Empirical Tax Research in Accounting: A Discussion

Edward L. Maydew*

Kenan-Flagler Business School, University of North Carolina, Chapel Hill, NC 27599-3490, USA

Received 17 August 2000

Revision Received 28 December 2000

Abstract

This discussion reflects on the state and future of empirical tax research in accounting,
complementing and extending Shackelford and Shevlin (2000). Specifically, this discussion 1)
examines the scope Shackelford and Shevlin (2000), 2) discusses what I view to be the main
contributions and limitations in the extant tax research, and 3) charts several directions for future
research.

JEL classification: H25, K34, M40.

Key words: Taxes, Corporate Taxes.

__________________________________

*Corresponding author. Tel: (919) 843-9356; fax: (919) 962-4727; e-mail: maydewe@bschool.unc.edu

I thank Merle Erickson, Austan Goolsbee, Doug Shackelford, Terry Shevlin, Doug Skinner and Ross
Watts (the editors), and workshop participants at the 2000 Journal of Accounting and Economics
conference for their helpful comments.
1. Introduction

My charge as a discussant is to provide comments and critiques that can be read as an

integrated package with Shackelford and Shevlin (2000). At the outset let me emphasize that I

agree with the vast majority of the opinions and analysis in their review. However, to avoid

redundancy this discussion focuses on those areas in which I offer a different perspective.

This discussion is designed for three types of readers. First and foremost, it is designed

for Ph.D. students and new researchers interested in conducting tax research. Second, it is for

researchers who have an ancillary interest in taxation as consumers of tax research. Finally, the

discussion is for experienced tax researchers who want to contemplate what the field has

accomplished and where it could be headed.

The discussion proceeds as follows. Section 2 begins by discussing the scope of

Shackelford and Shevlin (2000) and the costs of excluding most tax papers published in finance

and economics journals. Section 3 examines what we can learn from tax research and introduces

a metaphor for thinking about tax research. Section 4 suggests a number of directions for future

research and also examines the methodological issues identified in Shackelford and Shevlin

(2000). Section 5 concludes.

2. The Scope of Shackelford and Shevlin (2000)

Shackelford and Shevlin define the scope of their review as research conducted by

accountants, specifically archival empirical tax research conducted by accountants since the

Scholes-Wolfson paradigm began. 1 Review papers must set boundaries to be manageable and

Shackelford and Shevlin’s coverage is thorough and comprehensive given its stated scope.

1
See Scholes, Wilson and Wolfson (1990) and Scholes, Wolfson, Erickson, Maydew and Shevlin (2001).

1
 However, a major theme in Shackelford and Shevlin (2000) is that tax research is

interdisciplinary, conducted by economists and finance researchers as well as by accountants.

Shackelford and Shevlin (2000) do mention some important finance and economics papers. For

the most part, however, their review excludes research by non-accountants, which does not

square with the interdisciplinary nature of tax research that they espouse nor with both of the

authors’ appreciation for and ties to economics and finance.

I worry about unintended consequences of focussing too narrowly on research by

accountants. One cost is that it risks leaving readers with an incomplete picture of the research

on any given topic. 2 During the most recent three-year period, for example, thirteen papers with

the word “tax” in their titles appeared in the Journal of Financial Economics or the Journal of

Finance. Only three of these thirteen papers are cited in Shackelford and Shevlin (2000). 3

Perhaps these exclusions are harmless because the topics are different than those studied by

accountants. Not so. Each of the non-cited papers from the finance journals bear directly to

topics discussed in the review. For example, non-cited papers by Fama and French (1998) and

Graham (2000) bear directly on the capital structure research discussed in Section 3.2 of

Shackelford and Shevlin (2000). 4 Bali and Hite (1998) and Murray and Jagannathan (1998)

examine taxes and asset pricing issues discussed in Sections 3.3 and 3.4. Most tax research by

economists is also excluded. The cost of excluding papers from economics journals is probably

less severe than excluding papers from finance journals, as many of the tax papers in the

2
The same caveat applies as a result of the exclusion of theoretical and behavioral papers.
3
I examined issues from 1998- 2000. The three cited papers are Graham, Lemmon and Schalleheim (1998), Reese
(1998), and Guenther and Willenborg (1999). The ten papers not cited are Bali and Hite (1998), Barclay, Pearson,
and Weisback (1998), Elton and Green (1998), Fama and French (1998), Frank and Jagannathan (1998), Naranjo,
Nimalendran and Ryngaert (1998), Crowder and Wohar (1999), Graham and Smith (1999), Allen, Bernardo, and
Welch (2000), and Graham (2000).
4
In fact, at the time this article was written Fama and French (1998) was by far the most heavily downloaded “tax”
paper on the Social Science Research Network (SSRN) and was ranked forth among all papers on SSRN in all-time
downloads.

2
economics journals deal with topics not generally examined by accounting researchers, e.g.,

optimal taxation.

