Does Financial Reporting for Income Tax Expense Affect the Timeliness of Goodwill Impairments?

Abstract

We examine if financial reporting for income tax expense affects the timeliness of goodwill impairments. Goodwill impairments are material, but their timing is subject to managers’ discretion. U.S. GAAP requires firms to test all goodwill for impairment, whereas tax laws generally do not permit impairment deductions but require amortization for only some goodwill. Therefore, only when an impairment includes tax-amortizable goodwill will financial statement tax benefits partially offset the impairment’s negative effect on GAAP net income. We predict and find that managers are more likely to delay impairments when the offsetting financial statement tax benefits are smaller. We estimate that goodwill impairments are 11 to 14 percent more likely to be delayed when they generate reduced financial reporting tax benefits. Our findings suggest financial reporting for taxes potentially distorts the timeliness of goodwill impairments, informing the current debate on goodwill accounting.

Keywords: Mergers and Acquisitions, Goodwill, Tax, Impairment, Intangible, Earnings Quality

JEL Classification: G34, K34, M41