03 Taxation (TAX)
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ItemThe interactive effect of reward type and taxation on employee effort( 2021)Firms are increasingly using performance-contingent tangible rewards (e.g., gift cards) to motivate employee effort. We use an experiment to examine whether the effort effects of tangible rewards versus cash rewards depend on whether the rewards are subject to taxation. Consistent with affective valuation theory, we find that the motivational disadvantage of tangible rewards versus cash rewards is greater when rewards are subject to taxation than when rewards are not subject to taxation. Specifically, while we find no difference in effort between the two reward types when rewards are not taxed, we find that participants exert more effort to earn cash rewards than tangible rewards when rewards are taxed. Our study informs compensation designers of the greater adverse effects of taxation on tangible relative to cash rewards, which highlights the usefulness of techniques such as ‘grossing up’ tangible rewards or using cash- tangible reward combinations to mitigate the negative effects of taxation on tangible rewards.
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ItemThe Effect of Politician Stock Ownership on Corporate Tax Strategy( 2021)We examine the relation between politician stock ownership and corporate tax strategy. Specifically, we examine whether politicians’ direct stock ownership as a measure of politician-initiated corporate political connections (CPC) is associated with companies’ tax aggressiveness. Using hand-collected data on U.S. politicians’ stock ownership, we find that companies’ tax aggressiveness is not affected by the incidence of politician stock ownership. This contrasts with prior research on tax aggressiveness when political connections are directly initiated by the company. However, we find that the concentration of politician stockholders within a company is strongly associated with tax aggressiveness. This evidence suggests that companies engage in more aggressive tax strategies when they anticipate lower expected costs stemming from a critical mass of politician stock owners. We also find increased tax aggressiveness when politician stockholders have more legislative influence, stronger alignment of economic interests with the company, or when the company is headquartered in the politician’s home state. Moreover, politician-induced tax aggressiveness is incremental to the tax avoidance associated with company-initiated CPC gained through corporate campaign contributions. Taken together, our evidence suggests that concentrated politician stock ownership plays an important role in determining companies’ tax strategies and that this mechanism is incremental to other forms of corporate political connections.
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ItemForeign Aid through Domestic Tax Cuts? Evidence from Multinational Firm Presence in Developing Countries( 2021)This paper studies how corporate tax cuts in developed countries affect economies in the developing world. We focus on one of the most prominent fiscal policies – the corporate income tax regime – and study a major U.K. tax cut as an exogenous shock to foreign investment in Africa. Difference-in-differences estimates show that multinational U.K. firms increase their subsidiary presence in sub-Saharan Africa by 12-24% following the U.K. tax rate reduction after 2009. Exploiting location-specific nighttime luminosity as well as local African survey data from the African Demographic and Health Surveys, we document that these increases in U.K. subsidiary presence are also associated with increased economic activity and higher employment rates of African citizens within close proximity (10km) of local U.K.-owned subsidiaries. Our findings imply that, beyond the goal of motivating home country investment, developed countries’ corporate tax cuts are a channel for economic impact in developing countries.
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ItemDo U.S. Tax Court Judge Attributes Affect Corporate Tax Dispute Outcomes?( 2021)Corporate taxpayers can have economically meaningful disputes with the IRS that ultimately involve the federal judiciary. In an attempt to reduce the number of corporate tax disputes going to trial and reduce the amount of time between when corporate taxpayers file a petition with the U.S. Tax Court and resolution of the case, politicians and judges have placed greater emphasis on negotiated settlements as opposed to Tax Court trials. In this paper, we investigate whether the personal attributes of the Tax Court judge assigned to the case (political ideology, professional experience, and tenure on the bench) influence corporate taxpayers and the IRS to reach a negotiated settlement or to proceed to trial. Overall, our results show that Tax Court judges who are conservative, have private practice experience, have governmental legislative experience, and have longer tenure on the Tax Court bench are more likely to preside over disputes resolved through a negotiated settlement as opposed to going to a trial.