Another cost of focussing mainly on tax research by accountants is that readers may get

the impression that Shackelford and Shevlin exaggerate when they argue that tax research is

highly interdisciplinary. To provide empirical evidence of the degree to which tax research is

interdisciplinary, I performed a search of all papers on SSRN using the keyword “tax.” The

search produced 1680 papers, with the titles taking twenty pages to display. Examining the first

paper listed on each of the twenty pages, which is admittedly ad hoc but should not be biased,

revealed that accounting researchers were authors on only six of the twenty papers, supporting

Shackelford and Shevlin’s assertion.

Further evidence of the degree to which tax research is multidisciplinary comes from the

rate at which tax research is published in the top general journals in accounting, economics and

finance. Over the most recent three-year period, The Accounting Review, the Journal of

Accounting and Economics and the Journal of Accounting Research published a total of nineteen

papers with “tax” in their titles, or a rate of 2.1 tax papers per journal-year. 5 Recall that over the

same three-year period the Journal of Finance and the Journal of Financial Economics published

a total of twelve tax papers, or a rate of 2.0 tax papers per journal-year. American Economic

Review published eleven tax papers during the same period, or 3.67 tax papers per journal-year.

This evidence, while not conclusive, is consistent with Shackelford and Shevlin’s claims that tax

research is highly interdisciplinary.

In summary, Shackelford and Shevlin (2000) is a comprehensive review of archival

empirical tax research conducted by accountants. Readers should be cautioned, however, that it

5
I gathered these data from the reference list of Shackelford and Shevlin (2000) and included papers listed as
forthcoming in 2000.

3
is not a comprehensive review of corporate tax research, must less of tax research in general.

Readers looking for tax research on a given topic will in many cases need to supplement their

reading of Shackelford and Shevlin (2000) with a search of the finance and economics journals,

as well as a search of theoretical and behavioral papers within the accounting journals.

3. The State of Tax Research

Shackelford and Shevlin (2000) do a good job of reviewing and summarizing the papers

and findings that accounting researchers have produced over the past decade or so. However, I

worry that readers, particularly doctoral students, will get lost in the trees and miss the forest.

Accordingly, in this section poses and address two questions about the tax literature as a whole.

First, what can we learn from tax research? Second, how can accounting researchers best

contribute to the tax literature?

3.1. What can we learn from tax research?

Despite its emergence as a line of inquiry in accounting, tax research has its critics.

Some researchers do not consider tax research to be part of accounting, perhaps because of its

interdisciplinary nature, but more likely because generally it is not based on information

economics, which provides the theoretical foundation for most financial and managerial

accounting research. 6 The majority of accounting research is geared towards understanding the

role of accounting data as information for decision making by managers, investors, etc. in the

face of uncertainty. However, uncertainty and information asymmetries tend to enter tax

6
Regardless of how one defines the word accounting, the rest of the world expects accounting professors to have
something intelligent to say on tax matters, and tax professionals remain a core constituency as well as core product
of most accounting programs.

4
research only as non-tax factors (e.g., financial reporting costs) rather than as primary aspects of

the tax issue in question.

In my opinion tax researchers would do well to reflect on these criticisms, even if they

believe them to be unfounded. Tax research competes in the market for ideas and the

perceptions of other academics affects the demand for tax research. That said, I now attempt to

explain how one can view most tax research to best understand its role and contributions. I do so

using a metaphor from a joke told to me by a (non-tax) colleague. As my colleague chided me

one day over lunch he asked: “Why did the chicken cross the road?” I replied that I didn’t know.

He responded mirthfully, “Because taxes were lower on the other side.” From me came fake

chuckles but, alas, no snappy retort.

The implication, of course, is that tax research is obvious – firms respond to cash flows,

taxes affect cash flows, and therefore firms respond to tax incentives. Under the chicken-

crossing-the-road scenario, tax research is nothing more than a test of whether chickens (firms)

are rational enough to move to the low tax side of the road when doing so is in their best

interests. 7

Over the years, however, I have found the chicken-crossing-the-road joke does provide a

useful metaphor for thinking about what tax research in accounting is trying to achieve. Imagine

now that instead of one chicken there are many chickens, representing firms, some of whom

have crossed the road and some of whom have not. The real question is not why did the chicken

cross the road, but why didn’t all the chickens cross the road? If we assume, as customary, that

the chickens/firms are rational economic decision-makers, then one way some chickens would

choose to not cross to the low tax rate side of the road is if there are costs associated with

7
I later discovered that the joke was generalizable and had been used to poke fun of a variety of non-tax lines of
research.

5
crossing the road. In the case of a real chicken, one can imagine the costs. In the case of a firm,

the costs could include financial reporting effects, agency costs, capital constraints, direct

transactions costs, increased IRS scrutiny, and costs of tax planning. As Shackelford and

Shevlin (2000) point out, much existing tax research can be thought of as attempting to

understand the trade-offs among and economic significance of tax and non-tax factors in

business decisions. The question is -- what do we learn from this literature?

