Abstract

While prior literature examines the role of certain incentives in motivating top managers (CEOs and CFOs) to engage in corporate tax avoidance, there is little evidence on the specific actions that managers take in response to these incentives. Motivated by the premise that a manager can influence a firm’s tax activities by directing resources towards the tax function, I investigate whether four specific tax avoidance incentives studied in prior literature (financial constraints, equity risk incentives, hedge fund interventions, and analyst cash flow forecasts) induce managers to make investments in hiring personnel within the firm’s tax department. Using a dataset of tax department employees collected from the professional networking website LinkedIn, I find evidence that each incentive is significantly associated with an increase in the number of individuals employed within the tax department. This association is generally stronger among higher ranked employees and employees with prior tax department experience. Overall, my findings are consistent with the premise that managers invest resources in the tax function when they are incentivized to avoid taxes. My study also provides some assurance that the association between tax avoidance incentives and effective tax rates documented in prior studies is reflective of intentional tax avoidance behavior.

Introduction

A large subset of the tax avoidance literature examines incentives that motivate top managers (CEOs and CFOs) to engage in corporate tax avoidance. The most common empirical approach in these studies is to examine the relationship between a specific incentive and tax planning outcomes of the firm, such as effective tax rates (ETRs). However, one drawback of this approach is that it provides no evidence regarding the specific actions that managers take in response to these incentives. Managers are unlikely to involve themselves directly in developing or implementing tax strategies given that they are rarely tax experts. Instead, the literature argues that they have a ‘tone at the top’ effect on the firm’s tax activities, which includes emphasizing the tax function when allocating resources across different functional areas of the firm (e.g. (Dyreng et al., 2010). Therefore, while prior studies focus on how tax avoidance incentives relate to outputs of the tax function (e.g. cash tax savings), managers will likely respond to these incentives by allocating resources to increase inputs into the tax function. Empirically, establishing an association between tax avoidance incentives and tax function inputs will provide stronger evidence regarding the effectiveness of these incentives. However, while tax function outputs are observable through publicly available financial statements, inputs are more difficult to measure.

In this study, I directly examine the relationship between tax avoidance incentives and inputs into the tax function – i.e. tax function investments. While investments in the tax function can be measured in different ways, I focus specifically on the quantity of tax personnel hired in the tax department. Indeed, (Mills et al., 1998) highlight that most tax function resources are allocated towards tax department personnel as opposed to outside assistance. The quantity of tax personnel hired is likely the most direct method of measuring tax department investments, has been shown in prior literature to be effective in generating tax savings (e.g. Chen et al., 2021, Barrios and Gallemore, 2023), and is publicly available through analyzing data from the professional networking website LinkedIn.

Conclusion

In this study, I examine whether managers respond to tax avoidance incentives by increasing investments made in the firm’s tax function, using the quantity of tax personnel employed as my primary measure. Using four types of incentives examined in prior literature – financial constraints, equity risk incentives, hedge fund interventions and analyst cash flow forecasts, and using a dataset of tax department employees collected from the professional networking website LinkedIn, I find that the quantity of tax personnel employed by the firm increases with each of the four incentives. My results are consistent with prior literature suggesting that managerial influence over firm tax planning is limited to ‘tone at the top’ effects, such as their ability to invest resources into the tax function.

Overall, my study complements prior literature examining these tax avoidance incentives by highlighting how inputs of the tax function respond to these incentives, in contrast with prior studies that only focus on outputs of the tax function (i.e. tax savings). The intuitive appeal of this approach is that it directly links these incentives with a specific managerial action, rather than the outcomes of these actions. The common definition of an ‘incentive’ involves the incitement of action and effort. However, since tax avoidance is not an area that managers generally specialize in, it is unlikely that managers exert effort personally in the development and execution of tax strategies. The results of my study suggest that the ‘action and effort’ incited by these incentives may be observable through an increase in tax personnel hiring, an indication that managers are allocating additional resources towards the tax function. Future researchers examining tax avoidance incentives may wish to strengthen their results by demonstrating, in conjunction with improved tax avoidance outcomes, that their incentive measure is related to an increase in tax function investments.

