How Aggressive Tax Planning Facilitates the Diversion of Corporate Resources: Evidence from Path Analysis

Posted: 18 Sep 2019

See all articles by Andrew M. Bauer

Andrew M. Bauer

University of Waterloo - School of Accounting and Finance

Junxiong Fang

Fudan University - School of Management

Jeffrey Pittman

Memorial University ; Virginia Tech

Yinqi Zhang

American University

Yuping Zhao

University of Houston

Multiple version iconThere are 2 versions of this paper

Date Written: August 27, 2019

Abstract

In measuring tunneling with inter-corporate loans disclosed by Chinese listed companies, we analyze the underlying channels through which aggressive tax planning facilitates the diversion of corporate resources by firm insiders. Using path analysis, we document that the path from tax aggressiveness to related loans is mediated by both the additional cash flows from tax savings and the increased financial opacity from tax planning, and that additional cash flows plays a much more important role than opacity at helping controlling shareholders to divert corporate resources under the guise of tax aggressiveness. Beyond the two mediated paths, we also detect a residual, direct path from tax aggressiveness to related loans. After an exogenous shock from the government crackdown on diversionary related loans, we find the direct path is fully mediated by the two indirect paths, suggesting that tunneling via related loans only occurs at firms where insiders can mask tunneling under the cover of opacity or can justify related loans on grounds of abnormal cash flows from tax savings. Our evidence supports the notion that greater outside scrutiny increases the hurdle for, but does not entirely eradicate, diversion facilitated by tax aggressiveness. Collectively, our research lends some support to recent theory on the importance of taxes to corporate governance by demonstrating how the agency costs of tax planning allow certain shareholders to benefit from firm activities at the expense of others.

Keywords: tunneling, insider diversion, tax aggressiveness, path analysis

Suggested Citation

Bauer, Andrew M. and Fang, Junxiong and Pittman, Jeffrey A. and Zhang, Yinqi and Zhao, Yuping, How Aggressive Tax Planning Facilitates the Diversion of Corporate Resources: Evidence from Path Analysis (August 27, 2019). Contemporary Accounting Research, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3450734

Andrew M. Bauer

University of Waterloo - School of Accounting and Finance ( email )

200 University Ave W
Waterloo, Ontario N2L 3G1
Canada

Junxiong Fang

Fudan University - School of Management ( email )

No. 670, Guoshun Road
No.670 Guoshun Road
Shanghai, 200433
China

Jeffrey A. Pittman (Contact Author)

Memorial University ( email )

St. John's, Newfoundland A1B 3X5
Canada
709-737-3100 (Phone)
709-737-7680 (Fax)

Virginia Tech ( email )

United States

Yinqi Zhang

American University ( email )

4400 Massachusetts Ave NW
Washington, DC 20016
United States

Yuping Zhao

University of Houston ( email )

334 Melcher Hall
Houston, TX 77204
United States
713-743-2166 (Phone)
713-743-4828 (Fax)

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