Tax risk problem

Abstract

We propose a measure of tax risk that uses large ex-post payments to tax authorities to capture firms that might be exposed to future tax risk (tax spike firms). I first validate my measure by showing that tax spike firms indeed face higher future tax risk, as measured by future large tax payments and tax volatility. In addition, these firms have high historical ETRs, which contrasts with the use of low ETRs as a proxy for tax risk in prior research. I then provide evidence that tax spike firms face higher financing costs when raising funds in the syndicated loan market. Finally, using a large hand-collected sample of tax disclosures, I find that lenders charge the largest penalties to firms that disclose a tax settlement and to firms that do not provide proper disclosures explaining their tax spikes. Overall, my study contributes to a better understanding of the types of firms that are exposed to tax risk and the economic consequences these firms face.