Do Tax-Based Proprietary Costs Discourage Public Listing? Evidence from FIN 48

Abstract

This study investigates whether tax-based proprietary costs associated with being a public firm (i.e., potential costs resulting from increased visibility to the tax authority) discourage public listing. I exploit the introduction of a mandatory disclosure requirement (FIN 48) which generated a signal to the government regarding the uncertainty of the taxpayer’s position, allowing for more carefully targeted audits of public firms (Mills et al., 2010). I hypothesize and find evidence of an increased propensity to go private among aggressive tax planning firms following the enactment of the new disclosure rule but prior to its adoption. Cross-sectional evidence indicates the effect is concentrated in firms likely to be more sensitive to tax-based proprietary costs (i.e., domestic firms and non-CIC firms). Furthermore, I find a decline in IPOs by tax aggressive firms compared to non-tax aggressive firms after FIN 48, consistent with the new disclosure requirement deterring private, tax aggressive firms from going public. Overall, my findings suggest that mandatory disclosures giving rise to tax-based proprietary costs may have the unintended consequence of discouraging some firms from operating as public entities.

Keywords: IRS, proprietary costs, public ownership structure, IPO, FIN 48, Schedule UTP

JEL Classification: G24, G32, G34, G38, H25, H26