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Tax Evasion, the Informal Sector, and Tax Morale in LAC Countries

Tax Evasion, the Informal Sector, and Tax Morale in LAC Countries,James Alm,Jorge Martinez-Vazquez

Tax Evasion, the Informal Sector, and Tax Morale in LAC Countries  
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It is hard for tax administrations to levy and collect taxes anywhere and any time. However, taxing certain kinds of activities, sectors, or individuals - the so-called "informal sector" - is an additional challenge for tax administrations in both developing and developed countries, and the "fiscal gap" that arises from the failure to tax this sector can be quite large. This issue is especially pressing in Latin America and Caribbean (LAC) countries, where often over half of the workforce is found in the informal sector. In this paper we examine taxation and tax compliance in LAC countries - and beyond - focusing on several main questions. What is meant by the "informal sector"? What is the size of informal sector in LAC countries? What are some effects from an informal sector, including the size of the "fiscal gap"? What are the reasons for this fiscal gap? What can be done to address these various issues? Using the size of the informal sector as a proxy for the amount of tax evasion, we find that tax evasion is quite prevalent in LAC countries, a prevalence that is due both to tax administrative problems and to a societal culture that often generates low "tax morale". Measures to combat evasion include administrative improvements consistent with the "punishment paradigm" and also with the "service paradigm" views of compliance, as well as changes in societal institutions that address tax morale.
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