1997 JATA Conference Tax Policy Research

Volume 19, Supplement

The Effect of Tax Policy on Charitable Contributions: The Case of Nonitemizing Taxpayers

Amy Dunbar and John Phillips


This research examines the effectiveness of the nonitemizer charitable deduction in 1985 and 1986 to provide insight on the impact of tax policy on the philanthropic behavior of taxpayers who do not itemize deductions. Besides helping resolve a conflict in prior research concerning the deduction’s effectiveness, evaluating this tax provision provides policy makers with evidence that could assist in the design of charitable contribution provisions that may apply to nonitemizers in the future. Using data from the 1985 and 1986 SOI Model Files, we first estimate the traditional levels model of giving for both years and find evidence consistent with the nonitemizer provision stimulating giving in both years. Next, we estimate Broman’s (1989) changes model for a common panel of nonitemizers and provide evidence supporting the argument that the nonitemizer provision was an efficient tax subsidy. The evidence also suggests that the elimination of the limitation on the nonitemizer deduction in 1986 stimulated additional giving and prompted 1985 nongivers to become givers in 1986. Our results are robust to alternative explanations of tax planning and evasion behavior.

Costly False Detection Errors and Taxpayer Rights Legislation: Implications for Tax Compliance, Audit Policy and Revenue Collections

Shelley Rhoades


In July 1996, Congress passed the Taxpayer Bill of Rights 2 (T2). T2 resulted from a series of initiatives aimed at protecting honest taxpayers, particularly those affected by Internal Revenue Service (IRS) enforcement actions. This study incorporates taxpayer rights considerations into a strategic model of reporting and auditing, and examines the effect of false detection and costly error correction on taxpayer equity, tax evasion, and revenue collections. The model also considers proposals to shift honest taxpayer costs to the tax authority. The study finds that: (1) tax evasion can be deterred completely, but only at honest taxpayers’ expense, (2) costly false detection errors increase tax authority revenue collections in some cases, and (3) although tax authority reimbursement of honest taxpayer costs can restore equity, it also may increase evasion, producing additional revenue loss. These results highlight the trade-off between detecting evasion and protecting taxpayers’ rights. The study also provides insight to policy makers for balancing taxpayers’ rights, revenue needs, and cost considerations.

The Capital Gains Tax and Stock Market Returns

Robert Ricketts and Craig White


This paper discusses the impact that investor reaction to changes in capital gains tax rates may have on pre-tax market returns and, therefore, accrual of future taxable capital gains. Since investors focus on after-tax returns, market forces should work to maintain relatively stable after-tax returns, taking into account differences in risk and changes in economic conditions. This study analyzes monthly pre-tax rates of return in the Dow-Jones Industrial Average, S&P 500 Composite Index, and NASDAQ Composite Index during periods covered by the Revenue Act of 1978, Economic Recovery Tax Act of 1981, and the Tax Reform Act of 1986. The maximum capital gains tax rate in each of these periods was 28, 20, and 28 percent, respectively. Accordingly, we would expect returns to be higher during the pre-1981 and post-1986 periods, when capital gains tax rates were highest. Our results are consistent with these expectations, however, only for returns on the NASDAQ index. For the S&P 500 index, returns were higher in the pre-1981 period than in the 1981-1986 period, but differences between 1981-1986 and post-1986 returns were not statistically distinguishable at generally accepted levels of confidence. No statistically distinguishable differences were observed across any of the periods tested on the Dow-Jones index.

Transfer Pricing and the Persistent Zero Taxable Income of Foreign-Controlled U.S. Corporations

Julie Collins, Deen Kemsley, and Doug Shackelford


Grubert, Goodspeed, and Swenson (1993) document a persistence of foreign-controlled domestic corporation taxable income around zero which has been interpreted by many, including tax policymakers, as suggesting transfer pricing. We examine foreign-controlled domestic corporations (FCDCs) within the wholesale trade industry from 1981 to 1990 to determine if this prevalence of near-zero taxable income is linked to manipulation of transfer prices on inventory purchases. We find no difference in the relation between sales and gross profit between near-zero FCDCs and near-zero control companies that are uncontaminated by cross-jurisdictional income shifting manipulation. Our inability to document transfer price manipulation by investigating an industry and the accounts where manipulation is alleged to be most egregious suggest that previous inferences of transfer price manipulation based on the persistence of foreign-controlled U.S. corporation taxable income around zero are premature.