Abstract

Australian taxpayers display a clear preference for round numbers for end-of-year tax refunds, bunching at positive and salient thresholds such as the tens, hundreds and thousands. Bunching appears to be driven by tax evasion. Data from audited returns shows that bunching is present in returns before audit, but does not persist post-audit. Tax preparers play an important role, being twice as likely to deliver positive round-number refunds as individuals who file their own tax returns. Preparers with greater propensity to bunch deliver larger refunds by lifting deductions and lowering reported income for return items where audits are costly. This highlights how bunching behaviors can help identify tax evasion, including tax preparers who facilitate it and the tax return items which are manipulated.

Introduction

In 2018 a typical Australian taxpayer was 84 per cent more likely to be owed a dollar by the government than to owe a dollar, and 70 per cent more likely to be owed $A1000 than $A999. We document the widespread bunching of tax refunds at positive and salient round-number thresholds such as multiples of $A10, $A100 and $A1000. Drawing on nearly three decades of administrative tax data linking individuals, their tax returns and their preparers, coupled with random audit data, we use bunching behavior to draw out broader insights on the role of tax preparers in the tax system and on tax evasion.

Using data from random audits conducted by the Australian Taxation Office, we observe a systematic relationship between bunching and audit outcomes. Amongst individuals whose balance is adjusted downward post-audit, we observe pre-audit bunching but no post-audit bunching. Amongst those whose balance is not adjusted, or adjusted upwards, neither post- nor pre-audit balances show any statistically significant bunching.

Tax preparers play an important role in this bunching behavior. People who use tax preparers are twice as likely to bunch at round number refunds as those who do not use tax preparers. Individuals who receive a refund at or just above one of these thresholds are more likely to remain with their tax preparer in the following year, though are not charged higher fees. The extent of bunching has grown dramatically over time, likely reflecting these dynamics and the advent of electronic returns.

Conclusion

In this paper we have shown that Australian taxpayers have a clear preference for round-number tax refunds and that their refunds bunch at positive and salient thresholds. Using random audit data, we have shown that this bunching is driven by tax evasion. Finally, we have explored the role of preparers. Taxpayers who use tax preparers are twice as likely to bunch as those who do not. High-bunching tax preparers assist people to bunch by lowering reported income, increasing deductions and, in the process, generating higher refunds. These tax preparers target income and deductions that are difficult for the tax authorities to audit. The main effect of such tax preparers is on behavior at the point of tax filing and does not influence the future behavior of taxpayers. These observations are consistent with tax preparers helping clients to evade taxes rather than helping them to manage their tax affairs in a legitimate way to reduce their taxable income. Our paper has an important policy implication: tax authorities might want to target round-number refunds and “high-bunching” tax preparers in compliance activity, while these patterns hold true.

Bunching behavior has increased dramatically over time. Individuals who self-prepare are bunching more than in the past as are tax preparers. Bunching also increases over time as more people move to “high-bunching” tax preparers. “High-bunching” preparers do not charge higher fees, but they have stronger client retention. This may provide an incentive for the observed behavior of preparers.

Abstract

This paper analyzes the relationship between tax evasion and the demand for cash by studying the effects of two measures to fight evasion: accessing taxpayers’ bank data and imposing thresholds for cash payments. We study the effects of these policies in Italy, where visibility of bank data and cash thresholds were recently increased. We show that both significantly affected cash holdings, which grew by about 1.5 percent of the GDP. Using unique high frequency data on cash operations and exploiting regional heterogeneity in tax evasion propensity, we find that accessing bank data pushes regions with higher propensity to evade taxes to convert more deposits into cash. On the contrary, higher cash thresholds do not increase cash holdings more in these regions. We rationalize the findings with a simple model of tax evasion and payment choices, where cash and deposits have different degrees of privacy.