As a body of research, the trade-offs literature has three main contributions. First, it adds

to our understanding of the forces that shape the economic world. Specifically, it helps us to

know in which decisions taxes represent a first-order effect and in which decisions taxes play an

nth order effect – even I would admit that in some decision contexts taxes play a minor,

sometimes non-existent, role.

Second, the tax trade-offs literature allows us to quantify non-tax costs in dollars by

measuring the tax savings firms must realize before they incur particular non-tax costs. For

example, studies quantify how much firms will pay, in the form of forgone tax savings, for

additional GAAP earnings. 8 Finding experimental settings where one can quantify how much

cash firms are willing to pay for a particular level of GAAP earnings was difficult and rarely

done before the advent of the tax trade-off literature.

Finally, the trade-offs literature can be thought of as part of the public economics

literature that examines the extent to which taxes distort economic behavior. The idea being that,

in general, the more taxes affect decision-making the more they reduce economic efficiency.

8
For example, see Matsunaga, Shevlin and Shores (1992) and Engel, Erickson, and Maydew (1999).

6
Empirical estimates of the extent to which various tax regimes affect behavior is therefore central

to understanding whether and how much those tax regimes generate deadweight costs. 9

Outside of papers examining tax and non-tax tradeoffs, the tax literature is clearly not

subject to the criticism that it is simplistic. The effects of taxes on equilibrium asset prices and

returns are particularly nettlesome from a theoretical basis once one allows for tax clienteles and

tax arbitrage. Empirical evidence of the role that taxes play in asset pricing has been hard to

come by because of the lack of clean experiments and methods to control for risk differences

across firms. As I discuss in the next section, the role of taxes in asset pricing is one of the most

active areas of current tax research and I expect it will continue to be for some time to come.

3.2. How can accounting researchers best contribute to the tax literature?

This section is written primarily for new tax-accounting researchers deciding where to

best concentrate their research energies. As discussed earlier, tax research is interdisciplinary in

that it is produced by accountants, economists, and finance researchers. Accountants tend to

specialize in certain areas of tax research in which they have a comparative advantage over

economists and finance researchers. The comparative advantage that accounting researchers

most often possess is a superior knowledge of institutional factors, in particular knowledge of the

complexities of the tax law and knowledge of financial accounting. This institutional advantage

is often accentuated with knowledge gained from teaching tax strategy and financial accounting.

Consequently, accounting researchers produce much of the research involving corporate

taxation, while economists produce most of the research involving individual taxation. Why?

9
Some taxes have the potential to increase economic efficiency, namely when they encourage the production of
public goods, which generate positive externalities (e.g., basic scientific research), or discourage the production of
public bads, which generate negative externalities (e.g., pollution). Most research on taxes and externalities has
been by economists and the concept has not crept into tax research in accounting.

7
Because the institutional complexity of the tax law is greater in corporate taxation than in

individual taxation. Further, while accountants usually are less well-versed in economics than

are economists, the gap generally is smaller in financial economics than in other branches of

economics, e.g., labor economics, macroeconomics. This also contributes to accountants

specializing in areas that draw from financial economics, namely research involving corporations

and financial markets. 10

Within corporate tax research, accountants contribute most heavily in those areas that

require the most institutional knowledge, including mergers and acquisitions, 11 international

tax, 12 and settings involving complex strategies, entities, or securities (e.g., ESOPS, MIPS). 13

Taxation involving regulated entities is another area of institutional advantage. 14 Accountants

have an overwhelming advantage in financial accounting. Therefore, accountants produce nearly

all of the research that examines the trade-offs between tax and financial accounting objectives. 15

The same can be said for research on tax-book conformity and accounting for income taxes. 16 I

am not suggesting that accountants forsake economic theory – tax researchers can never learn too

much finance and microeconomics – only that their comparative advantage is institutional

knowledge. Corporate tax research in particular requires a combination of institutional

knowledge, economic theory, and research design that accounting researchers are well equipped

to provide.

10
Tax-accounting researchers occasionally publish their work in the top general finance journals, a practice I hope
becomes more common as tax research in accounting develops, e.g., Trezevant (1992) and Guenther and Willenborg
(1999).
11
Erickson (1998), Ayers, Lefanowicz, and Robinson (2000), and Erickson and Wang (2000).
12
Collins and Shackelford (1992), Harris (1993), Klassen, Lang and Wolfson (1993), Collins and Shackelford
(1997), Collins, Kemsley and Lang (1998), and Newberry (1998).
13
Shackelford (1991), Engel, Erickson and Maydew (1999) and Myers (2000).
14
Collins, Shackelford and Wahlen (1995), Petroni and Shackelford (1995), Mikhail (1999), and Ke, Petroni and
Shackelford (2000).
15
Scholes, Wilson, and Wolfson (1992), Guenther (1994), Dhaliwal, Frankel, and Trezevant (1994), and Maydew
(1997).

