006 at 3:06 pm
While I am not sure this while make NM totally happy, a graduate student at Clemson was doing research on what he called “offsets”. In some cases and in some states (I believe Iowa), if a person owes money (say for back child support payments), the state can confiscate (offset) the tax refund of the tax payer and transfer the refund directly to the person to whom the child support payments are owed.
Economic theory would predict that upon becoming aware of the state’s ability to snatch their refund, that the cost of having a refund increases dramatically for the tax payer who is likely to be offset, and thus the size of the refund should decrease. The student’s research shows that indeed there is a singificant decrease in the size of refunds for these people, controlling for changes in income, etc. Perhaps NM would still not like that there is any positive refund.
I am due a fat refund this year, but I am not so sure I trust NM!
–CT
March 22nd, 2006 at 5:17 pm
Trust Me!!!
March 22nd, 2006 at 8:10 pm
I am always astounded about Americans using their tax refund as extra money coming into their life. If they only realized the principle of compounding and how much they are at risk of loosing. If the average American would only realize the freedom of savings and “getting ahead” would empower them.
March 23rd, 2006 at 7:31 am
‘Forced savings’, ‘fat refund’, boy has the Fed done a great job of borrowing money interest free from the people. Sure the people would benefit more so if they were to put that money into a savings account through automatic direct deposit, but it doesn’t work that way.
We all look forward to the possibility of a refund, and make plans on how to spend the money before it comes in. Only in the last two years have I received a refund from my taxes and at best it wasn’t even enough to make any large purchases or go on an extravagant vacation.
The fed definately has a good thing going with being able to borrow up money interest free.
“The extra withholding gives the government an interest-free loan worth more than $10 billion a year, equal to about $100 per tax return.”
I just wish that I could get in on just one percent of that action!
March 26th, 2006 at 7:29 pm
My dad, a banker, read this article and turned a few shades of purple. He also would like to receive a fraction of taxpayers’ paychecks and return the money with interest come April 15. This is a no brainer. Withdraw only the tax amounts you need to break even, pad the amounts a little if you must, and save or invest the extra portion you would normally give to the IRS. With a little planning and discipline, you could have a nice little nest egg earmarked for some special future goal. Imagine if this nest egg remained untouched for several tax seasons. Of course, such financial advice would probably fall on deaf ears for the audience most targeted on this tax rationale –
low-income families who can afford to forfeit $100 plus outrageous interest to get a refund 10 days early.
November 29th, 2006 at 3:10 pm
The federal government takes half of America’s paycheck towards taxes. Everything you buy has a tax. Some people cannot wait for refund time from the government. They plan out what they are going to buy or how they are going to spend their refunds. Is it really a refund? Not really according to these sources. In my opinion, I believe the majority of the time we end up owing the federal government money.
November 29th, 2006 at 4:14 pm
Federal government takes half of America’s paycheck towards taxes. Everything you buy has a tax. Some people can not wait for refund time from the government. Plan out what they are going to buy or how they are going to spend their money. Is it really a refund? Not really according to these sources. Majority of the time we end up owing the federal government money.