Introduction

Despite the increasing use of electronic means of payment, cash is still widely used.1 If compared to other payment instruments, a unique feature of cash is its complete untraceability, which is highly valuable for hiding taxable transactions and wealth.2 While the role of tax evasion in the demand for cash has been widely explored, studies on the effects of measures to fight tax evasion on cash demand are scant.3

Anonymity in payments is a feature inherent to the use of cash: it provides a greater degree of privacy than other means of payment. On the contrary, the ability of different types of money to protect privacy varies, given that any payment system can shield the payee’s entire information set or a subset of that information. In fact, in account-based networks, the payer’s identity must be identified (Brunnermeier et al., 2021). If individuals are sensible to the number of observers, a demand for payment privacy and anonymity emerges (Borgonovo et al., 2021). In this context, the demand for privacy has two main sources: (i) a demand by individuals involved in illegal transactions, who try to reduce the probability of being incriminated (Masciandaro, 1999, Ardizzi et al., 2014b), and (ii) a demand by agents simply in search for protection from external scrutiny, not necessarily avoiding legal sanctions (Kahn, 2018). Indeed, it partially explains the emergence of new payment architectures and cryptographic procedures used to protect privacy, and the fact that they are viewed as close substitutes of cash for illegal transactions (Hendrickson and Luther, 2022). The literature on money and privacy has mainly focused on these aspects, that is, on improvement in privacy protection that leads to efficiency gains in the demand for money (Kahn et al., 2005), and recently on the introduction of central bank digital currency (Garratt and van Oordt, 2021), which can manage different degrees of financial privacy or different degrees of anonymity (Keister and Sanches, 2021). In this paper, we study tax evasion policies that interact with and alter the relative level of privacy between cash and deposits.

Effects on regions with heterogeneous tax evasion propensity

After having secured enough evidence on H1 and H2, we test H3 and H4. Given that we cannot observe cash demand and tax evasion at the individual economic agent level, we exploit variation across Italian regions in terms of tax evasion propensity to see whether changes in bank data visibility and cash thresholds had a higher impact on cash demand in regions with higher or lower propensity to evade taxes. Finding higher effects in regions where tax evasion is higher (lower) would support the idea that higher cash demand following policy implementation is driven by evaders’ (compliers’) behavior.

Measures of tax evasion are notoriously imprecise, because of its intrinsic opacity. There are several ways to approximate tax evasion propensity and a long debate has been opened about how to measure unreported, non-observed, underground, illegal, informal, shadow, and unrecorded economies.32 Our goal here is not to contribute to this debate, but to find a reliable approximation that captures the main differences between Italian regions. A way to approximate tax evasion propensity is through the non-observed economy, for which an estimate at the regional level for the period under analysis is produced and used by reliable institutions in Italy, oppositely to other measurements. In addition, considering the non-observed economy allows us to capture cash demand of agents operating in the illegal and informal economies among the others (see the examples in Section A of the online appendix).

Abstract

     A widespread perception exists that tax havens facilitate corporate opacity. This study provides new evidence on the association between tax havens and the transparency of firm financial reporting using a unique group of firms whose parent companies are incorporated in tax havens but whose headquarters or primary operations—that is, their base—are in nonhaven countries. While most research suggests a negative association between tax havens and transparency, I examine whether this association depends on the firm’s corporate governance environment as well as its capital market incentives. I find that the negative association is limited to firms subject to weak governance in the base country. In contrast, I find, among firms in stronger governance environments, a positive association between tax haven incorporation and transparency, which is most concentrated among firms with greater capital market incentives. My findings suggest that future researchers should use caution when assuming an unambiguous negative association between tax havens and corporate transparency. The study also provides unique evidence that tax planning can motivate higher transparency in certain settings.

Introduction

     A widespread belief exists that firms’ use of tax havens facilitates corporate opacity. Tax havens have unique regulations that can weaken shareholders’ ability to discipline managers and directors and can provide opportunities for reduced reporting quality or disclosure for tax haven–incorporated companies (Kun 2004; Moon 2018), which may motivate their managers to be less transparent. Many observers, including researchers, policymakers, and the media, have expressed concerns that tax havens let managers misbehave and hide information from financial statement users (e.g., Desai 2005; Morgenthau 2012; Black et al. 2013; Durnev et al. 2016, 2017; Atwood and Lewellen 2019). For example, the U.S. Senate has argued that the unique laws of tax havens can be used to circumvent U.S. securities safeguards, including disclosure requirements (U.S. Senate Permanent Subcommittee on Investigations 2006). Many sources also suggest that tax haven–incorporated companies provide financial information that is unreliable or insufficient to portray a firm’s economic situation.

