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Determinants of the variability in corporate effective tax rates and tax reform: Evidence from Australia. (Grant Richardson & Roman Lanis , 2007). Agenda of Presentation. Introduction Determinants of ETRs and hypotheses Research design Results and analyses Conclusions. INTRODUCTION.
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Determinants of the variability in corporate effective tax rates and tax reform: Evidence from Australia (Grant Richardson & Roman Lanis, 2007)
Agenda of Presentation • Introduction • Determinants of ETRs and hypotheses • Research design • Results and analyses • Conclusions
Introduction • Corporate effective tax rates (ETRs) are often used by policy-makers and interest groups as a tool to make inferences about corporate tax systems because they provide a convenient summary statistic of the cumulative effect of various tax incentive and corporate tax rate changes (Kern and Morris, 1992; Gupta and Newberry, 1997) . • Evidence in the US has shown that: ETRs vary across firms and over time, which suggested that the corporate tax system was inequitable and so was a major justification for tax reform (Shevlin and Porter, 1992). however, there is a lack of research on ETRs and tax reform, especially in countries outside the US.
Introduction • A potential reason for the lack of research in this area • corporate tax reform is infrequent; hence the opportunity for undertaking such research is limited. • The Ralph Review of Business Taxation represented a major event in corporate tax reform in Australia. • The Ralph Review was given a mandate by the Australian Government to broadly assess the adequacy of the country’s business income tax policy (Ralph, 1999). • The Ralph Review’s key proposals were accepted by the Australian Government, and they were codified in the Income Tax Assessment Act (1997), with application from the 1999-2000 tax year.
Introduction • Research Objectives: Examines the determinants of the variability in corporate effective tax rates in Australia spanning the Ralph Review of Business Taxation reform. The study investigate the impact of firm size, capital structure (leverage) and asset mix (capital intensity, inventory intensity and R&D intensity) on ETRs covering the Ralph Review. Formal tests of the impact of the tax reform on these associations and whether ETRs are associated with these characteristics after the tax reform are also considered.
Introduction • Research Purposes: • Adds to the sparse literature about ETRs and tax reform. • Provide some further insights into ETRs that should be useful to policy-makers.
ETRs and firm size • Two competing views about the association between ETRs and firm size: • The political cost theory, and • The political power theory.
ETRs and firm size • The political cost theory • The higher the visibility of larger and more prosperous firms causes the to become victims of greater regulatory actions by government & wealth transfers (Watts & Zimmerman, 1986) • Taxes are one part of the total political costs borne by firms. • Larger firms have higher ETRs (Zimmerman, 1983) • The political power theory • Larger firms have substantial resources available to them to manipulate the political process in their favor, engage in tax-planning and organize their activities to achieve optimal tax savings (Siegfried, 1972) • Larger firms have lower ETRs.
ETRs and firm size • Studies of US firms • The association between ETRs and firm size have produced conflicting results
ETRs and firm size • Studies of Australian firms • Tran (1997) observes a negative association between ETRs and firm size. • Tran (1998) finds that larger firms benefited more from tax-planning (tax incentives) than smaller firms. Therefore this study expect a negative association between ETRs and firm size.
ETRs and firms’ financing • Gupta and Newberry (1997) Firms’ financing decision could impact on ETRs because tax statutes normally allow differential tax treatment to the capital structure decisions of firms. • Interest expenditure is tax deductible while dividends are not firms with higher leverage are expected to have lower ETRs. • Stickney and McGee (1982) and Gupta and Newberry (1997) finds a negative association between ETRs and leverage.
ETRs and firms’ investment decisions • Tax statutes usually permit taxpayers to write-off the cost of depreciable assets over periods shorter than their economic lives • Firms that are more capital-intensive are expected to have lower ETRs (Stickney and McGee, 1982) • Inventory intensity is a substitute for capital intensity • Inventory-intensive firms should possess higher ETRs (Zimmerman, 1983) • R&D expenditure furnishes an investment tax shield for R&D-intensive firms. R&D-intensive firms are expected to have a negative association with ETRs (Gupta and Newberry, 1997)
ETRs and tax reform • This study also investigate whether the Ralph Review tax reform had an effect on ETRs, and if it impacted on the associations between ETRs and variables reflecting the outcomes of firms’ financing and investment decisions. • Table 1 shows: • The key Ralph Review tax-reform proposals • Estimation of corporate tax revenue impacts over the period 1999-2005.
ETRs and tax reform The tax reform is expected to have a significant negative association with ETRs
Dependent Variable • Dependent variable ETRs • In conventional research, ETRs = tax liability / income • The appropriate definitions of both the numerator and the denominator of this equation are open to debate (e.g. Shevlin and Porter, 1992; Wilkie and Limberg, 1993; Plesko, 2003)
Dependent Variable ETR1 = ETR2 = Income tax expense Book income Income tax expense Operating cash flows
Regression results The results are consistent with all hypotheses (except for H8).
Regression results • The results indicate that SIZE, LEV, CINT, INVINT and RDINT are significantly associated with ETRs (ETR1 or ETR2 at p<.10 or better) after the tax reform. • ETRs continue to be associated with firm size, capital structure and asset mix after the tax reform.
Robustness checks • The study re-estimated its regression models by dividing its sample into the pre-(1997-1999) and post-(2001-2003) Ralph Review tax-reform periods to determine whether the association in Table 4 between ETRs and SIZE, LEV, CINT, INVINT and RDINT remain intact the results show that the coefficient for those variables had identical signs and similar levels of statistical significance in the pre- and post-tax-reform periods.
Robustness checks b. 1. variance inflation factors (VIFs) were computed for each independent variable in our regression models the VIFs indicate that multicollinearity is not problematic in any of the models. 2. to deal with potential outlier problems, the study re-estimated its regression models after excluding several outliers, based on the method suggested by Neter et al. (1996). the result shows that in terms of sign and statistical significance are comparable to those reported in Table 4 3. re-estimated the regression models to include NOL carry-forward firms. the results show that the coefficient estimates had similar signs, but weaker levels of statistical significance, as expected (see, e.g. Wang, 1991).
Conclusions This study find: (a) A significant negative association between ETRs and firm size. (b) ETRs have a significant negative association with capital structure for leverage. (c) A significant negative (positive) association is also found between ETRs and asset mix for capital intensity and R&D intensity (inventory intensity). (d) While the Ralph Review impacted on many of these associations, ETRs continue to be associated with firm size, capital structure and asset mix after the tax reform.
Research Contribution • This study adds to the scarce literature on ETRs and tax reform. • The results of this study provide some additional insights into ETRs that should be useful to policy-makers.
Research Limitation • The sample is drawn from publicly-listed Australian firms. • Because of data unavailability, unlisted firms are excluded from the sample. • The study constructed its ETR measures using financial statement data since tax return data are private and unavailable. The literature (see, e.g. Plesko, 2003) questions the accuracy of financial-statement-based ETR measures, so our results should be interpreted with some caution. • Its ETR model may be incomplete. It excluded the extent of firms’ foreign operations and ownership structure, these variables might have an impact on ETRs.
