Effective Tax Strategies: It's Not Just Minimization
53 Pages Posted: 17 Sep 2014
Date Written: September 15, 2014
This study examines managerial incentives and practices associated with firms’ tax strategy choices, as well as the relative importance of these factors in determining the primary focus of firms’ tax strategies. Understanding the determinants of firms’ choice of tax strategy is important because the Scholes-Wolfson framework argues that the goal of effective tax planning is to maximize after-tax returns. Therefore, identifying managerial incentives and practices that influence tax strategy choice provides insight into how firms encourage tax planning to improve firm value. I examine two tax strategies: a sustainable tax strategy, which strives to achieve a consistent tax outcome over time, and a minimization tax strategy, which seeks to achieve the lowest possible tax outcome. Controlling for the interdependence of tax strategies, I find that firms are more likely to emphasize a sustainable tax strategy when the CEO’s wealth is more sensitive to changes in the firm’s stock price and less likely to emphasize sustainability when the firm receives more information from its directors’ connections. In contrast, a firm is more likely to concentrate on a minimization tax strategy when the CEO’s wealth is more sensitive to changes in stock return volatility, the firm hires a tax expert audit firm for tax services, or the firm receives more information from its directors’ connections. Finally, I find that managerial incentives are the most important factors for the choice of tax strategy, followed by the practices of obtaining expert tax advice and information from directors’ connections.
Keywords: sustainable tax strategies, minimization tax strategies, managerial incentives and practices
JEL Classification: M40, M41, M49
Suggested Citation: Suggested Citation