8
4. Directions for future research: where are we going?

In this section I chart several paths that future tax research might take, including research

on taxes in asset pricing and a number of corporate finance issues. I also discuss opportunities to

learn from the economics literature and conclude with a discussion of some methodological

issues. The paths are neither mutually exclusive nor exhaustive of the interesting directions for

tax researchers and are clearly influenced by my personal tastes.

4.1. Future research on taxes and asset pricing: tax capitalization and implicit taxes

More so than perhaps any tax area, research on the role of taxes in asset pricing is spread

across literatures in economics, finance, and accounting. Unfortunately, differences in

terminology across these fields hamper integration of research findings. In particular, I would

argue that implicit taxes and tax capitalization are the same phenomena. In accounting the term

“implicit taxes” was popularized by Scholes and Wolfson to describe the phenomenon where tax

favored assets bear lower pretax returns than tax disfavored assets. 17 “Tax capitalization” is the

favored term among economists and is gaining ground with accountants. 18 Taxes are said to be

capitalized into prices when current prices are lower than they otherwise would be given future

taxes on those assets.

Consider a taxable bond and a tax-exempt bond that have the same pretax interest

payments. If investors are willing to pay less for the taxable bond than for the tax-exempt bond

then tax capitalization is said to have occurred in the taxable bond. When the price of the taxable

16
Guenther, Maydew and Nutter (1997), Ayers (1998), Mills (1998), Miller and Skinner (1998), and Sansing
(1998).
17
Scholes and Wolfson (1992), Guenther (1994), Erickson and Maydew (1998), and Scholes et al. (2001).

9
bond is driven down, its pretax return rises. In this case, the tax-exempt bond is said to bear

implicit taxes to the extent it bears a lower pretax return than the taxable bond. Thus, we see that

tax capitalization and implicit taxes are two sides of the same coin. Tax capitalization tends to

be defined in terms of the prices of tax disfavored assets, while implicit taxes tend to be defined

in terms of pretax returns of tax favored assets. But the terms are equivalent.

I would also argue that tax capitalization and implicit taxes are far more fundamental and

pervasive concepts than they are commonly thought to be. Consider the classic question of

whether there is a tax benefit to corporate leverage, a question not normally associated with tax

capitalization. Modigliani and Miller (1963) examine leverage when there is corporate level

taxation in which interest, but not dividends, are deductible to the firm. Modigliani and Miller

(1963) assume no investor level taxes and find massive tax gains to leverage. By assuming no

investor level taxes, however, there is no opportunity for differing investor level taxation to

affect the pretax return on debt versus equity. Thus, if investor level taxes do not affect pretax

returns on debt and equity then a large tax gain from leverage will exist.

Miller (1977) allows for personal level taxes and greater investor level taxation of interest

than returns on equity. In Miller’s setting, the greater investor tax burden on interest causes

investors to demand an increased pretax return on debt relative to equity (equivalent to bidding

up the price of equity relative to debt) such that the corporation enjoys no tax gain to leverage.

The tax disadvantage to leverage at the investor level offsets the corporate level tax advantage to

interest deductibility. The classic question of whether there are tax gains to leverage boils down

to whether investor level taxation affects the equilibrium prices and pretax returns of debt

relative to equity. The tax gains to leverage question is essentially just one example of the

larger question of the extent to which tax capitalization / implicit taxes occur.

18
Collins and Kemsley (2000) and Lang and Shackelford (2000).

10
 Existing studies of tax capitalization / implicit taxes for the most part simply document

the assets and settings in which tax capitalization appears to be taking place. While such studies

are useful, tax capitalization research could benefit from a stronger link to the economic theory

of tax incidence. Without a foundation of underlying theory, tax capitalization research has

been unable to address key questions. Under what conditions do we expect tax capitalization to

take place? What factors determine the extent of tax capitalization? The public economics

literature demonstrates that the economic incidence of a particular tax depends on the effect that

tax has on equilibrium prices and quantities, with the extent of the effect determined by the

elasticity of supply and demand. Tax capitalization viewed more broadly is a manifestation of

the economic incidence of the tax. 19

4.2. Future research on taxes and corporate finance

Taxes potentially affect a number of corporate decisions that fall under the purview of

corporate finance. For example, Brealey and Myers (2000) has chapters devoted to debt policy,

dividend policy, pensions, options, leasing, hedging, mergers and acquisitions, and financial

intermediation (e.g., banking, insurance, mutual funds), all of which are affected by taxes.

Accounting researchers can use their institutional knowledge to contribute to these literatures, for

example, by identifying unusual quasi-experimental settings or events that can be used to test

theories. 20

Accounting researchers have made initial inroads into tax effects on domestic mergers

and acquisitions, but the role of taxes in cross-border mergers and acquisitions is largely

19
See Shackelford (1991) for an example of paper that uses the concepts of tax shifting and tax incidence.
20
For example, Lang, Maydew, and Shackelford (2001) use Germany’s repeal of capital gains taxes on the sales of
cross-holdings to provide evidence relevant to, among other things, the “diversification discount” controversy in
finance.