Conclusion

     I provide new evidence on the association between tax haven use and financial reporting transparency using a unique sample of “tax haven firms” with tax haven–incorporated parents that are based primarily in a nonhaven country. I examine whether the association between tax haven incorporation and transparency is conditional on the firm’s corporate governance environment and capital market incentives. My results indicate that the association between tax haven incorporation and transparency depends on the strength of governance in the base country (i.e., the nonhaven country of headquarters or primary operations), in conjunction with capital market incentives. While I find an overall negative association between tax haven incorporation and transparency in the full sample, I find that firms facing weak country-level governance in the base country drive the baseline negative association. In contrast, I find that capital market incentives motivate tax haven firms to provide highertransparency, compared to other multinationals, among firms based in strong governance countries and firms based in weak governance countries with less severe potential internal governance problems. My study provides evidence that low transparency associated with tax havens is not ubiquitous, and the findings suggest that future researchers should use caution when assuming an unambiguous negative association between tax havens and transparency.

1- Introduction

2- Truth-telling oath procedure

3- Experiment 1: One-shot tax declaration

4- Experiment 2: repeated tax declaration

5- Conclusion

References

Abstract

Using two earned income/tax declaration experimental designs we show that only partial liars are affected by a truth-telling oath, a non-price commitment device. Under oath, we see no change in the number of chronic liars and fewer partial liars. Rather than smoothly increasing their compliance, we also observe that partial liars who respond to the oath, respond by becoming fully honest under oath. Based on both response times data and the consistency of subjects when several compliance decisions are made in a row, we show that partial lying arises as the result of weak preferences towards profitable honesty. The oath only transforms people with weak preferences for lying into being committed to the truth.

Introduction

Dishonesty erodes opportunities for economic gains in business and society.1 Scandals like Enron and the 2008 financial crisis have prompted the promotion of truth-telling oaths–a non-price commitment device, as well as similar pledges, or codes of conduct, like the MBA oath or Dutch Bankers oath (see e.g., McCabe et al., 2002; Shu et al., 2012; Cohn et al., 2014).2 Empirical evidence confirms that when people voluntarily commit to honesty through a solemn oath, they tell the truth most of the time, holding the lie constant (see e.g., Jacquemet et al., 2018).3 The rationale is that the oath will help promote greater economic exchange by triggering a person’s intrinsic commitment to telling the truth (i) by reducing the ability to rationalize a lie (i.e., self-justification), and (ii) by coupling the desire for a positive self-image together with the desire for consistency (Mazar et al., 2008). But not all lies are the same—a small lie is easier than a big lie (Lundquist et al., 2009; Gneezy et al., 2018; Abeler et al., 2019). And not all liars are the same—some people lie all the time, some never, and some waver between lying and the truth, depending. The open question we address is who actually responds to an oath with honesty, and why. Using an earned income/tax declaration lab experiment, we find that the oath only affects partial liars, not full liars.4 What is more, partial liars do not react to the oath by smoothly increasing their level of compliance under oath (as a homogeneous change in the cost of lying would predict), but rather jump to full compliance. We argue this is consistent with partial compliance arising from weak preferences for profitable dishonesty—partial liars seem to lack clarity about how to process profitable dishonesty, which suggests they were neither committed to lying nor to being truthful 100%. Their preferences were fungible—and the oath acted as a moral anchor, so that we observe fewer partial liars and more full truth tellers under oath than without the oath.

1- Introduction

2- The model

3- Productive public expenditures

4- Other features

5- Conclusions

References

Abstract

Empirical evidence suggests that low-income countries are characterized by high levels of labor and capital income tax evasion while the opposite is true for high-income countries. This paper proposes a model to study the relationship between economic growth and both types of income tax evasion. We show that the existence of a social norm towards tax compliance generates a complementarity between capital and labor income tax evasion which explains the decline of both the share of evaders in the population and the amount of tax evasion when countries accumulate capital. The model predicts that the level of tax morale is positively correlated with both types of income tax evasion and the level of income per capita, consistent with recent empirical evidence. Finally, a higher tax rate increases the share of evaders in the population and aggregate tax evasion.

