tax notes international - Tuck School of Business - Dartmouth College

More documents

Recommendations

Info

NEWS ANALYSIS Minding the Book-Tax Gap by Joann M. Weiner For too long, tax policy experts have acted as if financial transactions have no impact on the real economy. If the current economic crisis, which financial transactions largely spawned, hasn’t clearly established that connection, then it’s time for tax policymakers to go back to business school. Experts in financial accounting and tax policy made that point loud and clear at the 12th annual UNC Tax Symposium held January 23 and 24 at the Kenan- Flagler Business School at the University of North Carolina in Chapel Hill. 1 ‘‘We want to take a big-tent approach and broaden our audience to scholars outside the accounting community,’’ said Douglas A. Shackelford, the Meade H. Willis Distinguished Professor of Taxation at UNC. ‘‘Accountants know the difference between reported tax expenses and actual taxes paid. It is time for others to understand the implication of this difference.’’ The importance of this outreach should not be underestimated as accounting rule makers and tax policymakers begin to focus on issues such as how differences in book and tax accounting may lead firms to manipulate their financial statements, tax filings, or both, Shackelford added. Prof. Joel Slemrod of the University of Michigan warned that economists might be missing the policy impact because they ignore the financial accounting issues. ‘‘This could be a really, really big issue. If financial decisions are correlated across firms with respect to tax policy, the errors we make might be compounded,’’ Slemrod said. Accounting for Income Taxes Public corporations expend much effort properly accounting for their income taxes, yet practitioners rou- 1 The UNC Tax Symposium papers are available at http:// areas.kenan-flagler.unc.edu/Accounting/taxsym09/Pages/ AcceptedPapers.aspx. tinely condemn the poor quality of the information, implying that it is relatively useless. However, researchers disagree, as they use these data to analyze many issues concerning the tax position of public corporations. The tax information reported in financial accounts is critically important to researchers for one simple reason: The tax information reported on corporate tax returns is confidential. Thus, financial statements are generally the only source of public information about a corporation’s tax situation. The reliability of financial information is important not only in the academic world, but also in the real world. Policymakers regularly rely on financial statement tax information, and studies based on that information, to guide their tax policies. Thus, understanding the real implications of how firms account for their income taxes is one of the most critical issues tax policy analysts face today. Along with coauthors John Graham of Duke University and Jana Smith Raedy of UNC, Shackelford presented the report, ‘‘Research in Accounting for Income Taxes,’’ highlighting the importance of understanding how the financial accounting treatment of income taxes has a real effect on tax policy. For example, the authors note that when tax law and financial accounting treat transactions in the same manner, the accounting for income taxes is ‘‘straightforward, intuitive, and relatively simple.’’ But when book and tax treatment differ, the tax accounts can materially affect both the income statements and balance sheets, the authors cautioned. Those book-tax differences are not trivial. The most recent IRS data from 2005 show that corporations reported about $32 billion less in taxable income than in book income, which reduced their 35 percent statutory tax rate to an effective tax rate of about 23.5 percent. The authors evaluate how well the tax information in financial statements does in approximating actual tax return information and for assessing a firm’s tax strategy. In a word, the answer is ‘‘poorly.’’ This poor performance is not the fault of the accounting statements, which are designed to provide information about the firm’s financial condition and not its tax status. But more worrisome to the authors is that ‘‘attempts to extract confidential tax return information TAX NOTES INTERNATIONAL FEBRUARY 2, 2009 • 371 (C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.