11
unknown and deserving of more attention. 21 Promising new research examines the role taxes

play in decisions of pension funds and mutual funds, and even not-for-profit organizations. 22

Further research also is needed to explain why some firms appear to be more aggressive tax

planners than other firms, whether the existence of international operations affects tax planning

ability, and the prevalence of corporate tax shelters. 23

In the areas of capital structure and dividend policy, opportunity exists to clarify whether

taxes do indeed have large effects on the pricing of debt and equity securities. In particular,

considerable controversy has surrounded several studies that claim to find large valuation effects

from the taxation of dividends (Harris and Kemsley, 1999; Harris, Hubbard and Kemsley, 2000;

and Collins and Kemsley, 2000). Shackelford and Shevlin (2000) detail several concerns with

this literature and in places refer to its findings as “controversial” and “implausible.”

Some, but certainly not all, of these concerns are probably due to the lack of caveats in

Harris and Kemsley (1999). For example, Harris and Kemsley (1999) sum up their findings as

“robust evidence that dividend taxes have a substantial, predicable influence on the relative

valuation weights investors assign to equity versus earnings…” (p. 289). In contrast, Collins and

Kemsley (2000), cautions that “…we do not consider our evidence conclusive” and “firm

evidence should be deferred until more evidence is collected” (p. 425-426). In a recent

examination of dividend capitalization, Dhaliwal, Erickson, Myers, and Banji (2001) question

the robustness of Harris and Kemsley (1999) and provide a variety of reasons to question the

model of dividend capitalization employed in that study and related studies. I discuss two key

concerns with these models of dividend tax capitalization.

21
Collins, Kemsley and Shackelford (1995).
22
See Kraft and Weiss (2000), Myers (2000), and Yetman (2000).
23
Phillips (1999) and Olhoft (2000).

12
 First, these studies are built on the shaky assumption that all earnings are eventually

distributed to shareholders as taxable dividends. It is common knowledge that the taxation of all

firm earnings as dividends at the shareholder level is not inevitable as the studies assume. For

example, dividend taxation can be avoided through share repurchases and liquidating dividends,

both of which are normally taxed at more favorable capital gains rates. Certain acquisition

structures also result in the distribution of earnings without triggering dividend taxation. The

question is, if dividend taxes did have large negative effects on firm value as the above studies

claim, wouldn’t firms avoid decreasing their value by engaging in more share repurchases than

they do?

Second, how could large valuation effects from dividend taxation exist in the presence of

tax clienteles and tax arbitrage by non-taxable investors? Even if all earnings were distributed in

the form of taxable dividends, the taxes on those dividends can be avoided by having a non-

taxable investor hold the stock at the time of the dividend, a clientele effect. Further, non-

taxable investors could profit from tax arbitrage involving “dividend capture” in which they go

long in stocks around the time they make their dividend distributions and short in stocks not

making distributions. I am not suggesting that tax arbitrage will necessarily eliminate all of the

effects of dividend taxation, as Shleifer and Vishny (1997) show that arbitrage can be risky in

practice. Coupled with the concerns detailed in Shackelford and Shevlin (2000), the concerns

above indicate a need for additional research to determine the extent to which dividend taxes are

capitalized into firm value.

13
4.3. Drawing from economics

As tax research in accounting matures as an area it is natural that increasingly

sophisticated economic theory will be brought to bear on the analysis. While tax research in

accounting is largely microeconomics based, there is room for improvement in the level of

economic analysis actually used. In the future I expect enterprising researchers to draw more

heavily from the economics literature both in terms of theory and approach.

For example, when economists think about the effects of taxes on decision making, they

often think in terms of the economic distortions created by the tax rules in question. In

particular, when taxes affect prices they can lead to substitution effects that generate deadweight

costs (which can be loosely defined as the loss in economic efficiency in excess of the tax

revenues collected; also called the “excess burden of taxation”). Such concepts have barely

penetrated tax research in accounting. 24 Shackelford and Shevlin (2000) conjecture that tax

accountants tend to ignore the long history of tax research in finance and economics because

they are preoccupied with the Scholes-Wolfson paradigm shift. If that is true, then it sadly runs

counter to the intent of Scholes and Wolfson, which was to inject economics and finance into tax

research in accounting.

