Did PCAOB rules on ethics,independence, and tax services influence financial reporting for income taxes?

The PCAOB Rules on Ethics, Independence, and Tax Services prohibited accounting firms from providing aggressive tax-position transactions to their audit clients. We exploit this setting to examine whether the scrutiny of the PCAOB affects companies’ financial reporting for income tax accounts. We find robust evidence that the overall quality of the income tax accrual increased after companies significantly reduced auditor-provided tax service (APTS) fees in response to the regulation. We show that this improvement is a function of companies’ pre-regulation tax aggressiveness. In addition, we find evidence that after the fee reductions, tax-aggressive companies increased financial statement reserves for uncertain income tax positions without changing tax-aggressive decisions. Overall, our findings are consistent with an improvement in the financial reporting for income taxes under regulatory scrutiny which is more pronounced for companies that were tax aggressive in the pre-regulation period.     

The relation between aggressive financial reporting and aggressive tax reporting: Evidence from ex-Arthur Andersen clients

We investigate the economic trade-offs managers face due to conflicting incentives to report high financial statement book income and, at the same time, report low taxable income. Our setting involves Houston clients of Arthur Andersen (AA), who have been shown to exhibit a culture of aggressive financial reporting. Using our sample of AA Houston clients, we test two competing theories: (1) firms which have a culture of aggressive financial reporting are also aggressive in their tax reporting, versus (2) firms which are willing to pay real dollars (taxes) to report higher financial statement earnings. We do not find support for either theory. Instead, our findings suggest a middle-ground: firms may exhibit a culture of aggressive financial reporting without impacting their relative tax reporting. Our findings not only shed light on the intersection of financial and tax reporting, but they also add to the extant literature involving the culture of AA. To the best of our knowledge, this is the first paper to investigate the tax ramifications of AA’s culture of aggressive financial reporting.     

Corporate domicile and average effective tax rates: The cases of Canada,Japan, the United Kingdom,and the United States

We use financial statement information to estimate three alterantive average effective tax rates for firms domiciled in Canada, Japan, the United Kingdom, and the United States during the period 1982 to 1991. While many of the firms we examine operate worldwide, we use the termdomicile to refer to the legal residence or site of incorporation of the parent company. Our objective is to determine themarginal impact of a company's domicile on its worldwide tax burden, with controls for industry and year. We find both among domestic-only companies and among multinational companies the domiciles are consistently ranked in descending order by average effective tax rates as Japan, the United Kingdom, the United States, and Canada. In comparing domestic-only companies and multinationals domiciled in the same jurisdiction, only U.S. multinationals consistently face a greater tax burden than their domestic counterparts.     

Do auditors constrain intertemporal income shifting in private companies?*

This study investigates the association between private company auditing and intertemporal income shifting. Using a large reduction in the Finnish corporate tax rate as a strong incentive for income shifting and financial statement data coupled with proprietary information from the tax authorities, we analyse accruals and cost stickiness of small private companies. Our results reveal significant differences in accrual income shifting between audited and unaudited companies, but only among companies that on average could anticipate the tax reduction the most. Further, we find auditors to restrict sticky selling, general, and administrative cost behaviour that we hypothesise is associated with illegal actions. Additional tests expose a nontrivial number of incorrectly unaudited companies which are the ones mostly associated with income shifting. Taken together, our study highlights the effects of audit exemption and the importance of enforcement while also suggesting that the audit process is value adding for the tax authorities.     

Minimum tax legislation and its effect on corporate financial reporting: A comparative analysis between US and India: a discussion

In this study, the authors investigate imposing a minimum alternative tax (MAT) on Indian corporations during the 1996–1997 budget years. The authors have two objectives: to assess the new legislation's impact on tax revenue, and to determine how corporations responded to its imposition because of its explicit link to financial reporting. They first assess whether, on average, firms with low estimated tax rates before the imposition paid higher taxes after imposition and find, overall, that corporations paid, in total, a greater amount of their income in taxes. They also find that the largest firms in their sample experienced a smaller increase in their effective tax rates than smaller firms did. Next, they assess whether MAT-affected firms altered their financial statement reporting to reduce exposure to the MAT. Specifically, they assess whether a greater portion of MAT-affected firms changed their financial statement depreciation policies than non-MAT-affected firms. They report that, for their sample, a significant number of MAT-affected firms increased their depreciation rate after MAT imposition. The proportion of non-MAT-affected firms changing depreciation rates after imposition was not significant. They also partition MAT- and non-MAT-affected firms on increasing or decreasing book profit and find that MAT-affected firms made proportionally more changes. The authors conclude that the MAT appeared to have increased horizontal equity among taxpayers in India, but its tax revenue enhancement potential is limited by its scope, limited applicability, and avoidance behavior by affected corporations. My comments are directed at what I perceive to be motivational and methodological issues in the paper and the conclusions we can draw from the current representation.     

