Financial constraints and future tax outcome volatility

Abstract

We investigate whether variation in the volatility of tax outcomes across firms is associated with the extent of financial constraints. We document a positive association between current-period financial constraints and the volatility of cash effective tax rates in subsequent periods. We find that this positive association becomes more pronounced as firms avoid more cash taxes. These results suggest that as financial constraints increase, the benefits of cash tax savings more likely outweigh the costs associated with more volatile tax outcomes. Recent research documents a negative association between financial constraints and the level of cash taxes paid. Our evidence suggests that tax strategies adopted by more financially constrained firms to increase cash tax savings come at the price of more volatile future tax rates.

Director and officer liability and corporate tax avoidance

“…Corporate managers’ endeavors to save taxes would fall along a continuum from the least aggressive (e.g., investment in municipal bonds) to the most aggressive tax avoidance activities (Hanlon & Heitzman, 2010; Akamah et al., 2021). Tax sheltering is among the most aggressive activities, having little to no business purpose but intending to obtain tax benefits only (U.S. Treasury, 1999).…”

“…Prior studies in accounting and finance suggest that the cross‐sectional variation in corporate tax avoidance is attributable to three sets of factors. The first set is firm specific, such as leverage (Graham & Tucker, 2006), foreign operations (Dyreng & Markle, 2016), financial constraints (Edwards et al., 2016; Dyreng & Markle, 2016; Akamah et al., 2021) and make‐up of the board of directors and its committees (Armstrong et al., 2015; Hsu et al., 2018). The second set of factors is the nature of the particular environment in which the firm is associated, including political uncertainty (Li et al., 2022), the existence of a constituency statute (Whait et al., 2018; Wu & Ye, 2019), being cross‐listed in the US (Chen et al., 2022), the religious norm in the community where the corporate headquarters are located (Boone et al., 2013), and more broadly—especially in more recent years—the effect of corporate social responsibility (e.g., Benlemlih et al., 2022).…”

“…We exclude observations from regulated utilities (SIC codes 4949-4999) and financial firms (SIC codes 6000-6999), resulting in a drop of 30,141 observations. Following the literature (e.g., Koester et al, 2017;Akamah et al, 2021), we drop observations with negative pretax book income before special items (as well as those with missing values), which leaves 48,277 firm-year observations for 7037 firms, and these observations serve as the basis for our primary analysis. Table 1 summarizes the observations lost at each stage of data gathering.…”

“…Corporate managers' endeavors to save taxes would fall along a continuum from the least aggressive (e.g., investment in municipal bonds) to the most aggressive tax avoidance activities (Hanlon & Heitzman, 2010;Akamah et al, 2021).…”

Do creditor control rights impact corporate tax aggressiveness? Evidence from debt covenant violations

“…The third measure we use is the cash effective tax rate ( CETR ; e.g., Akamah et al., 2021; Cook et al., 2017; Dong et al., 2021; Hasan et al., 2017; Hsu et al., 2018; Li et al., 2017). CETR is a direct measure of capturing firms’ overall tax avoidance as it uses actual cash paid out.…”