Introduction

Tax evasion not only harms the possibility of governments to obtain public revenues and, thus, to finance public programs; tax evasion is also negatively related to economic performance. In a recent survey, Vasilopoulou and Thomakos (2017) provide evidence about a strong negative relationship between economic growth and tax evasion. Similarly, Schneider et al. (2011) and Crane and Nourzad (1986) find that the relative size of the shadow economy (and tax evasion) have decreased over time for a wide sample of countries whereas GDP per capita has increased. Besley and Persson (2014) and Gordon and Lee (2005) show that for similar tax rates high-income countries obtain much higher levels of tax revenue than low-income countries, suggesting that tax evasion is a severer problem in low-income countries. Moreover, empirical findings suggest that tax evasion is a widespread problem, especially in developing countries which show high levels of both labor and capital income tax evasion (e.g., Crivelli et al. (2016)).

1- Introduction

2- Literature Review and Hypothesis Development

3- Data and variable construction

4- Model and Empirical Analysis

5- Conclusions

References

Abstract

Low tax morale is associated with domestic tax evasion. We find evidence of cross-border equity flows designed to evade taxes in low tax morale countries. Using Foreign Portfolio Equity Investment (FPI) flows into 21 OECD countries from 138 source countries and an index of tax morale from the World Value Survey (WVS), we show that individuals in countries with low tax morale engage in tax evasion via roundtripping through tax havens. This allows them to benefit from differential taxes applied to foreign investors vis-a-vis domestic investors. Our results remain robust to various measures of tax morale and distinct subsamples.

Introduction

Tax morale, the intrinsic motivation to pay taxes or feel guilt from failure to comply (Luttmer & Singhal, 2014), has been linked to domestic tax evasion by underreporting taxable income (Alm, Sanchez, & de Juan, 1995; Alm & McClellan, 2012; Halla, 2012; inter alia). Are these tax morale effects so pervasive that they motivate individuals also to engage in international evasion schemes, even to the extent that international portfolio investment flows are influenced? This study finds robust evidence that this, in fact, is the case. The determinants of tax morale have been widely explored (for example, Hofmann, Hoelzl, & Kirchler, 2008; DeBacker, Heim, & Tran, 2015; OECD, 2013; Luttmer & Singhal, 2014). Tax morale is negatively correlated with shadow economy activities and positively correlated with direct democracy. This may be explained by differences in the fairness of tax administration, perceived equity of fiscal exchange, attitude toward respective governments (Cummings, Martinez-Vazquez, McKee, & Torgler, 2004), differences in culture, which also interact with demographics (Botelho, Harrison, Hirsch, & Elisabet, 2001), and trustworthiness (Ashraf, Bohnet, & Piankov, 2006). However, proxies for tax morale are challenging to construct. Slemrod and Weber (2012) argue that a single tax morale indicator, rather than an index of indicators, provides a more straightforward gauge of its relative importance. Recent survey efforts on culture and social values include questions on attitudes toward tax paying and corruption, inter alia (World Values Survey; Inglehart et al., 2014). Herein, we use an indicator based on country-level survey response data to questions of perceived tax fairness.1 Since measuring tax evasion is challenging (Alm & Torgler, 2011), we use roundtripping as an indirect approach to capture it. We focus on OECD foreign portfolio investment (FPI) inflows through tax havens that are attributable to changes in tax savings. The concept of roundtripping is straightforward and illustrated in Fig. 1. Domestic investors create and capitalize shell companies overseas, in tax havens, before they invest those funds back into their home capital markets, where incoming funds are now recorded as foreign capital and taxed at a more favorable rate. Changes in the tax differential between a domestic investor and a foreign investor is an important determinant of foreign equity flows (Hanlon, Maydew, & Thornock, 2015; Kemme, Parikh, & Steigner, 2017) and an indicator of tax evasion, but not the only one. We find that the attitude of individuals toward the payment of taxes in general, or tax morale, is another noteworthy determinant of tax evasion, which has not been studied extensively in this context.