4.4. Methodological issues

Shackelford and She vlin (2000) raise a number of methodological issues on which I

would like to comment. First, I agree that the Plesko (1999) criticisms of financial accounting-

based marginal tax rates are premature based on the evidence in that paper. 25 Shevlin (1999)

24
Anand and Sansing (2000) and Goolsbee and Maydew (2000).
25
Shevlin (1990, 1999) and Graham (1996).

14
describes several concerns with Plesko’s (1999) marginal tax rate analysis. I would add that

Plesko’s (1999) definitions of effective tax rates also are not meaningful. Plesko (1999) defines

effective tax rates with the numerators as measures of taxes paid and the denominators as

measures of taxable income. The problem is the unusual approach of using taxable income as

the denominator in the effective tax rate. Such ratios by definition will approximate the statutory

tax rate, with departures apparently reflecting the existence of tax credits. I do agree with Plesko

(1999) that more work is needed to examine the accuracy of marginal and effective tax rate

estimates that use financial statement data.

Second, Shackelford and Shevlin (2000) raise the issue of self-selection in tax research,

which has not received much attention in the tax literature. Self-selection is pervasive in that the

issue can arise whenever the researcher lacks the ability to randomly assign observations – quasi-

experimentation in the sense of Cook and Campbell (1979) – which is the norm in social science

research. Enterprising researchers may find it useful to re-examine the prior tax literature to

determine when the results differ once self-selection is controlled for using well-accepted

econometric techniques. 26 Of course, I must admit that self-selection is not peculiar to tax

research, nor has anyone made a case that self-selection is more problematic in tax research than

in other areas of accounting or finance research.

Finally, I am not convinced (though I could be) with the assertion that interaction effects

are necessary to infer tax and non-tax trade-offs in regressions of a decision on variables that

proxy for tax and non-tax costs (Shackelford and Shevlin, 2000). Consider the choice between

using the FIFO or LIFO inventory methods. Because of the well-known conformity

requirement, in the LIFO/FIFO choice firms must choose between reducing their current tax

15
liability and reporting high income to their shareholders. The trade-off is imposed by nature (in

this case the LIFO conformity rule) and exists independently of any regression model.

Regressing the inventory method choice on proxies for the tax and financial reporting costs

simply documents which factors are significant in manager’s decision-making. Whether or not

the factors are also trade-offs depends on whether nature requires sacrificing one in order to have

the other. While interaction effects are useful for determining if the level of one variable affects

the importance of another, I do not believe the existence of interaction effects is a necessary

condition for uncovering trade-offs. Hopefully this question will be resolved in the literature.

5. Conclusions

Shackelford and Shevlin (2000) do good job of reviewing archival-empirical tax research

in accounting. My discussion is designed to complement their work by offering several different

perspectives. Several key recurring themes emerge. First, because microeconomic tax research

is interdisciplinary, a thorough appreciation involves examining papers from finance and

economics as well as accounting. Second, most tax research in accounting combines

microeconomics and finance with accountants’ comparative advantage in institutional tax and

accounting factors. Third, while existing tax research is grounded in microeconomics,

opportunities remain for future researchers to draw from the finance and economics literatures on

a level deeper than exists in the extant research. Finally, while predicting the future can be

hazardous, I offer several avenues for future research, such as the role of tax arbitrage in asset

pricing and work on certain methodological issues.

26
See Heckman (1976, 1979) and Maddala (1991). For examples tax research that dealt with issues of self-
selection, see Graham, Lemmon, and Schallheim (1998), Guenther, Maydew and Nutter (1997) and Maydew,
Schipper and Vincent (1999).

16
References

Allen, F., A. Bernardo, and I. Welch, 2000. A theory of dividends based on tax clienteles.
Journal of Finance 55 (6), 2499-2536.

Anand, B. and R. Sansing, 2000. The weighting game: formula apportionment as an instrument
of public policy. National Tax Journal, 183-200.

Ayers, B., 1998. Deferred tax accounting under SFAS No. 109: An empirical investigation of its
incremental value-relevance relative to APB No. 11. The Accounting Review 73:2, 195-
212.

Ayers, B., Lefanowicz, C., Robinson. J., 2000. The effects of goodwill tax deductions on the
market for corporate acquisitions. Journal of the American Taxation Association 22
(Supplement), forthcoming.

Bali, R. and G. Hite, 1998. Ex dividend day stock price behavior: dicreteness or tax-induced
clienteles? Journal of Financial Economics 47 (2), 127-159.

Barclay, M., N. Pearson, and M. Weisbach, 1998. Open-ended mutual funds and capital-gains
taxes. Journal of Financial Economics 49 (1), 3-43.

Collins, J., Kemsley, D., 2000. Capital gains and dividend capitalization in firm valuation:
Evidence of triple taxation. Accounting Review, forthcoming.

Collins, J., Kemsley, D., Lang, M., 1998. Cross-jurisdictional income shifting and earnings
valuation. Journal of Accounting Research 36 (2), 209-229.

Collins, J., Kemsley, D., Shackelford, D., 1995. Tax reform and foreign acquisitions: A
microanalysis. National Tax Journal 48 (1), 1-21.

Collins, J., Shackelford, D., 1992. Foreign tax credit limitations and preferred stock issuances.
Journal of Accounting Research 30 (Supplement), 103-124.