HIGHLIGHTS from the tax accounts in the financial statements can lead to erroneous and misleading inferences.’’ The confidentiality of corporate tax returns, however, places researchers in an unenviable position. Either they apply to the IRS for permission to use confidential data, as many researchers have done, or they develop ways to tease tax information out of the financial reports. Shackelford and his coauthors chose the latter path and suggest ways to use this imperfect public information to better approximate information in the confidential tax return. Book-Tax Differences As Shackelford noted, accountants and the IRS frequently take different views of what constitutes income. For a given accounting definition, the differences in book and tax treatment largely arise from tax legislation designed to encourage a specific behavior, such as additional investment spending or simplification. These differences may be permanent or only temporary. For example, the tax law exempts municipal bond income from tax, while accounting rules include the income in book income. This creates a permanent difference between book and tax income and will drive down the reported effective tax rate (the income tax expense divided by net income before taxes) in the financial statements. The income tax expense is the product of the statutory tax rate and book income adjusted for permanent differences. Temporary differences in book and tax income generally do not cause effective and statutory tax rates to differ. However, because permanent differences in book and tax income reduce the effective tax rate, corporate managers likely value transactions that reduce permanent income more highly than those that reflect only temporary differences in tax payments. Those differences have drawn the attention of many researchers. David Weisbach 2 and George Plesko 3 have argued that firms seek to enter tax shelters precisely because they permanently reduce income reported to the government while having no impact on financial statement earnings. Mihir Desai 4 suggests that the unexplained growth in book-tax differences may largely be explained by the growth in tax shelters. Jeri 2 David Weisbach, ‘‘Ten Truths About Tax Shelters,’’ 55 Tax Law Review, 215-253 (2002). 3 George Plesko, ‘‘Corporate Tax Avoidance and the Properties of Corporate Earnings,’’ LVIII National Tax Journal, 729-737 (2004). 4 Mihir Desai, ‘‘The Divergence Between Book Income and Tax Income,’’ Tax Policy and the Economy 17, edited by James M. Poterba, National Bureau of Economic Research and MIT Press (Cambridge, Mass.), 169-206 (2003). Seidman5 examined data from 1995 to 2004 and found that after narrowing during the 2001 economic downturn, the book-tax gap significantly widened in 2003 partly because of earnings management. These book-tax differences are not inconsequential. As the Senate Homeland Security and Governmental Affairs Permanent Subcommittee on Investigations6 noted when investigating the collapse of Enron, the firm regularly showed positive financial earnings while reporting losses for tax purposes. The committee’s report concluded that: some U.S. financial institutions have been designing, participating in, and profiting from complex financial transactions explicitly intended to help U.S. public companies engage in deceptive accounting or tax strategies. This evidence also shows that some U.S. financial institutions and public companies have been misusing structured finance vehicles, originally designed to lower financing costs and spread investment risk, to carry out sham transactions that have no legitimate business purpose and mislead investors, analysts, and regulators about companies’ activities, tax obligations, and true financial condition. While no one has yet accused any of the companies involved in the current financial crisis of engaging in Enron-style abuses, I believe something seems wrong when a company can regularly report high, positive earnings to the financial community while reporting low or no taxable income to the tax authorities. The Treasury Department had already placed booktax differences under suspicion in its 1999 tax shelter study. (See Doc 1999-22641 or 1999 WTD 