Advances in Taxation

John Hasseldine

• Publisher: Emerald Publishing Limited
• Year: 2020
• Print ISBN: 9781839091865
• eBook ISBN: 9781839091872
• Topic: Crescita personale
• Subtopic: Tassazione

In the latest volume of Advances in Taxation, series editor John Hasseldine presents studies from expert contributors exploring topics such as: corporate tax planning, tax-related accounting misstatements and uncertain tax positions, financial statement readability, the tax effects of a major pension scheme change, and non-professional investor and taxpayer judgments and perceptions.

Reporting peer-reviewed research contributions from North America and the U.K., this volume is essential reading for those looking to keep abreast of the most recent research, including empirical studies using a variety of research methods from different institutional settings and contexts.

Do Creditors Influence Corporate Tax Planning? Evidence from Loan Covenants

Kirsten Cook, Tao Ma and Yijia (Eddie) Zhao

Abstract

This study examines how creditor interventions after debt covenant violations affect corporate tax avoidance. Using a regression discontinuity design, we find that creditor interventions increase borrowers' tax avoidance. This effect is concentrated among firms with weaker shareholder governance before creditor interventions and among those with less bargaining power during subsequent debt renegotiations. Our results indicate that creditors play an active role in shaping corporate tax policy outside of bankruptcy.

Keywords: Covenant violation; creditor intervention; tax avoidance; effective tax rates; regression discontinuity design; shareholder governance; bargaining power

Introduction

While much research has examined the effect of shareholder–manager conflicts on firms' tax avoidance (e.g., Armstrong, Blouin, Jagolinzer, & Larcker, 2015; Desai & Dharmapala, 2006), the effect that conflicts between managers and creditors have on firms' tax avoidance is not clear. In particular, how creditors' control rights affect borrowers' tax avoidance is unknown. In this chapter, we exploit the discreet nature of debt covenant violations to examine how creditor interventions after covenant violations affect corporate tax avoidance. This study is among the first empirical investigations to shed light on how creditor control rights outside of bankruptcy impact firms' real decision-making regarding tax avoidance. ¹ We contribute to the tax avoidance literature, which has called for more empirical research on the role that creditors play in shaping corporate tax planning (Gallemore, Gipper, & Maydew, 2018; Hanlon & Heitzman, 2010).

Managers and creditors may differ in their preferences for tax avoidance. First, shirking managers may prefer a lower level of tax avoidance because tax strategies require considerable effort to design and implement (Armstrong et al., 2015; Blaylock, 2016), particularly if such effort (or lack thereof) is unobservable to outsiders. Second, prior studies view corporate tax avoidance as the trade-off between direct tax savings and agency costs arising from the opaque nature of many tax reduction activities (Chen & Chu, 2005; Crocker & Slemrod, 2005; Desai & Dharmapala, 2006). While tax avoidance yields direct cash tax savings (Goh, Lee, Lim, & Shevlin, 2016), it also induces managerial rent diversion and information hoarding (Kim, Li, & Zhang, 2011). ² In particular, as tax-avoiding activities may be executed in a clandestine way, managers could take advantage of reduced tax liabilities for their private benefits at the expense of shareholders. As such, firms may prefer a lower level of tax avoidance to minimize the agency costs (Desai & Dharmapala, 2006).

In contrast, creditors may prefer a higher level of tax avoidance. Cash tax savings from tax avoidance can improve borrowers' solvency and secure expected payments to creditors. Moreover, creditors' enhanced monitoring can mitigate managerial rent extraction associated with tax avoidance, which is also harmful to creditors. In non-tax settings, both Nini, Smith, and Sufi (2012) and Ferreira, Ferreira, and Mariano (2018) report that management turnover increases significantly after covena...

Table of contents

• Cover
• Series Editor
• Title
• Copyright
• Contents
• About the Editor
• List of Contributors
• Editorial Board
• Introduction
• Do Creditors Influence Corporate Tax Planning? Evidence from Loan Covenants
• Tax-Related Accounting Restatements and Tax Contingency Reporting
• Annual Report Readability and Share Repurchases Under a Temporary Tax Holiday
• Tax Planning Activities and Firm Value: A Dynamic Panel Analysis
• Taxation, Pension Schemes, and Stakeholder Wealth
• The Impact of Country-by-Country Reporting on Nonprofessional Investor Judgments
• The Effects of Individual Values on Willingness to Pay and Fairness Perceptions of Use Tax on Internet Purchases