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ItemWhen Are Effective Tax Rate Decreases Persistent? The Role of Incentives and Tax-Specific Experience( 2021)This study examines the role of executives’ tax-specific experience and incentives on the persistence of effective tax rate (ETR) decreases. Prior studies typically attribute ETR decreases to either earnings management or tax planning. However, the method used to reduce ETRs can have a significant effect on the persistence of the change, which is important for forecasting future earnings and assessing valuation. We find that, on average, tax-specific experience is associated with more persistent ETR decreases, consistent with tax planning. However, tax-specific experience is also associated with more ETR earnings management, which is associated with less persistent ETR decreases. Importantly, tax-specific experience is not associated with more persistent ETR decreases when the decrease is used to manage earnings. Overall, we document that both tax-related experience and incentives have a significant effect on the persistence of ETR reductions, and the effect of tax-related experience depends on whether the ETR reduction was used to manage earnings. This study has important implications regarding financial reporting quality, forecasting, and firm valuation.
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ItemReal effects of an international tax reform for MNEs( 2021)With multinational enterprises (MNEs) centralizing production facilities, market countries claim not to receive their fair share of taxes. A reform of international business taxation that includes new profit allocation rules as well as the introduction of minimum taxation is being considered as a problem mitigating mechanism. We analyze theoretically the real effects of the aforementioned tax reform, i.e., MNEs' adjustments of production and sales decisions. Our findings show that the effects of an international tax reform on sales quantities depend on the properties of the underlying product markets. If national demand resembles characteristics of traditional industries, sales quantities remain unchanged. However, sales quantities are affected if specific demand characteristics of modern business models are assumed. For traditional industries a reformed tax regime increases tax revenues in high-tax market countries and even attracts production. In contrast, for modern business models tax revenues of high-tax countries can even decrease.
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ItemNew Evidence on the Determinants of the Deferred Tax Asset Valuation Allowance( 2021)The deferred tax asset valuation allowance (DTAVA) is a qualitatively and quantitatively material account for many firms. However, our understanding of the determinants and consequences of this account is limited to early studies and small samples. In this study, we provide new evidence on the positive and negative determinants of the DTAVA. We identify the cumulative loss determinant as the most critical component and taxable income in carryback years as the most important positive evidence determinant. Lastly, we provide evidence that firms that rely more on subjective evidence than objective evidence to determine their DTAVA face greater adverse tax-related financial reporting outcomes.
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ItemEarnings Management around the Tax Cuts and Jobs Act of 2017( 2021)This paper examines earnings management around the reduction in the corporate tax rate from 35% to 21% as enacted by the Tax Cuts and Jobs Act (TCJA) of 2017. Building on a theoretical model that considers a higher level of book-tax conformity of ‘real earnings management’ (REM) relative to ‘accrual-based earnings management’ (AEM), we hypothesize that firms concertedly use these manipulation techniques for different purposes. Specifically, we predict and find that firms engage in REM to reduce income in the high-tax period prior to the TCJA. Our results suggest that the 851 firms of our sample save approximately $32 billion in taxes from REM shifting. We also predict and find that firms use AEM, which has a lower degree of book-tax conformity, to simultaneously increase book income. Consistent with intertemporal income shifting, we find that these effects reverse in 2018. Overall, our results document an unintended consequence of the TCJA on firm behavior that should be of interest to policymakers, regulators, and researchers as they evaluate the largest tax reform since 1986.
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ItemRegulatory Capital Planning and Deferred Tax Assets in a Post-Financial Crisis Environment( 2021)Insurance regulators substantially relaxed rules on deferred tax asset (DTA) inclusion in regulatory capital calculations during and following the financial crisis. We find evidence life insurers use additional discretion in regulation to increase the level of DTAs admitted into regulatory capital, especially when they have greater incentives to do so. As DTAs are less liquid relative to other assets, our study raises the concern that life insurance firms may appear more financially stable than the reality of their underlying economic condition. Consistent with this concern, we find firms with relatively low levels of regulatory capital admit more DTAs than can be supported by future profitability. Our study has important implications for regulators considering changes to capital standards for other financial institutions.