128-43 and Doc 1999-22867 or 1999 WTD 128-44.) Whether tax shelters or other, innocuous tax planning explains today’s booktax differences has yet to be determined. I believe the IRS is years away from providing the data necessary to determine the extent to which a favorable interaction between financial and tax reporting contributed to the current financial crisis. Shining a Spotlight on the Accounts Because corporate tax returns are not public, it is difficult to determine whether book-tax differences indicate that the firm is participating in a tax shelter or whether it has legitimate tax deductions. Researchers without access to tax data have had to look elsewhere. 5 Jeri Seidman, ‘‘Interpreting Fluctuations in the Book-Tax Income Gap as Tax Sheltering: Alternative Explanations,’’ working paper, University of Texas (2008). 6 U.S. Congress, Senate Committee on Governmental Affairs, ‘‘Report on Fishtail, Bacchus, Sundance, and Slapshot: Four Enron Transactions Funded and Facilitated by U.S. Financial Institutions,’’ Permanent Subcommittee on Investigations, Jan. 2, 2003. For a reference to the study, see Doc 2003-511 or 2003 TNT 2-22. 372 • FEBRUARY 2, 2009 TAX NOTES INTERNATIONAL (C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.
Page 1 and 2: tax notes international Volume 53,
Page 3 and 4: ARGENTINA 387 Buenos Aires’ New S
Page 5: President and Publisher: Christophe
Page 9 and 10: HIGHLIGHTS However, if the firm rec
Page 11 and 12: HIGHLIGHTS NEWS ANALYSIS Multinatio
Page 13 and 14: HIGHLIGHTS check by full tax on any
Page 15 and 16: HIGHLIGHTS U.S. Widens Investigatio
Page 17 and 18: HIGHLIGHTS is required to withhold
Page 19 and 20: HIGHLIGHTS by a Canadian taxpayer a
Page 21 and 22: HIGHLIGHTS Personal Tax Measures Th
Page 23 and 24: ARGENTINA the most significant exem
Page 25 and 26: CHINA (P.R.C.) On December 16, 2008
Page 27 and 28: EUROPEAN UNION ensure that there is
Page 29 and 30: GERMANY confessed to his wrongdoing
Page 31 and 32: INDIA Addressing the assessee’s d
Page 33 and 34: INDONESIA As of January 1 and conti
Page 35 and 36: JAPAN insistence that the bill incl
Page 37 and 38: OECD OECD OECD Group Addresses CIVs
Page 39 and 40: OECD Furthermore, a source country
Page 41 and 42: PORTUGAL Extension of Portuguese Ho
Page 43 and 44: SPAIN tax authorities interpret the
Page 45 and 46: 410 • FEBRUARY 2, 2009 TAX NOTES
Page 47 and 48: FEATURED PERSPECTIVES We, the taxpa
Page 49 and 50: FEATURED PERSPECTIVES he has to pay
Page 51 and 52: BOOK REVIEW smaller government. But
Page 53 and 54: 418 • FEBRUARY 2, 2009 TAX NOTES
Page 55 and 56: PRACTITIONERS’ CORNER for German
Page 57 and 58:
SPECIAL REPORTS reports were of the
Page 59 and 60:
SPECIAL REPORTS that either avoids
Page 61 and 62:
SPECIAL REPORTS U.S. Germany Switze
Page 63 and 64:
SPECIAL REPORTS The operations carr
Page 65 and 66:
SPECIAL REPORTS the profits that ma
Page 67 and 68:
SPECIAL REPORTS In essence, the fir
Page 69 and 70:
SPECIAL REPORTS Figure 6. Single Ta
Page 71 and 72:
SPECIAL REPORTS Table 1. Comparison
Page 73 and 74:
SPECIAL REPORTS Singapore India pre
Page 75 and 76:
SPECIAL REPORTS such a case, the tr
Page 77 and 78:
SPECIAL REPORTS If the single taxpa
Page 79 and 80:
SPECIAL REPORTS agent would be as i
Page 81 and 82:
446 • FEBRUARY 2, 2009 TAX NOTES
Page 83 and 84:
SPECIAL REPORTS create unintended b
Page 85 and 86:
SPECIAL REPORTS country of organiza
Page 87 and 88:
SPECIAL REPORTS regulations make cl
Page 89 and 90:
SPECIAL REPORTS manufacturing is th
Page 91 and 92:
SPECIAL REPORTS FS A B C Designs X
Page 93 and 94:
SPECIAL REPORTS are performed in Co
Page 95 and 96:
SPECIAL REPORTS the intangible deve
Page 97 and 98:
SPECIAL REPORTS In Example 3, the f
Page 99 and 100:
SPECIAL REPORTS The investor model
Page 101 and 102:
SPECIAL REPORTS The licensing alter
Page 103 and 104:
SPECIAL REPORTS The second exceptio
Page 105 and 106:
SPECIAL REPORTS provides the most r
Page 107 and 108:
SPECIAL REPORTS The taxpayer assert
Page 109 and 110:
SPECIAL REPORTS the elimination of
Page 111 and 112:
TAX CALENDAR financially distressed
Page 113:
Africa: Zein Kebonang Albania: Adri
show all

tax notes international - Tuck School of Business - Dartmouth College

Create successful ePaper yourself

Delete template?

Save as template?