How Do Statutory Rates Alter Conforming Tax Avoidance

We examine an international panel of firms to quantify the degree of conforming tax avoidance associated with changes to statutory tax rates and how book-tax conformity alters this type of earnings management. Methodologically, we derive an estimation method that identifies conforming tax avoidance from the cross-border profit shifting literature. Using this approach in an international setting, we find robust evidence of substantial conforming tax avoidance in response to changing statutory tax rates and identify circumstances where this response is stronger. Specifically, the results suggest that a 10 percentage point decrease in the corporate tax rate relates to an 8.2 percent inflation of pre-tax book income, which is more pronounced (smaller) in private (public) firms. Further, this response is stronger when a country switches from having a low to high degree of conformity between its book and tax reporting, highlighting the role of book-tax conformity for a firm’s tax planning strategies.