How Do CEO Incentives Affect Corporate Tax Planning and Financial Reporting of Income Taxes?
Posted: 13 Feb 2013 Last revised: 17 Mar 2017
Date Written: August 30, 2015
We examine how different accounting metrics used to evaluate CEO performance for annual bonuses affect the level of corporate tax planning as well as financial reporting for income taxes. We predict and find that firms using cash flow metrics report lower GAAP and cash effective tax rates (ETR) than firms using earnings metrics. We also find that firms using after-tax earnings metrics report lower GAAP ETRs but similar cash ETRs as firms using pre-tax earnings metrics. Further analyses show that firms using after-tax earnings metrics are more likely to designate foreign earnings as permanently reinvested and have lower discretionary reserves for tax uncertainty. Hence, it appears that both types of firms engage in similar levels of tax planning, but firms evaluating CEOs with after tax-earnings metrics incentivize different financial reporting choices.
Keywords: Effective tax rate, Performance metrics, Executive compensation, After-tax compensation
JEL Classification: H25, M41, M52
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