1- Introduction

2- A novel approach to detecting tax evasion

3- Application: policy shock in Turkey

4- “Missing trade” approach as external validation

5- How persistent is evasion?

6- Conclusions

References

Abstract

This paper draws attention to import duty evasion as a margin through which firms adjust to changes in trade policy. This margin is different from the other forms of adjustment, as it can be employed very fast and thus it may constitute the initial reaction to the shock before a slower adjustment through the other channels takes place. The study also proposes a new method of detecting tax evasion in international trade, based on deviations from Benford’s law. It applies the method in the context of an unexpected policy change in Turkey that increased the cost of import financing. The results are consistent with an immediate increase in tax evasion in the affected import flows, which dies down a year later. A standard approach to detecting tariff evasion, based on “missing trade”, confirms these conclusions.

Introduction

One of the key questions in international trade is how firms adjust to changes in trade policy. The literature has demonstrated theoretically and empirically that the adjustment can take place through firm entry and exit, reallocation of market shares driven by differences in firm productivities and changes to the product portfolio. This paper draws attention to another margin of adjustment—evasion of import duties in response to increases in border taxes. This margin is different from the other forms of adjustment, as it can be employed very fast and thus it may constitute the initial reaction to the shock before a slower adjustment through the other channels takes place. Understanding and acknowledging the existence of this margin matters, as any analysis of the consequences of short-run trade policy changes that fails to take into account changes in evasion is likely to present a distorted picture of reality. By its very nature tax evasion is difficult to detect as the parties involved have every incentive to conceal their lack of compliance with the tax law. Despite the great importance of tax evasion to public policy choices, it remains elusive and difficult to detect through a statistical analysis. This paper contributes to the literature by proposing a new method of detecting tax evasion in the context of border taxes. The proposed method is based on Benford’s law, which describes the distribution of first digits in economic or accounting data.

1- Introduction

2- Model

3- Comparative statics of network interaction

4- Audit targeting and network structure

5- Conclusion

References

Abstract

We relate tax evasion behavior to a substantial literature on social comparison in judgements. Taxpayers engage in tax evasion as a means to boost their expected consumption relative to others in their social network. The unique Nash equilibrium of the model relates optimal evasion to a (Bonacich) measure of network centrality: more central taxpayers evade more. Given that tax authorities are now investing heavily in big-data tools that aim to construct social networks, we investigate the value of acquiring network information. We do this using networks that allow for celebrity taxpayers, whose consumption is seen widely, and who are systematically of higher wealth. We show that there are pronounced returns to the initial acquisition of network information, especially in the presence of celebrity taxpayers.

Introduction

Tax evasion is a significant economic phenomenon. Estimates provided by the UK tax authority put the value of the tax gap – the difference between the theoretical tax liability and the amount of tax paid – at 6.5% (H.M. Revenue and Customs, 2016). Academic studies for the US and Europe put the gap substantially higher, at around 18–20% (Cebula and Feige, 2012; Buehn and Schneider, 2016). In this paper we link evasion behavior to a mass of evidence that people engage in comparisons with others (social comparison). Utility, evidence for developed economies suggests, is in large part derived from consumption relative to social comparators, rather than from its absolute level (e.g., Ferrer-i Carbonell, 2005; Luttmer, 2005; Clark and Senik, 2010; Mujcic and Frijters, 2013). The evolutionary processes that might explain this phenomenon are explored in Postlewaite (1998), Rayo and Becker (2007) and Samuelson (2004), among others. Researchers have proposed that social comparison can explain economic phenomena including the Easterlin paradox (Clark et al., 2008; Rablen, 2008), stable labor supply in the face of rising incomes (Neumark and Postlewaite, 1998); the feeling of poverty (Sen, 1983) the demand for risky activities (Becker et al., 2005) and migration choices (Stark and Taylor, 1991).

Using an R&D-based growth model with dual regulation, we analyse how environmental policies influence pollution, corruption, a growth rate, and welfare. Considering that polluting firms bribe bureaucrats to evade paying environmental tax, we find that a stricter environmental tax leads to a decrease in growth rate via a decrease in the permit rent as well as an increase in pollution and corruption per firm and results in worsening households’ welfare and in improving the bureaucrats’ welfare. Thus, tax evasion with corruption improves households’ welfare and worsens the bureaucrats’ welfare. Our findings imply that tax evasion under dual regulation improves social welfare.