Collins, J., Shackelford, D., 1997. Global organizations and taxes: An analysis of the dividend,
interest, royalty, and management fee payments between U.S. multinationals’ foreign
affiliates. Journal of Accounting and Economics 24 (2), 151-173.

Collins. J., Shackelford, D., Wahlen J., 1995. Bank differences in the coordination of regulatory
capital, earnings and taxes. Journal of Accounting Research 33 (2), 263-291.

Cook, T. and D. Campbell, 1979. Quasi-experimentation: design and analysis for field settings.
Houghton Mifflin Company (Boston, MA).

17
Crowder, W. and M. Wohar, 1999. Are tax effects important in the long-run fisher relationship?
Evidence from IPOs. Journal of Finance 54 (1), 307-317.

Dhaliwal, D., Frankel, M., Trezevant, R., 1994. The taxable and book income motivations for a
LIFO layer liquidation. Journal of Accounting Research 32 (2), 278-289.

Dhaliwal, D., M. Erickson, M. Myers, and M. Banyi, 2001. Are shareholder dividend taxes on
corporate retained earnings impounded in equity prices? Additional evidence and
analysis. University of Arizona and University of Chicago working paper.

Elton, E. and C. Green, 1998. Tax and liquidity effects in pricing government bonds. Journal of
Finance 53 (5), 1533-1562.

Engel, E., Erickson, M., Maydew, E., 1999. Debt-equity hybrid securities. Journal of Accounting
Research 37 (2), 249-274.

Erickson, M., 1998. The effect of taxes on the structure of corporate acquisitions. Journal of
Accounting Research 36 (2), 279-298.

Erickson, M. and E. Maydew, 1998. Implicit taxes in high dividend yield stocks. Accounting
Review 73 (4), 435-458.

Erickson, M. and S. Wang, 2000, The effect of transaction structure on price: evidence from
subsidiary sales. Journal of Accounting and Economics, forthcoming.

Goolsbee, A., and E. Maydew, 2000. Coveting thy neighbor’s manufacturing: The dilemma of
state income apportionment. Journal of Public Economics 75, 125-143.

Graham, J., 1996. Proxies for the marginal tax rate. Journal of Financial Economics 42 (2), 187-
221.

Graham, J., 2000. How big are the tax benefits of debt? Journal of Finance 55 (5), 1901-1941.

Graham, J., M. Lemmon, and J. Schallheim, 1998. Debt, leases, taxes and the endogeneity of
corporate tax status. Journal of Finance 53 (1), 131-162.

Graham, J. and C. Smith, 1999. Tax incentives to hedge. Journal of Finance 54 (6), 2241-2262.

Guenther, D., 1994a. Earnings management in response to corporate tax rate changes: Evidence
from the 1986 Tax Reform Act. Accounting Review 69 (1), 230-243.

Guenther. D. 1994b. The relation between tax rates and pretax returns: Direct evidence from the
1981 and 1986 tax rate reductions. Journal of Accounting and Economics 18 (3), 379-
393.

18
Guenther, D., Maydew, E., Nutter, S., 1997. Financial reporting, tax costs, and book-tax
conformity. Journal of Accounting and Economics 23 (3), 225-248.

Guenther, D., Willenborg, M., 1999. Capital gains tax rates and the cost of capital for small
business: Evidence from the IPO market. Journal of Financial Economics 53, 385-408.

Fama, E. and K. French, 1998. Taxes, financing decisions, and firm value. Journal of Finance
53 (3), 819-843.

Harris, T., Kemsley, D., 1999. Dividend taxation in firm valuation: New evidence. Journal of
Accounting Research 37 (2), 275-291.

Heckman, J., 1976. The common structure of statistical models of truncation, sample selection,
and limited dependent variables and a simple estimator for such models. Annals of
Economic and Social Measurement 5, 475-492.

Heckman, J., 1979. The sample-selection bias as a specification error. Econometrica 47, 153-
162.

Ke, B., Petroni, K., Shackelford, D., 2000. The impact of state taxes on self-insurance. Journal
of Accounting and Economics 30:1, forthcoming.

Keating, S., Zimmerman, J., 2000. Depreciation policy changes: Tax, earnings management, and
investment opportunity incentives. Journal of Accounting and Economics, forthcoming.

Klassen, K., Lang, M., Wolfson, M., 1993. Geographic income shifting by multinational
corporations in response to tax rate changes. Journal of Accounting Research 31
(Supplement), 141-173.

Kraft, A. and I. Weiss, 2000, Tax planning by mutual funds: evidence from changes in the
capital gains tax rate. University of Rochester / Columbia University working paper.

Lang, M., Shackelford, D., 2000. Capitalization of capital gains taxes: Evidence from stock price
reactions to the 1997 rate reductions. Journal of Public Economics 76: 69-85.

Lang, M., E. Maydew, and D. Shackelford, 2001. Bringing down the other Berlin Wall:
Germany’s repeal of the corporate capital gains tax. University of North Carolina
working paper.

