Disentangling Financial Constraints, Precautionary Savings, and Myopia: Household Behavior Surrounding Federal Tax Returns

Abstract

We explore household consumption surrounding federal tax returns filings and refunds receipt to test various theories of consumption. Because uncertainty regarding the refund is resolved at filing, precautionary savings theory predicts an increase in consumption at this date. Contrary to this prediction, we find that households generally do not increase consumption at filing. Following the receipt of the refunds, consumption of both durables and nondurables increases dramatically and then decays quickly. Our results show that households, on average, are financially constrained, exhibit myopic behavior, and do not respond to precautionary savings motives.

The measurement of household consumption expenditures

“…Kuchler's administrative data have a more important advantage: She can use information on financial balances, observed at the same daily frequency as the expenditure data, to rule out other possible explanations of consumption expenditure such as short-term credit constraints. Baker (2013) and Baugh et al (2014) obtained data sets from online personal financial aggregator services. These websites connect their users' financial accounts, allowing users to see summaries of their income, spending, debt, and financial investments in a single location.…”

“…In both papers, detailed disaggregated expenditure measures are constructed from the payment transaction data, the general approach being similar to that used by Kuchler (2013). Both Baker (2013) and Baugh et al (2014) address the question of whether and by how much households react to income shocks.…”

“…Baker illustrates nicely how administrative data can be enriched by linking them with outside information, which in this case is publicly available, using automated matching algorithms. Baugh et al (2014) consider a different income shock, cash flows from tax returns.…”

“…The date of the tax refund receipt can be observed in the financial account data as well. With these data, Baugh et al (2014) can study households' spending reactions to the information and cash flow events separately. The key feature of the administrative data here is that they not only provide precise high-frequency observations on expenditures, but also allow researchers to precisely date various cash flow events.…”

“…For some purposes, such limited data might be sufficient (as in Baker 2013, Kuchler 2013, andBaugh et al 2014). Deriving a measure of, for example, total household expenditure from administrative data is possible, as the Danish and Swedish examples show, but the comprehensive data that are needed exist only in a few countries.…”