Does Tax Disclosure Confuse Investors

In this paper, we investigate whether and how mandatory disclosure of selected tax-return information as well as additional voluntary tax disclosure affect divergence of opinion among investors, reflected in higher trading volume due to differential interpretations. We investigate the information content of tax disclosure and draw inferences on whether investors are able to interpret tax information, and on whether sophisticated investors are better at understanding such information. We use the Australian setting in which both mandatory and voluntary disclosure have recently been introduced. We show that around the first mandatory disclosure event, investors of disclosed firms disagree more than investors of non-disclosed firms. This effect is more pronounced for companies with low institutional ownership – i.e. with less sophisticated investors. Next, we test whether and how additional voluntary tax disclosure complementing the mandatory tax-return disclosure is associated with investor disagreement. For firms with high (low) institutional ownership, voluntary tax disclosure is associated with lower (higher) disagreement from interpretations. The overall results suggest that institutional, more sophisticated investors can interpret tax information (both mandatory and voluntary) better. For less sophisticated investors, more tax information may cause some confusion and different interpretations and thus more disagreement. This paper presents noteworthy and novel results on whether investors understand mandatory and voluntary tax disclosure. As such, we contribute to a strand of literature on the informational effect of tax transparency, and provide insights for firms, investors, and policy makers.