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Write-offs and Profitability in Private Firms: Disentangling the Impact of Tax-Minimisation Incentives

Write-offs and Profitability in Private Firms: Disentangling the Impact of Tax-Minimisation... Private firms are likely to use the financial reporting process more for other objectives, such as tax savings, than for communicating performance. However, observing firms choosing accounting policies for tax-minimisation purposes is not straightforward due to (i) tax and non-tax costs of reporting lower income (ii) accounting policies that result in lower reported income and no tax savings but generate non-tax benefits (iii) preparers' multiple incentives and (iv) econometric issues. We observe a large sample of 20,505 private firms writing off assets in two separate regimes, one that generates tax savings and one that does not. Firms significantly decrease, but continue to use, write-offs after the adverse change in tax treatment of write-offs. The exogenous tax change should not affect other reporting incentives. This allows us to disentangle the tax-minimisation incentive from other (un-observable) incentives, including debt contracting, dividends and employee relations that contribute to the observed anomalous positive relationship between write-offs and profitability. We show that for private firms (i) obtaining tax savings is important overall (ii) non-tax costs and benefits are probably also important and (iii) earnings informativeness for future cash flows increases after the adverse tax legislation change. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png European Accounting Review Taylor & Francis

Write-offs and Profitability in Private Firms: Disentangling the Impact of Tax-Minimisation Incentives

European Accounting Review , Volume 22 (1): 34 – May 1, 2013
34 pages

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References (76)

Publisher
Taylor & Francis
Copyright
Copyright European Accounting Association
ISSN
1468-4497
eISSN
0963-8180
DOI
10.1080/09638180.2012.661938
Publisher site
See Article on Publisher Site

Abstract

Private firms are likely to use the financial reporting process more for other objectives, such as tax savings, than for communicating performance. However, observing firms choosing accounting policies for tax-minimisation purposes is not straightforward due to (i) tax and non-tax costs of reporting lower income (ii) accounting policies that result in lower reported income and no tax savings but generate non-tax benefits (iii) preparers' multiple incentives and (iv) econometric issues. We observe a large sample of 20,505 private firms writing off assets in two separate regimes, one that generates tax savings and one that does not. Firms significantly decrease, but continue to use, write-offs after the adverse change in tax treatment of write-offs. The exogenous tax change should not affect other reporting incentives. This allows us to disentangle the tax-minimisation incentive from other (un-observable) incentives, including debt contracting, dividends and employee relations that contribute to the observed anomalous positive relationship between write-offs and profitability. We show that for private firms (i) obtaining tax savings is important overall (ii) non-tax costs and benefits are probably also important and (iii) earnings informativeness for future cash flows increases after the adverse tax legislation change.

Journal

European Accounting ReviewTaylor & Francis

Published: May 1, 2013

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