TAX AVOIDANCE AND EARNINGS MANAGEMENT IN MALAYSIAN FIRMS: IMPACT OF TAX INCENTIVES
Abstract
Understanding the relationship between tax avoidance and earnings management is crucial to evaluating tax policies and ensuring transparent financial reporting. Prior research has highlighted complexities and inconsistent findings, particularly concerning the impact of tax-related reporting incentives. This study addresses these issues by examining the influence of tax incentive recipient status on tax avoidance and earnings management among firms listed on the Kuala Lumpur Stock Exchange (KLSE). It examines whether firms receiving tax incentives from the Malaysian Investment Development Authority (MIDA) exhibit different earnings management behaviours than non-recipient firms. This study employs the effective tax rate (ETR) as a measure of tax avoidance and discretionary accruals (DEM) for earnings management. The dataset includes manually extracted financial information from firms listed on the KLSE for the financial year 2017 and a listing of tax incentive recipient firms from MIDA. Analytical techniques include ANOVA, independent samples t-test, and multiple regression analysis. The findings of this study suggest that higher tax avoidance relates to higher earnings management. Additionally, firms receiving tax incentives exhibit significantly higher ETRs than non-recipients. They are less likely to engage in earnings management, suggesting that tax incentives may deter aggressive financial reporting practices due to compliance pressures. The additional analysis indicates that tax incentives do not significantly moderate the relationship between tax avoidance and earnings management, implying that other pressures still play a crucial role. This study contributes to existing knowledge by emphasizing the need for robust regulatory frameworks that balance economic growth and financial reporting integrity.
JEL Classification Codes: H26, M4, M48.
References
Ardyansah, D., & Zulaikha, Z. (2014). Pengaruh size, leverage, profitability, capital intensity ratio dan komisaris independen terhadap effective tax rate (ETR). Diponegoro Journal of Accounting, 3(2), 371-379. Retrieved from https://ejournal3.undip.ac.id/index.php/accounting/article/view/6110
Armstrong, C., Foster, G., & Taylor, D. (2016). Abnormal accruals in newly public companies: opportunistic misreporting or economic activity? Management Science, 62(5), 1316–1338. https://doi.org/10.1287/mnsc.2015.2179
Augustine, Y., & Dwianika, A. (2019). Earnings management in Indonesia: determinant of company size, structure of managerial ownership and profitability on earnings management with asymmetry information and green intellectual capital as moderating variables. South East Asia Journal of Contemporary Business, Economics and Law, 19(5), 176-188.
Akter, M. (2021). Impact of covid-19 on the overall sector of Bangladesh economy: an overview. Bangladesh Journal of Multidisciplinary Scientific Research, 4(1), 40–52. https://doi.org/10.46281/bjmsr.v4i1.1421
Balakrishnan, K., Blouin, J. L., & Guay, W. R. (2019). Tax aggressiveness and corporate transparency. The Accounting Review, 94(1), 45–69. https://doi.org/10.2308/accr-52130
Bauer, T., Kourouxous, T., & Krenn, P. (2018). Taxation and agency conflicts between firm owners and managers: a review. Business Research, 11, 33-76. https://doi.org/10.1007/s40685-017-0054-y
Beatty, A. L., Ke, B., & Petroni, K. R. (2002). Earnings management to avoid earnings declines across publicly and privately held banks. The accounting review, 77(3), 547–570. https://doi.org/10.2308/accr.2002.77.3.547
Blaylock, B., Gaertner, F., & Shevlin, T. (2015). The association between book-tax conformity and earnings management. Review of Accounting Studies, 20(1), 141-172. https://doi.org/10.1007/s11142-014-9291-x