Introduction

With worsening climate, more EU member states are participating in the European Union Emissions Trading System (EU-ETS). Thus, a dual regulation problem is created, whereby firms emitting greenhouse gases are subjected to overlapping regulations: environmental taxes and emissions permit trading. However, industries in the EU have resisted these regulations because such overlapping regulations for the same pollution impose additional costs on firms (Sorrel, 2002). The additional costs from dual regulation may incentivise firms to evade environmental taxes through corruption. The government suffers from corruption, which damages the efficiency of environmental policies. This is because the weakening of environmental regulations as a result of corruption may inhibit economic development and increase pollution (Pellegrini and Gerlagh, 2006). In developing countries, corrupt officials demand bribes from firms in return for overlooking the under-reporting of pollution emissions. Previous studies show that polluting firms evade environmental tax via corruption (i.e. Damania, 2002; Iskandar et al., 2014). Thus, tax evasion with corruption may slow economic development and worsen environmental quality if there is tax evasion in developed countries. Environmental tax evasion is not expected in developed countries. However, European Union (EU) member states such as the United Kingdom (Customs, 2011) report that polluting firms do engage in environmental tax evasion. Thus, in contrast to developing countries, dual regulation in developed countries detrimentally affects the efficiency of emissions permit-trading via tax evasion with corruption.

Using a large sample of hand-collected directors’ foreign experience data for Chinese listed companies from 2001 to 2016, we examine the impact of directors with foreign experience on corporate tax avoidance. We find a significantly negative association between directors with foreign experience and tax avoidance, suggesting that these directors can help constrain their firms’ tax aggressiveness. The result is robust to Heckman two-stage analysis, instrumental variable approach, inclusion of potential omitted variables, change analysis, and alternative tax avoidance measures. Further analyses reveal that reputation concerns and CSR awareness are potential channels through which returnee directors affect corporate tax avoidance. The negative relation between directors with foreign experience and tax avoidance only holds when directors’ foreign experiences are derived from countries or regions with higher investor protections. Nonindependent directors with foreign experience have larger impacts on corporate tax avoidance than independent directors, and the effect is more pronounced when directors with foreign experience sit on audit committees. Directors’ working and studying experiences both have important impacts on corporate tax avoidance. The result also suggests that the negative relation between directors with foreign experience and tax avoidance is more pronounced in non-stateowned firms. Overall, the findings suggest that directors’ foreign experience matters for corporate tax behavior in emerging markets.

Introduction

The board of directors takes responsibility for monitoring and advising management (Fama and Jensen, 1983). Prior research shows that director heterogeneity significantly affects the effectiveness of directors fulfilling their duties (e.g., Ferreira, 2009; Cho et al., 2017; Gul et al., 2011; Güner et al., 2008; Minton et al., 2014). As firms in emerging markets are generally considered to have weak corporate governance and poor management practices, the extent to which board composition can improve corporate governance and management practices is more important to shareholders and regulators (Syverson, 2011) than in developed countries. Recent studies provide evidence that directors with foreign experience help facilitate companies’ access to foreign resources and internationalization (Oxelheim et al., 2013), improve firm performance in emerging markets (Giannetti et al., 2015), and transfer governance practices across countries (Iliev and Roth, 2018). Extending this line of research, we explore whether and how directors with foreign experience affect firms’ tax avoidance. The question is essential, as tax is one of the most important corporate decisions in which directors are also involved (Erle, 2008). In his 2009 remarks, the IRS Commissioner, Douglas Shulman, urged corporate boards to play more important roles in conducting assessment and oversight of tax risk.1 In a 2017 KPMG survey of tax directors of multinational companies, over 60% of respondents confirmed that a board member (or board-level individual) takes responsibility for tax.2 Directors with foreign experience, or returnee directors, may affect their firms’ tax avoidance decisions in two opposite directions. On the one hand, returnee directors may put shareholder value maximization as their primary duty and ask management teams to reduce tax payment. A few studies provide evidence that managers and directors are punished for tax overpayment and rewarded for tax avoidance (Chyz and Gaertner, 2018; Lanis et al., 2017). This may be especially relevant, as managers in some state-owned companies sometimes opt to pay more taxes for their own promotion (Bradshaw et al., 2019). On the other hand, returnee directors may have greater reputation concerns about firms’ tax avoidance and, therefore, monitor management to reduce tax avoidance.

