Credit Refinancing and Corporate Tax Avoidance

Abstract

This paper examines the disciplining effects of credit markets on corporate tax avoidance strategies. We show that, during adverse credit market conditions, firms with refinancing needs prefer to forgo the after-tax cash flow benefits of tax avoidance to regain the access to the traditionally risk-averse credit markets. Our results show that firms increase their cash effective tax rate by 2 percentage points when facing refinancing constraints. This effect is more pronounced for firms with lower asset tangibility and higher default probability. Moreover, we show that firms engage in less tax deferral strategies, while leaving their leverage and debt shield unchanged. Overall, these findings are consistent with credit markets putting pressure on tax avoiding firms and contribute to the policy debate on disciplining tax avoiders.

Keywords: Credit refinancing, refinancing constraints, tax avoidance, credit market discipline

JEL Classification: G32, H25, H26, M41