Financial Accounting Effects of Tax Aggressiveness: Contracting and Measurement

Waegenaere, Anja De; Sansing, Richard C.; Wielhouwer, J.L.

doi:10.1111/1911-3846.12068

Cited by 27 publications

(27 citation statements)

References 21 publications

(36 reference statements)

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“…Consistent with our expectations, we find that boards adjust managers’ bonus payouts downward for uncertainty in the firm's underlying tax positions. We interpret our results as evidence that boards reward tax performance but penalize (reward at a lower rate) managers for performance achieved with uncertainty, consistent with the model proposed in De Waegenaere, Sansing, and Wielhouwer ().…”

Section: Introductionsupporting

confidence: 90%

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Compensation in the Post‐FIN 48 Period: The Case of Contracting on Tax Performance and Uncertainty

Brown

Drake

Martin

2015

Contemporary Accting Res

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Academic and anecdotal evidence indicates that incentive systems often provide short-term payouts without regard for long-term consequences. New detailed disclosures mandated by FIN No. 48, Accounting for Uncertainty in Income Taxes, enable us to use a tax setting to investigate whether boards adjust performance-based pay for uncertainty. We find managers' bonus payouts are positively associated with tax performance; however, bonus payouts are lower when measures of ex ante tax uncertainty are higher. Our results are robust to tests of alternative explanations including financial reporting aggressiveness, overall firm risk, and other forms of compensation. Further, we document that the relation between bonus compensation and tax performance has changed in the post-FIN No. 48 period. Specifically, we identify a significant association between bonus payout and GAAP ETR only in the pre-FIN No. 48 period and a significant association between bonus payout and cash ETR only in the post-FIN No. 48 period, suggesting that the relation between compensation and tax avoidance should be examined carefully with particular attention to the post-FIN No. 48 period.Ceteris paribus, we expect managers who achieve current tax performance (avoidance) associated with less uncertainty (lower UTB) will receive higher performance-based pay. 2 To test our research question, we analyze an unbalanced panel of 1,468 CEO-years consisting of 458 unique firms from ExecuComp over a sample period from 2007 to 2012. However, because not all boards place the same emphasis on tax avoidance, we also use disclosures made in the Compensation Discussion and Analysis (CD&A) section of firm proxy statements to classify firm-years into two groups: "tax-focused," in which the firm uses at least one after-tax measure in the bonus contract, and "non-tax-focused," in which the firm does not use after-tax measures in the bonus contract.Using a two-stage Heckman (1979) approach to control for the board's choice to compensate on an after-tax basis, we estimate the sensitivity of CEOs' bonus payouts to tax performance, measured by 1 À CashETR (the cash effective tax rate). We find that, on average, boards reward managers who achieve higher tax performance (avoid more taxes) with higher bonuses, but only within our subsample of "tax-focused" firms. In other words, payouts vary with performance, but as expected, only among the subset of firms with bonus contracts that include tax incentives. Next, we interact tax performance with tax uncertainty, as measured by additions to the UTB related to current-year tax positions. Consistent with our expectations, we find that boards adjust managers' bonus payouts downward for uncertainty in the firm's underlying tax positions. We interpret our results as evidence that boards reward tax performance but penalize (reward at a lower rate) managers for performance achieved with uncertainty, consistent with the model proposed in De Waegenaere, Sansing, and Wielhouwer (2015).We explore alternative explanations for our findings in...

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Section: Introductionsupporting

confidence: 90%

“…Further, our findings complement the theoretical model presented by De Waegenaere et al. () which shows that an optimal compensation contract features a bonus for reducing the firm's cash taxes paid and a penalty for increasing the firm's unrecognized tax benefit or UTB.…”

Section: Introductionsupporting

confidence: 87%

Compensation in the Post‐FIN 48 Period: The Case of Contracting on Tax Performance and Uncertainty

Brown

Drake

Martin

2015

Contemporary Accting Res

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“…To proxy for firms' tax‐avoidance activities, we follow De Waegenaere, Sansing, and Wielhouwer () and use firms' book and cash ETRs, as well as an estimate of permanent book‐tax differences to measure tax avoidance. The book ETR is a commonly used measure of a firm's tax burden (e.g., Phillips ; Rego ; Robinson et al.…”

Section: Methodsmentioning

confidence: 99%

The Influence of a Firm's Business Strategy on its Tax Aggressiveness

Higgins

Omer

Phillips

2014

Contemporary Accting Res

305

377

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“…Chen, Mittendorf, and Zhang (2010) argue that while conservatism is best suited to elicit value-increasing actions, a more liberal reporting system is better suited to elicit noise-reducing actions. Waegenaere, Sansing, and Wielhouwer (2015) examine conservatism in tax reporting. l ¼ 0; (IC) necessarily binds.…”

mentioning

confidence: 99%

Optimal Conservatism with Earnings Manipulation

Bertomeu

Darrough

Xue

2016

Contemporary Accting Res

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This paper examines the role of conservatism when an agent can manipulate upcoming earnings before all uncertainty is resolved. An increase in conservatism, by reducing the likelihood of favorable earnings, requires steeper performance pay to maintain the same level of incentives, which in turn increases the equilibrium earnings manipulation. Trade-offs between inducing effort and curbing manipulation predict an interior level of conservatism as optimal. The optimal level of conservatism is positively associated with enforcement, economic profitability and earnings quality, and negatively associated with agency frictions. In particular, we show that more economically profitable firms choose to be more conservative. We also establish that the association between performance pay and manipulation identifies whether conservatism is optimally chosen or exogenously imposed. In an application to debt contracting, we show that optimal conservatism is negatively associated with borrowers' bargaining power. Prudence optimale et manipulation des r esultats R ESUM ECette etude examine le rôle de la prudence comptable lorsqu'un g erant peut manipuler le compte de r esultat. Une mesure plus prudente est telle que, pour un certain risque economique, la probability d'un bon r esultat comptable est plus faible et, donc, se traduit par des bonus moins fr equents. Nous d emontrons que le contrat de compensation du g erant doit s'ajuster en augmentant le niveau du bonus, ce qui conduit le g erant a d'avantage manipuler les resultats pour atteindre le bonus plus elev e. Un exc es de prudence, par cons equent, peut donner lieu plus de manipulation. Notre th eorie pr edit un niveau de prudence optimal et, a l' equilibre, les entreprises avec de meilleures perspectives economiques, des mesures comptables de meilleure qualit e ou moins de pouvoir de n egociation avec leurs banques, choisissent un niveau de prudence sup erieur.

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Financial Accounting Effects of Tax Aggressiveness: Contracting and Measurement

Cited by 27 publications

References 21 publications

Compensation in the Post‐FIN 48 Period: The Case of Contracting on Tax Performance and Uncertainty

Compensation in the Post‐FIN 48 Period: The Case of Contracting on Tax Performance and Uncertainty

The Influence of a Firm's Business Strategy on its Tax Aggressiveness

Optimal Conservatism with Earnings Manipulation

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