Do Audits Improve Future Tax Compliance in the Absence of Penalties? Evidence from Random Audits in Norway

Abstract

The Norwegian Tax Administration conducted multi-year random audits on a specific item in the personal income tax return. We exploit this exceptional randomized setup to estimate the effects of tax audits on future compliance explicitly distinguishing between dynamic responses of compliant and noncompliant audited taxpayers. A priori, the literature has suggested two competing effects: a post-audit deterrence effect, whereby audits prompt taxpayers to comply in subsequent years, or a “bomb-crater” effect, whereby audits lower taxpayers’ subjective perception of the probability of future evasion being detected and hence weaken compliance. Our results show improved future compliance for six post-audit years by those found noncompliant in the audits, despite the absence of penalties. Although the findings are consistent with a deterrence effect, mainly stemming from being caught in wrongdoing rather than being penalized, we argue that there could also be a “learning effect” involved. An important implication of our study is that better information for taxpayers critically should complement tax audits.