Corporate Tax Planning and Firms’ Information Environment

Abstract

This study examines whether internal information quality (IIQ) is associated with firms' external information quality (EIQ) and whether tax planning moderates this association. Based on the argument that higher internal information quality allows managers to convey higher quality information to market participants, I hypothesize and find a positive association between IIQ and EIQ. I then examine if tax planning, which prior literature shows affects external information quality due to proprietary costs of disclosure, attenuates this association. I find that the association between IIQ and EIQ is fully attenuated for firms with a high level of tax planning. A structural equation model that allows different elements of IIQ to covary and robustness tests corroborate my findings. Overall, my results imply that increased IIQ spills over to EIQ because managers convey higher quality internal information to market participants. However, proprietary costs resulting from a high level of tax planning appear to moderate this effect.

Internal Information Quality and State Tax Planning*

“…Prior research examines how tax planning affects accounting quality (Lennox et al 2013; Frank et al 2009; Balakrishnan et al 2018; Osswald 2020) and suggests that aggressive tax planning is a determinant of external financial reporting quality. To control for accounting quality, we include discretionary accruals as measured by Frank et al (2009) ( DiscAcc ).…”