How Firms Avoid Losses: Evidence of Use of the Net Deferred Tax Asset Account

University of Washington Working Paper

41 Pages Posted: 17 Feb 2003

See all articles by David Burgstahler

David Burgstahler

University of Washington

W. Brooke Elliott

University of Illinois at Urbana-Champaign

Michelle Hanlon

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: November 26, 2002

Abstract

This paper investigates whether firms use discretion in accounting for deferred taxes to increase earnings and avoid reporting a loss. We find that firm-years with small scaled profits reduce (relative to the prior year) the proportion of the gross deferred tax asset reserved by the valuation allowance more than firm-years with small scaled losses. We find no evidence that the firm-years that have seemingly moved from having a small scaled loss to a small scaled profit using changes in the net deferred tax asset have greater expected future taxable income to support this change under SFAS 109. Our results also suggest that firms that increase earnings through the net deferred tax asset have relatively lower costs to managing earnings to avoid a loss, that is, these firms have a smaller pre-managed loss.

Keywords: deferred taxes, valuation allowance, net deferred tax asset

JEL Classification: M41, M43

Suggested Citation

Burgstahler, David C. and Elliott, W. Brooke and Hanlon, Michelle, How Firms Avoid Losses: Evidence of Use of the Net Deferred Tax Asset Account (November 26, 2002). University of Washington Working Paper. Available at SSRN: https://ssrn.com/abstract=355780 or http://dx.doi.org/10.2139/ssrn.355780

David C. Burgstahler (Contact Author)

University of Washington ( email )

555 Paccar Hall, Box 353226
Seattle, WA 98195-3226
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206-543-6316 (Phone)
206-685-9392 (Fax)

W. Brooke Elliott

University of Illinois at Urbana-Champaign ( email )

1206 South Sixth Street
Champaign, IL 61820
United States

Michelle Hanlon

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-668
Cambridge, MA 02142
United States
617-253-9849 (Phone)

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