Using Financial Accounting Data to Examine the Effect of Foreign Operations Located in Tax Havens and Other Countries on U.S. Multinational Firms' Tax Rates

This paper investigates the effect tax havens and other foreign jurisdictions have on the income tax rates of multinational firms based in the United States. We develop a new regression methodology using financial accounting data to estimate the average worldwide, federal, and foreign tax rates on worldwide, federal, and foreign pretax book income for a large sample of U.S. firms with and without tax haven operations. We find that on average U.S. firms that disclosed material operations in at least one tax haven country have a worldwide tax burden on worldwide income that is approximately 1.5 percentage points lower than firms without operations in at least one tax haven country. Our results also show that U.S. firms face a 4.4% current federal tax rate on foreign income whether or not they have tax haven operations. Finally, we find that U.S. firms with operations in some tax haven countries have higher federal tax rates on foreign income than other firms. This result suggests that in some cases, tax haven operations may increase U.S. tax collections at the expense of foreign country tax collections.     

Where do firms manage earnings?

Despite decades of research on how, why, and when companies manage earnings, there is a paucity of evidence about the geographic location of earnings management within multinational firms. In this study, we examine where companies manage earnings using a sample of 2,067 U.S. multinational firms from 1994 to 2009. We predict and find that firms with extensive foreign operations in weak rule of law countries have more foreign earnings management than companies with subsidiaries in locations where the rule of law is strong. We also find some evidence that profitable firms with extensive tax haven subsidiaries manage earnings more than other firms and that the earnings management is concentrated in foreign income. Apart from these results, we find that most earnings management takes place in domestic income, not foreign income.     

Creating a Bigger Bath Using the Deferred Tax Valuation Allowance

Abstract:  The provisions of SFAS No. 109 allow US companies to make an earnings big bath even bigger through the establishment of a deferred tax valuation allowance. At the time a firm recognizes a non-cash charge, it also recognizes a deferred tax asset to represent the future tax benefits of the charge. Recognition of the deferred tax asset partially mitigates the negative earnings impact of the special charge. However, if the firm does not expect to have sufficient future taxable income to utilize the future tax benefits of the charge, SFAS No. 109 requires the firm to establish a deferred tax valuation allowance, effectively eliminating the recognized deferred tax asset. Thus, the establishment of the valuation allowance amplifies the negative earnings impact of the non-cash charge. We use a valuation allowance prediction model to identify firms that create a larger-than-expected valuation allowance; these firms may be creating a large valuation allowance as a reserve to be used to manage earnings in a subsequent period. We find that the vast majority of these larger-than-expected valuation allowances apparently reflect informed management pessimism about the future in that these firms actually do have poorer operating performance in subsequent periods. We do not find any evidence that subsequent reversals of valuation allowances are used to turn a loss into a profit. However, we do find a very small number of firms that appear to have used a valuation allowance reversal to meet or beat the mean analyst forecast.     

Should Firms Going Public Enjoy Tax Benefits? An Analysis of the Italian Experience in the 1990s

In Italy tax benefits are granted to firms going public. However, does such tax relief really reduce the corporate tax burden? In this study we tackle the issue by considering 21 industrial firms that were listed on the Italian Exchange from 1995 to 1997 and enjoyed a temporary tax rate cut‐off. We find that the increase in the taxable income reported by these firms largely counterbalances the effect of the tax relief. We conclude that a tax rate cut‐off may not necessarily provoke a reduction in the tax burden for newly listed firms, since in the short term they report larger earnings compared with privately‐owned companies. We claim that this ‘induced’ effect is mainly due to: the significant improvement of operating performance in the year of the listing; the reduction of the debt tax shield; an increase in investment and more accounting transparency. Our findings suggest that tax relief for IPO firms does not necessarily mean a loss of revenue for the government.     

