We examine small firms' compliance with tax and accounting regulations before and after a change in the threshold for mandatory auditing. Prior to 2011, all Norwegian firms were required to be audited. In 2011, a law change allowed small Norwegian firms to choose not to be audited. After this change, the Norwegian Directorate of Taxes conducted on-and off-site inspections of a representative sample of 2,117 Norwegian firms, with a focus on compliance with specific requirements in tax and accounting regulation. We use the results from these inspections to construct a compliance quality score (CQS). We find that the firms that chose to opt out of auditing have lower CQS than do firms that chose to continue to be audited; that the CQS of firms that chose not to be audited declined after opting out; and that some of the opt-out firms fully mitigated the decline in CQS by engaging external accountants or auditors to prepare their annual financial statements. The results should be of interest to regulators considering increasing the thresholds for mandatory auditing, as our results show that (i) firms that choose not to be audited can experience a decline in CQS after opting out, and (ii) CQS can be maintained at the same level as before if opt-out firms engage external consultants that assist in preparing the annual accounts.
Purpose
This paper aims to examine the interaction between fair-value accounting, asset sales and banks’ lending in booms and busts. Throughout, the author uses “fair value” and “mark-to-market” interchangeably, to denote an accounting regime where changes in the prices of banks’ assets affect regulatory capital. “Historic-cost accounting” has been used in the paper to denote an accounting regime where changes in asset prices do not affect regulatory capital.
Design/methodology/approach
The author built a model that examines how the accounting regime affects banks’ incentives to sell assets and how the impact of the accounting regime on asset sales affects lending.
Findings
In a bust, fair value strengthens banks’ incentives to sell assets. The resulting increase in sales increases banks’ lending capacity. Consequently, lending can be higher under fair value. Conversely, in a boom, historic cost strengthens banks incentives to sell assets. The resulting increase in sales increases banks’ lending capacity. Hence, lending can be higher under historic cost.
Originality/value
This paper identifies a new channel through which the accounting regime could affect lending. The accounting regime can affect banks’ incentives to sell assets. The resulting difference in sales can affect banks’ ability to make new loans. Hence, in a boom, although banks book mark-to-market gains under fair value, asset sales could be higher under historic cost. Lending, thus, could be higher under historic cost. Conversely, in a bust, although banks book mark-to-market losses under fair value, sales could be higher under fair value. Lending, thus, could be higher under fair value.
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