Bondonio, D., & Greenbaum, R. T. (2006). Do business investment incentives promote employment in declining areas? Evidence from EU Objective-2 regions. European Urban and Regional Studies, 13(3), 225-244. https://doi.org/10.1177/0969776406065432
Bornemann, T., Laplante, S. K. O., & Osswald, B. (2023). The effect of intellectual property boxes on innovative activity and tax benefits. Journal of the American Taxation Association, 45(2), 7-33. https://doi.org/10.2308/JATA-2021-013
Caiumi, A. (2011). The evaluation of the effectiveness of tax expenditures-a novel approach: An application to the regional tax incentives for business investments in Italy. https://doi.org/10.1787/22235558
Capras, I. L., Achim, M. V., & Mara, E. R. (2024). Is tax avoidance one of the purposes of financial data manipulation? The case of Romania. Journal of Risk Finance, 25(4), 588-601. https://doi.org/10.1108/JRF-11-2023-0273
Chen, S., Chen, X., Cheng, Q., & Shevlin, T. (2010). Are family firms more tax aggressive than non-family firms?. Journal of Financial Economics, 95(1), 41–61. https://doi.org/10.1016/j.jfineco.2009.02.003
Chien, F., Sadiq, M., Nawaz, M. A., Hussain, M. S., Tran, T. D., & Le Thanh, T. (2021). A step toward reducing air pollution in top Asian economies: The role of green energy, eco-innovation, and environmental taxes. Journal of Environmental Management, 297, 113420. https://doi.org/10.1016/j.jenvman.2021.113420
Christensen, J., & Murphy, R. (2004). The social irresponsibility of corporate tax avoidance: Taking CSR to the bottom line. Development, 47(3), 37–44. https://doi.org/10.1057/palgrave.development.1100066
Dechow, P. M., Sloan, R. G., & Sweeney, A. P. (1995). Detecting earnings management. The Accounting Review, 70(2), 193–225. Retrieved from https://www.jstor.org/stable/248303
Dechow, P. M., Sloan, R. G., & Sweeney, A. P. (1996). Causes and consequences of earnings manipulation: An analysis of firms subject to enforcement actions by the SEC. Contemporary accounting research, 13(1), 1–36. https://doi.org/10.1111/j.1911-3846.1996.tb00489.x
Delgado, F. J., Fernández-Rodríguez, E., & García-Fernández, R. (2023). Tax avoidance and earnings management: A neural network approach for the largest European economies. Financial Innovation, 9(19). https://doi.org/10.1186/s40854-022-00424-8
Derashid, C., & Zhang, H. (2003). Effective tax rates and the "industrial policy" hypothesis: Evidence from Malaysia. Journal of International Accounting, Auditing and Taxation, 12(1), 45–62. https://doi.org/10.1016/S1061-9518(03)00003-X
Desai, M. A., & Dharmapala, D. (2006). Corporate tax avoidance and high-powered incentives. Journal of Financial Economics, 79(1), 145-179. https://doi.org/10.1016/j.jfineco.2005.02.002
Desai, M. A., & Dharmapala, D. (2009). Corporate tax avoidance and firm value. The Review of Economics and Statistics, 91(3), 537-546. Retrieved from https://www.jstor.org/stable/25651357
Desai, M. A., Dyck, A., & Zingales, L. (2007). Theft and taxes. Journal of Financial Economics, 84(3), 591–623. https://doi.org/10.1016/j.jfineco.2006.05.005
Dhaliwal, D. S., Gleason, C. A., & Mills, L. F. (2004). Last-chance earnings management: Using the tax expense to meet analysts' forecasts. Contemporary Accounting Research, 21(2), 431-459. https://doi.org/10.1506/TFVV-UYT1-NNYT-1YFH
Dyreng, S. D., Hanlon, M., & Maydew, E. L. (2008). Long-run corporate tax avoidance. The Accounting Review, 83(1), 61-82. https://doi.org/10.2308/accr.2008.83.1.61
Fan, J. P. H., & Wong, T. J. (2002). Corporate ownership structure and the informativeness of accounting earnings in East Asia. Journal of Accounting and Economics, 33(3), 401-425. https://doi.org/10.1016/S0165-4101(02)00047-2
Field, J. (2013). Cognitive validity. In A. Geranpayeh & L. Taylor (Eds.), we are examining listening. (pp. 77–151). Cambridge University Press