Value Relevance of Comprehensive Income for the Canadian Market*

The value relevance of comprehensive income (CI) compared to net income (NI) remains unresolved. We look at this issue in the Canadian market, using association methods to determine the value relevance of reporting CI and other comprehensive income (OCI) components for stock prices and returns. The sample consists of all the firms in the S&P/TSX Composite Index that prepared their financial statements according to Canadian standards or International Financial Reporting Standards (IFRS) over the 2008–2016 period. Although we find no evidence that CI is more value relevant than NI for stock prices and returns, we note that some OCI components are incrementally value relevant beyond NI for both amounts. In addition, financial services firms differ from other companies in terms of the relationships between some of their OCI components and prices or returns, with such firms even driving some relationships. Relationships between OCI components and prices or returns are also affected when data from the financial crisis period are excluded, with some relationships even changing after IFRS adoption. These results inform Canadian standard setters and financial statement users that OCI components are decision useful for the Canadian market.     

Voluntary disclosure of operating income

This study investigates whether New Zealand firms’ voluntary disclosure of operating income, which is also known as earnings before interest and tax, in the income statement is related to the investment opportunity set. New Zealand provides an ideal setting to examine this because New Zealand generally accepted accounting principles do not require the disclosure of operating income as an intermediate income number in arriving at net income (earnings) in the income statement. We hypothesize and find evidence that firms with high assets‐in‐place and high leverage are more likely to voluntarily disclose operating income/earnings before interest and tax. However, the assets‐in‐place finding is sensitive to alternative measures of the investment opportunity set.     

Estimation of Tax Values Based on IFRS Information: An Analysis of German DAX30 and Austrian ATX Listed Companies

Although tax values of corporate assets and liabilities could provide useful information for various economic decisions, they are typically unknown to financial statement users. Additional corporate tax information has been repeatedly claimed. We analyse whether tax balance sheets can be reconstructed using tax information provided by consolidated IFRS accounts. Our results suggest that, for DAX30 firms, the most important differences between IFRS and tax reporting occur for intangibles and provisions. For ATX companies, diverging IFRS and tax rules relating to fixed assets and provisions are the main cause for IFRS–tax differences. We find evidence that book values reported in IFRS balance sheets are generally higher than tax values. Only in connection with inventories, we observe that the median of estimated tax values is higher than IFRS-book value for both Austrian and German groups. We also try to estimate the total stock of unused tax losses because it offers information about a company's potential loss offsets and future tax payments. Our analyses show that estimated values of tax losses often do not differ substantially from the actual stock of tax losses. Due to several methodological and practical problems, we conclude that, especially for multinationals, reconstructed tax balance sheets should be critically scrutinised.     

The Diffusion of Tax Effect Accounting in Australia

This paper examines the impact of regulation and earnings management incentives on the evolution of tax effect accounting in Australia. Following the release of the first accounting standard on the issue the method spread roughly equally throughout the mining and industrial sectors. Amendments to the standard, which loosened the recognition criteria for tax loss carry forwards, led to a significant increase in the proportion of companies (particularly industrials) adopting income tax allocation. Subsequent amendments restricting such carry forwards were associated with a significant decline in the proportion of companies allocating tax (particularly miners). We also observe differential financial statement effects between mining and industrial companies and, within both sectors, differential financial statement effects across time. Consistent with the arguments of Leppinus (1977) and Gibson (1984) the adoption of tax effect accounting is, on average, earnings enhancing in the post-DS4 period. However, in the pre-DS4 period, adoption was just as likely to reduce income for industrial companies as it was to increase it. In contrast, adoption was almost uniformly earnings reducing for mining companies. Thus something other than an earnings management hypothesis is needed to explain the voluntary adoption decision of the early (pre-DS4) adopters. We conjecture on the alternatives.     

有效预警上市公司违规的递延所得税异动指标和人工智能模型

2000-2017年,3434家A股上市公司样本中的47.79%至少有一次违规记录,每年平均有17%的公司违规,而监管机构平均需要2.7年查证并通告违规行为。我们用当年数据构建递延所得税异动指标,可有效预判违规,并发现监管机构未能识别这一指标的警示作用,实际激励了违规公司通过操纵递延所得税提高财务指标以规避稽查。进一步构建决策树模型,对违规事件实现样本外精准判别。本文揭示了A股公司大面积违规而稽查过程冗长迟缓这一重要现象,并分析了违规机制,指出了所得税数据在稽查违规中可以发挥的预警作用,为监管者和投资者提供有效预警上市公司违规行为的新指标和方法。     

An Empirical Investigation of the True and Fair Override in the United Kingdom

Abstract:  The True and Fair View concept requires companies to depart from GAAP or the law if necessary to present a true and fair view of the corporation's financial affairs. We analyze UK public companies invoking a true and fair override to assess whether overrides are associated with weakened performance, earnings quality and informativeness. We find quantified overrides increase income and equity significantly, and firms that invoke more costly overrides report weaker performance. We also find that firms invoking the most costly overrides have less informative financial statements than control firms, and lower earnings quality. In contrast, firms invoking less costly overrides do not exhibit weaker performance, less informative financial statements or weaker earnings quality. These findings are relevant for the debate on principle- vs. rules-based accounting.     

