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Does the government-mandated adoption of international financial reporting standards reduce income tax revenue?

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Abstract

The mandatory adoption of International Financial Reporting Standards (IFRS) has been the most noteworthy accounting regulatory change in a multitude of countries. After adopting IFRS, the gap between accounting earnings and taxable income increases in most of these countries. Previous literature suggests that low book-tax conformity is associated with higher corporate tax avoidance, thereby collecting lower income tax revenues. This study applies the propensity score matching method and the difference-in-differences design to empirically examine the impact of the government-mandated adoption of IFRS on a country’s income tax revenue. Using panel data of 137 countries covering the period from 2000 to 2010, the empirical results show that the mandatory IFRS adoption results in a decrease in income tax revenue.

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Notes

  1. For example, according to accounting conservatism of accounting principles, IFRS includes a number of rules on permission of unrealized losses recognition, which causes lower accounting earnings and therefore less income tax revenue based on IFRS-based taxation.

  2. Erickson et al. (2004) show that increased tax payment is less than one-tenth of the overstated accounting earnings.

  3. We apply nearest neighbor matching with replacement, meaning that a comparison unit can be used more than once as a match. Matching with replacement helps to reduce bias (Dehejia and Wahba 2002).

  4. We use a quarter of a standard deviation of the sample estimated propensity as a tolerance level, which is suggested by Rosenbaum and Rubin (1985).

  5. We choose 0.05 as the bandwidth value for the kernel matching. Low-bandwidth values yield an unbiased estimate of the true density function.

  6. These dependent variables in the DID model are common to the literature on tax revenues. For example, Gupta (2007) contributes on the principal determinants of tax revenue performance across developing countries, and the study applies the ratio of income tax revenue to total government revenue to measure tax revenue. Baunsgaard and Keen (2010) examine the effect of trade liberalization on tax revenue. They use the ratio of tax revenue to GDP as a proxy of tax revenue. In addition, the data of the first two variables (taxttr and taxtgr) are directly calculated by World Development Indicators (WDI), which means that the data are commonly used by analysts. The last variable (taxgdp) measures the importance of income tax revenue in terms of the overall economic scale.

  7. In order to control for the cross-sectional variation in the extent to which the adoption of IFRS reduces book-tax conformity, we need to include a proxy variable in the list of explanatory variables. Procházka and Molín (2016) argue that most countries derive taxable income by adjusting accounting earnings reported in statutory accounts in accordance with special provisions set forth in income tax acts. Based on the number of adjustments required, they classify 27 EU countries into three categories: high book-tax conformity, middle book-tax conformity, and low book-tax conformity. Therefore, the number of adjustments required can be used as the proxy variable. Unfortunately, it is quite difficult for us to find the data of this proxy variable for all 137 sample countries. Alternatively, we include the country dummy variables to capture the extent to which IFRS reduces the book-tax conformity and its effect on the tax revenues of each country. Besides, we also use the country fixed effect to capture the extent to which tax law changes and its effect on tax revenues for specific countries.

  8. Tax morale represents taxpayers’ motivation to pay taxes (Luttmer and Singhal 2014). It influences not only personal behaviors but also corporate tax avoidance behaviors.

  9. We exclude 2005 to avoid the potential confounding effects during the transition year (Hong et al. 2014).

  10. 12 percent = 4.754/38.422, where 4.754 is the coefficient of ifrs×post in Column (3) of Table 4, and 38.422 is the mean value of taxttr for IFRS adoption countries reported in Table 1.

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Acknowledgements

We appreciate the insightful comments and suggestions from the anonymous reviewers and the editor.

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Authors and Affiliations

  1. Department of Public Finance and Tax Administration, National Taipei University of Business, No. 321, Sec. 1, Jinan Rd., Zhongzheng District, Taipei City, 100, Taiwan, ROC

    Chih-Wen Mao

  2. Department of Public Finance, National Chengchi University, No. 64, Sec. 2, ZhiNan Rd., Wenshan District, Taipei City, 11605, Taiwan, ROC

    Wen-Chieh Wu

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Correspondence to Wen-Chieh Wu.

Appendices

Appendix A

See Table 7.

Table 7 Sample countries
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Appendix B

See Table 8.

Table 8 Variable definitions
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Appendix C

See Table 9.

Table 9 Test of differences in means after matching
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Mao, CW., Wu, WC. Does the government-mandated adoption of international financial reporting standards reduce income tax revenue?. Int Tax Public Finance 26, 145–166 (2019). https://doi.org/10.1007/s10797-018-9495-2

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