Value-added tax

Philosophy

Accounting

Cash

Economics

Tax reform

Business

Monetary economics

Public economics

Epistemology

Econometrics

Valuation (finance)

State income tax

Cash flow

Deferred tax

Corporate tax

Multinational corporation

Tax avoidance

Finance

Explanatory power

Gross income

Journal of Accounting and Economics

Effective tax rates (ETRs) are often used to compare tax avoidance across firms and time. Using firms' detailed tax footnote data, we find that the effect of valuation allowances (VA) related to prior-period losses biases GAAP ETRs. This downward bias explains almost all of the downward trend in domestic firms' ETRs over the last 20 years. We also find that VAs explain cross-sectional differences in ETRs for both domestic and multinational firms. We show this bias extends to cash ETRs and the Henry and Sansing (2018) tax avoidance measure. We develop a methodology for substantially reducing the bias in both time-series and cross-sectional analyses of cash and GAAP ETRs. Overall, our results suggest firms’ loss histories and GAAP rules influence inferences from tax avoidance proxies.

Are declining effective tax rates indicative of tax avoidance? Insight from effective tax rate reconciliations