Firms' Off-Balance Sheet and Hybrid Debt Financing: Evidence from Their Book-Tax Reporting Differences

We match large U.S. corporations' tax returns during 1989–2001 to their financial statements to construct a firm‐level proxy of firms' use of off‐balance sheet and hybrid debt financing. We find that firms with less favorable prior‐period Standard & Poor's (S&P) bond ratings or higher leverage ratios in comparison to their industry report greater amounts of interest expense on their tax returns than to investors and creditors on their financial statements. These between‐firm results are consistent with credit‐constrained firms using more structured financing arrangements. Our within‐firm tests also suggest that firms use more structured financing arrangements when they enter into contractual loan agreements that provide incentives to manage debt ratings. Specifically, we find that after controlling for S&P bond rating and industry‐adjusted leverage, our sample firms report greater amounts of interest expenses for tax than for financial statement purposes when they enter into performance pricing contracts that use senior debt rating covenants to set interest rates. Furthermore, we find that the greatest book‐tax reporting changes occur when firms become closer to violating these debt rating covenants. These latter findings are consistent with firms' contractual debt covenants influencing their use of off‐balance sheet and hybrid debt financing.     

有效预警上市公司违规的递延所得税异动指标和人工智能模型

2000-2017年,3434家A股上市公司样本中的47.79%至少有一次违规记录,每年平均有17%的公司违规,而监管机构平均需要2.7年查证并通告违规行为。我们用当年数据构建递延所得税异动指标,可有效预判违规,并发现监管机构未能识别这一指标的警示作用,实际激励了违规公司通过操纵递延所得税提高财务指标以规避稽查。进一步构建决策树模型,对违规事件实现样本外精准判别。本文揭示了A股公司大面积违规而稽查过程冗长迟缓这一重要现象,并分析了违规机制,指出了所得税数据在稽查违规中可以发挥的预警作用,为监管者和投资者提供有效预警上市公司违规行为的新指标和方法。     

Tax Motivated Income Shifting and Korean Business Groups (Chaebol)

Abstract:  This paper examines tax-induced income shifting behavior among affiliated firms in Korean business groups (chaebols). Korean corporate income tax law does not require consolidated tax returns, and business groups with a large number of affiliated member firms have incentives to shift income across member firms to reduce the overall taxes of the group. For a large number of Korean companies that are subject to external audits, we perform univariate and multivariate regression analyses on the income shifting behavior of chaebol firms compared with non-chaebol control firms. Our evidence suggests that tax-motivated income shifting activities exist among chaebol firms, and that the extent of income shifting is found to depend on its effect on non-tax cost factors such as the earnings, leverage, and cash flow rights of the controlling shareholders. We also find that income shifting is more pronounced in chaebol firms where the control-cash flow divergence is relatively large, suggesting that income shifting is affected by the controlling shareholders' opportunism. Our study provides some insights on the intra-group income shifting activities where research is limited.     

Tax refunds and income manipulation: evidence from the EITC

Welfare programs are important in terms of reducing poverty, although they create incentives for recipients to maximize their income by either reducing their labor supply or manipulating their taxable income. In this paper, we quantify the extent of such behavioral responses for the earned income tax credit (EITC) in the USA. We exploit the fact that US states can set top-up rates, which means that at a given point in time, workers with the same income receive different tax refunds in different states. Using event studies as well as a border pair design, we document that raising the state EITC leads to more bunching of self-employed tax filers at the first kink point of the tax schedule. While we document a strong relationship up until 2007, we find no effect during the Great Recession. These findings point to important behavioral responses to the largest welfare program in the USA.     

税收规避与财务报告成本的权衡研究——来自中国2008年所得税改革的证据

本文以我国2008年所得税改革为契机,借鉴Shackelford和Shevlin(2001)的税与非税因素权衡模型,实证考察有减税预期的上市公司在税收规避中是否权衡了财务报告成本。本文发现,有减税预期的公司存在将减税之前期间的利润推迟确认到未来低所得税率期间的盈余管理行为,且为避免这一行为过于明显而遭致惩罚,利润跨期转移的期间宽度较长。但有着高财务报告成本的公司明显降低了这一跨期利润转移的动机。研究证实了我国上市公司在税收规避决策中权衡了税与财务报告成本。研究结论有助于进一步丰富盈余管理文献,对当前我国税收制度改革具有一定参考意义。