Brad Badertscher, Sharon Katz and Sonja Rego did a study last fall to investigate how a firm's ownership structure might affect the firm's tax reporting aggressiveness. See Does Private Equity Ownership Affect Tax Reporting Aggressiveness?, Nov. 2008. They found that privately held firms tend to be substantially less aggressive than publicly held firms, except that privately held firms that are majority owned by private equity firms are more aggressive in their tax reporting.
The authors studied a sample of firms, both private and public, that have public debt and thus are required to file financial statements with the SEC. The private firms are further segregated to track aggressiveness of tax reporting of those that are owned by private equity (PE) firms such as The Carlyle Group, The Blackstone Group, and Kohlberg Kravis Roberts & Co., since PE firms are of "growing importance" in the US and typically acquire businesses through leveraged buyouts, taking them private. As the authors note, "critics of PE firms claim these firms aggressively manage their tax liabilities and those of their portfolio companies, i.e., the companies they own....These claims are inconsistent with recent research that suggests PE firms have considerable reputational concerns and are effective monitors of their portfolio companies."
The study uses several proxies for aggressiveness: book-tax differences and cash effective tax rates are treated as proxies for less aggressive reporting while discretionary permanent book-tax differences are treated as a proxy for aggressive tax planning; an adjusted cash effective tax rate measure is used to reflect the benefit of interest expense tax deductions. They conclude that companies that are majority owned by PE firms are the most aggressive.
Tests that compare the tax aggressiveness of majority PE-backed firms to the tax aggressiveness of minority PE-backed firms and management-owned private firms indicate that majority PE-backed firms are significantly more tax aggressive than both of the comparison samples. These results hold across all measures of tax aggressiveness, including the adjusted cash effective tax rate measure. Thus, relative to other privately-held companies, majority PE-backed firms have more aggressive tax reporting across different types of tax planning strategies (i.e., strategies that do and do not generate book-tax differences). To our knowledge this is the first study to provide empirical results that indicate PE-backed firms are more tax aggressive than other privately-held firms.
The authors therefore conclude that "there may be some truth to claims that PE firms aggressively manage the tax liabilities of their portfolio companies."
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