Maddala, G., 1991. A perspective on the use of limited-dependent variables and qualitative
variables models in accounting research. The Accounting Review 66, 788-807.

Matsunaga, S., Shevlin, T., Shores, D., 1992. Disqualifying dispositions of incentive stock
options: Tax benefits versus financial reporting costs. Journal of Accounting Research 30
(Supplement), 37-76.

19
Maydew, E., 1997. Tax-induced earnings management by firms with net operating losses.
Journal of Accounting Research 35 (1), 83-96.

Maydew, E., Schipper, K., Vincent, L., 1999, The impact of taxes on the choice of divestiture
method. Journal of Accounting and Economics 28: 117-150.

Mikhail, M., 1999. Coordination of earnings, regulatory capital and taxes in private and public
companies. Working paper, MIT, Cambridge, MA.

Miller, G., Skinner, D., 1998. Determinants of the valuation allowance for deferred tax assets
under SFAS No. 109. Accounting Review 73:2, 213-233.

Miller, M., 1977. Debt and taxes. Journal of Finance 32 (May), 261-276.

Mills, L., 1998. Book-tax differences and Internal Revenue Service adjustments. Journal of
Accounting Research 36 (2), 343-356.

Modigliani, F., Miller, M., 1963. Corporate income taxes and the cost of capital: A correction.
American Economic Review, 433-443.

Modigliani, F., Miller, M., 1958. The cost of capital, corporation finance, and the theory of
investment. American Economic Review 53, 261-297.

Myers, M., 2000, The impact of taxes on corporate defined benefit plan asset allocation.
University of Chicago working paper.

Murray, F. and J. Ravi, 1998. Why do stock prices drop by less than the value of the dividend?
Evidence from a country without taxes. Journal of Financial Economics 47 (2), 161-188.

Naranjo, A., M. Nimalendran, and M. Ryngaert, 1998. Stock returns, dividend yields, and taxes.
Journal of Finance 53 (6), 2029-2057.

Ohlson, J., 1995. Earnings, book values and dividends in security valuation. Contemporary
Accounting Research 11, 661-687.

Olhoft, S., 1999. The tax avoidance activities of U.S. multinational corporations. Working paper,
University of Iowa, Iowa City, IA.

Reese, W., 1998. Capital gains taxation and stock market activity: evidence from IPOs. Journal
of Finance 53 (5), 1799-1819.

Petroni, K., Shackelford, D., 1995. Taxation, regulation, and the organizational structure of
property-casualty insurers. Journal of Accounting and Economics 20 (3), 229-253.

Phillips, J. 1999. Corporate tax planning effectiveness: The role of incentives. Working paper.
University of Connecticut, Storrs, CT.

20
Plesko, G., 1999. An evaluation of alternative measures of corporate tax rates. Working paper.
MIT, Boston, MA.

Poterba, J. and S. Weisbenner, 2000. The distributional burdens of taxing estates and unrealized
capital gains at the time of death,” MIT University working paper.

Sansing, R., 1998. Valuing the deferred tax liability. Journal of Accounting Research 36:2, 1998.

Scholes, M., Wilson, P., Wolfson, M., 1992. Firms’ responses to anticipated reductions in tax
rates: The Tax Reform Act of 1986. Journal of Accounting Research 30 (Supplement),
161-191.

Scholes, M., Wilson, P., Wolfson, M., 1990. Tax planning, regulatory capital planning, and
financial reporting strategy for commercial banks. Review of Financial Studies, 625-650.

Scholes, M., Wolfson, M., 1992. Taxes and Business Strategy. Engelwood Cliffs, NJ: Prentice-
Hall, Inc.

Scholes, M., M. Wolfson, M. Erickson, E. Maydew, and T. Shevlin, 2001, Taxes and Business
Strategy, 2nd edition, Prentice Hall.

Shackelford, D., 1991. The market for tax benefits: Evidence from leveraged ESOPs. Journal of
Accounting and Economics 14 (2), 117-145.

Shackelford, D. and T. Shevlin, 2000, Empirical tax research in accounting, Journal of

Accounting and Economics, forthcoming.

Shevlin. T., 1990. Estimating corporate marginal tax rates with asymmetric tax treatment of
gains and losses. Journal of the American Taxation Association 11 (1), 51-67.

Shevlin, T., 1999. A critique of Plesko’s “An evaluation of alternative measures of corporate tax
rates.” Working paper. University of Washington, Seattle, WA.

Shleifer, A. and R. Vishny, 1997. The limits of arbitrage. Journal of Finance 52 (1), 35-56.

Trezevant, R., 1992. Debt financing and tax status: tests of the substitution effect and the tax
exhaustion hypothesis using firms’ responses to the economic recovery tax act of 1981.
Journal of Finance, 1557-1568.

Yetman, R., 2000. Tax planning by not-for-profit organizations. Working paper. University of
Iowa, Iowa City, IA.

21