Real Effects of the Enforcement of Anti-Avoidance Rules
35 Pages Posted: 9 Feb 2023 Last revised: 26 Sep 2023
Date Written: September 22, 2023
We examine, in a game-theoretic model, how anti-avoidance rules and a strategic tax auditor affect a firm’s investment and tax-avoidance incentives. Our model investigates a firm that decides on a lump-sum investment and tax avoidance. In contrast to previous theoretical studies, our analysis incorporates a strategic tax auditor, who observes the firm’s investment decision, pre-tax profit, and tax rate, and decides whether to audit. Our analysis identifies the equilibria and examines how tax system variations—the strictness of the anti-avoidance rules, settlement, and tax auditor incentives—affect the firm’s tax avoidance. We find that the strategic tax auditor may lead to underinvestment that becomes either more or less severe for stricter anti-avoidance rules. These equilibrium results generate predictions for empirical studies on tax avoidance.
Keywords: tax avoidance, investment, real effects, strategic tax auditor
JEL Classification: H26, H87, M42
Suggested Citation: Suggested Citation