We model the behaviour of a mortgagor considering to evade the real estate transfer tax. We build an observable measure of over-appraisal that is inversely related to tax evasion and conclude that the tax authority could focus auditing efforts on low-appraisal transactions. Our empirical analysis confirms the predictions using a unique database for Spain, where we directly observe: real payment, value declared to the authority and appraisal. We also argue that individual characteristics (e.g. education of the buyer) and local characteristics (e.g. local levels of corruption and trust) explain part of the observed heterogeneity in evasion. The theoretical model is augmented with guilt and stigma to be consistent with the observed heterogeneity.

Introduction

Transfer taxes (i.e. taxes on real property transactions) are common in most OECD countries and yet they remain understudied (Best and Kleven 2018). More generally, the empirical literature on tax evasion has been facing the challenge of obtaining reliable data.1 Difficulty understanding and observing fraud has obvious consequences on the effectiveness of audits performed by tax authorities. Our paper aims to help fill these gaps by focusing on home buyers’ strategic behaviour, whereby we test our prediction and provide some policy recommendations. To this end, we present a model where a mortgagor decides their housing expenditure, together with the share of the latter they declare to the tax authority. By under-declaring to the tax authority, buyers can reduce their expected tax burden. However, when they are short on assets, they may also have an interest in inflating the declared appraisal of the house, in order to facilitate obtaining a mortgage. The model exploits the tension between obtaining a larger mortgage and paying fewer taxes and it uncovers the relationship between tax evasion, access to cash (or other untraceable payment systems) and housing declared over-appraisal (that is, the ratio between declared appraisal and declared transaction).2 In particular, when agents are liquidity-constrained, potential mortgagors and financial institutions have an incentive to collude and inflate the appraisal that is declared. Typically, those same potential mortgagors are unlikely to fraud.3 Our result has an interesting policy implication: declared over-appraisal is observable, hence the tax authority could use it as a screening device to determine which transactions to audit.

1- Introduction

2- Hypotheses development

3- Research design

4- Empirical results and analysis

5- Conclusion

References

Abstract

Purpose: We examine the association political connections and tax evasion and we test whether corruption level affects this relationship.
Design/methodology/approach: Tax evasion measure is based on Schneider, Buehn and Monterngro (2010), while country’s political connection trend is based on Faccio (2006).
Findings: Using a sample of 35 countries, we document that political connections are positively associated with tax evasion and this relationship becomes stronger for high corrupt environment.
Practical implications: Our findings have policy implications for countries aiming to combat tax evasion since political connection trends in one country reduce the level of tax compliance. In addition, political connections and corruption play a complimentary role in increasing tax evasion practices.

Introduction

Both political connections and tax evasion have attracted a great deal of attention among policy makers as widespread phenomena that may adversely affect the economic development in one country. Research concerning the importance of political connections as a determinant of tax evasion is important since very little is currently known about this association at country level. Some studies have examined the effect of political connections on tax avoidance (e.g., Adhikari et al., 2006 in Malaysia), tax aggressiveness (Kim and Zhang, 2016 in USA), or on the capability of the state to enforce tax legislations (e.g., Lin et al., 2017 in China) at firm level. All these empirical enquiries have documented that political connections have an adverse effect on tax compliance behaviour through more tax avoidance, more tax aggressiveness practices and less effective enforcement of tax compliance by State tax authorities. However, there is no empirical evidence concerning the linkage between political connections and tax evasion using cross-country dataset. Accordingly, this study tries to complement the above streams of research by exploring the direct effect of political connection on tax evasion at country level. In addition, it tests whether corruption level moderates such a relationship. By doing so, our paper extends also previous literature dealing with the determinants of tax evasion initiated by Riahi-Belkaoui (2004).