Discussion paper

DP13852 Pareto-Efficient Tax Deductions

We analyze Pareto-efficient tax deduction rules for work-related expenses (e.g. housekeeping services, child care or elderly care). Pareto efficiency dictates a tight rule for how the rate of deductibility should vary with income and expenditures. An immediate implication is a recipe for designing Pareto-improving tax reforms. We apply our theory to housekeeping services in the U.S.: Introducing deduction rules such that between 55% (low expenses) and 85% (high expenses) of housekeeping services can be marginally deducted from taxable income yields a Pareto improvement if combined with a slight increase in marginal tax rates. Nobody is made worse-off and tax revenue increases by 20 Dollars per capita.

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Citation

Köhne, S and D Sachs (2019), ‘DP13852 Pareto-Efficient Tax Deductions‘, CEPR Discussion Paper No. 13852. CEPR Press, Paris & London. https://cepr.org/publications/dp13852