Corporate Tax Aggressiveness and Firm Risk

Abstract:     
Prior research has argued that aggressive corporate tax avoidance, as measured by low cash effective tax rates (Cash ETR) or high reserves for unrecognized tax benefits (UTB), increases firm risk, thereby requiring firms to provide risk-taking incentives to managers. In this paper we develop a measure of tax risk by applying the traditional definition of risk to taxes, and investigate the relation between (1) three different measures of tax risk, and (2) overall firm risk, as measured by stock return volatility. We find a positive relation between our measure of tax risk (the standard deviation of annual Cash ETRs) and firm risk. In contrast, neither low Cash ETRs nor high UTBs are associated with firm risk. Our results suggest that the volatility of Cash ETR, as a measure of tax risk, is more closely associated with overall firm risk than either the level of Cash ETR or reserve for UTBs.

Number of Pages in PDF File: 41

Keywords: tax aggressiveness, risk

JEL Classification: M41

working papers series