George A. Plesko
Massachusetts Institute of Technology
Abstract: I develop a model for estimating the tax reporting consequences of discretionary financial reporting that exploits the differences in accounting rules under each system. Using a matched sample of financial statements with tax returns, I examine the relation between discretionary financial accounting accruals and discretionary federal tax accruals. The methodology takes advantage of the contemporaneous nature of financial and tax reporting to mitigate econometric problems identified in previous earnings management studies. I find the extent to which tax reporting reflects discretionary financial reporting varies dramatically by industry, profitability, and the sign of financial discretionary accruals. I also find evidence consistent with managers undertaking tax reducing activities without being subject to financial reporting costs, supporting recent evidence on the differential growth of book and tax income, and with tax sheltering activities.
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