Corporate Ownership And Tax Avoidance: Interactive Effects

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The statement that taxes are deductions from the cash flows accessible to a firm, and hereafter the dividends distributable to the shareholders, recommends that firm owners would struggle to maximize their wealth through various tax avoidance practices. However, such benefit of increased cash flows from tax avoidance practices is proficient with certain Non-tax costs. This demands the costs/benefits concern of such practices and the choice of tax prevention if the benefits outweigh the associated costs. Thus the benefits and the associated costs with corporate tax avoidance are discussed here. Prior to this discussion, little insights are provided on the meaning and measures of corporate

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Tax avoidance to give proper ground for the discussion. The term corporate tax avoidance lacks universal definition as it might connote “different thing to different People”. The fact that there is consequential tax effects for every transaction of a Company, meant to increase its profit, could account for such lack of universal definition. Given this, they have been several definitions of corporate tax avoidance put forward by researchers in recent times. Here, we define corporate tax avoidance as a reduction in the explicit corporate tax liabilities. This definition is in line with Hanlon and Heitzman (2010) that describe tax avoidance “as a continuum of tax planning strategies where something like municipal bond Investments are at one end (lower explicit tax, perfectly legal), thus, the terms Such as tax management, tax planning, tax sheltering; and tax aggressiveness are interchangeably used with tax Avoidance in the literature. Similar to its definition, they have been several measures ‡ of corporate tax avoidance used in the prior Literature.

These measures are mostly based of the estimates from the financial statements and could be classified into three groups. The first group includes those measures that consider the multitude of the gap between book and Taxable income. These comprise of total book-tax gap; residual book-tax gap and tax-effect book-tax gap. The Second group has to do with those constructs that measure the proportional amount of taxes to business income. These include affective tax rates (this comes in several variants like accounting ETR; current ETR, cash ETR, Long-run cash ETR; ETR differential; ratio of income tax expense to operating cash flow; and ratio of cash taxes Paid to operating cash flow). The third group involves other measures such as discretionary permanent differences (PERMIDIFF)/DTAX unrecognized tax benefits (UTB) and tax shelter estimates. Despite this plethora of measures of corporate tax avoidance used in the tax literature, its conforming aspect remains un-captured as most of the measures are computed based on items that are affected by accrual accounting Procedures.

To this end, Hanlon and Heitzman (2010) suggested a measure for conforming tax avoidance as the Proportion of cash tax paid to operating cash flow. Salihu, Sheikh Obid and Annuar (2013) documented the significant difference of this measure from other similar measures.

18 May 2020

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