Under the Radar: The Effects of Monitoring Firms on Tax Compliance

This paper analyzes the effects of size-dependent tax enforcement on firms' tax compliance. We exploit quasi-experimental variation generated by a Large Taxpayers Unit (LTU) in Spain, which monitors firms with more than (sic)6 million in reported revenue. Firms strategically bunch below the eligibility threshold in order to avoid stricter tax enforcement. The response is stronger in sectors where transactions leave more paper trail, suggesting that monitoring effort and the traceability of information reported by firms are complements. We estimate that there would be substantial welfare gains from extending stricter tax monitoring to smaller businesses.