Fitzgibbon, W., & Starkman, D. (2017). The 'Paradise Papers' and the long twilight struggle against offshore secrecy. International Consortium of Investigative Journalists. Retrieved from https://www.icij.org/investigations/paradise-papers/paradise-papers-long-twilight-struggle-offshore-secrecy/
Frank, M. M., Lynch, L. J., & Rego, S. O. (2009). Tax reporting aggressiveness and its relation to aggressive financial reporting. The Accounting Review, 84(2), 467–496. https://doi.org/10.2308/accr.2009.84.2.467
Ghazinoory, S., & Hashemi, Z. (2021). Do tax incentives and direct funding enhance innovation input and output in high-tech firms? The Journal of High Technology Management Research, 32(1), 100394. https://doi.org/10.1016/j.hitech.2020.100394
Goerke, L. (2019). Corporate social responsibility and tax avoidance. Journal of Public Economic Theory, 21(2), 310–331. https://doi.org/10.1111/jpet.12341
Goncharov, I., & Zimmermann, J. (2006). Earnings management when incentives compete: The role of tax accounting in Russia. Journal of International Accounting Research, 5(1), 41-65. https://doi.org/10.2308/jiar.2006.5.1.41
Guenther, D. A. (1994). Earnings management in response to corporate tax rate changes: Evidence from the 1986 Tax Reform Act. The Accounting Review, 69(1), 230-243. Retrieved from https://www.jstor.org/stable/248269
Guenther, D. A., Krull, L. K., & Williams, B. M. (2021). Identifying different types of tax avoidance: Implications for empirical research. Journal of the American Taxation Association, 43(1), 27-50. https://doi.org/10.2308/jata-17-044
Guenther, D. A., Matsunaga, S. R., & Williams, B. M. (2017). Is tax avoidance related to firm risk? The Accounting Review, 92(1), 115-136. https://doi.org/10.2308/accr-51408
Gunny, K. A. (2010). The relation between earnings management using real activities manipulation and future performance: Evidence from meeting earnings benchmarks. Contemporary Accounting Research, 27(3), 855–888. https://doi.org/10.1111/j.1911-3846.2010.01029.x
Gupta, S., & Newberry, K. (1997). Determinants of the variability in corporate effective tax rates: Evidence from longitudinal data. Journal of Accounting and Public Policy, 16(1), 1–34. https://doi.org/10.1016/S0278-4254(96)00055-5
Hanlon, M., & Heitzman, S. (2010). A review of tax research. Journal of Accounting and Economics, 50(2-3), 127-178. https://doi.org/10.1016/j.jacceco.2010.09.002
Hanlon, M., & Slemrod, J. (2009). What does tax aggressiveness signal? Evidence from stock price reactions to news about tax shelter involvement. Journal of Public Economics, 93(1-2), 126-141. https://doi.org/10.1016/j.jpubeco.2008.09.004
Harris, M. N., & Feeny, S. (2003). Habit persistence in effective tax rates. Applied Economics, 35(8), 951–958. https://doi.org/10.1080/0003684032000050577
Hooy, G. K., & Phua, L. K. (2023). CEO power, board tenure diversity and tax avoidance: Empirical evidence from Malaysia. Malaysian Journal of Economic Studies, 60(2), 145-162. https://doi.org/10.22452/MJES.vol60no2.1
Kang, F., Yu, Q., & Wan, M. (2023). Corporate innovation incentive policy during business cycles: Fiscal subsidies or tax incentives?. Emerging Markets Finance and Trade, 59(7), 2190-2203. https://doi.org/10.1080/1540496X.2023.2167488
Karjalainen, J., Kasanen, E., Kinnunen, J., & Niskanen, J. (2023). Dividends and tax avoidance as drivers of earnings management: Evidence from dividend-paying private SMEs in Finland. Journal of Small Business Management, 61(2), 906-937. https://doi.org/10.1080/00472778.2020.1824526
Karlinah, L., Meutia, M., Hanifah, I. A., & Ismawati, I. (2024). How does financial performance moderate the effect of corporate governance mechanisms on tax avoidance? Quality - Access to Success, 25(201), 292-302. https://doi.org/10.47750/QAS/25.201.32
Kim, K. A., & Limpaphayom, P. (1998). Taxes and firm size in Pacific-Basin emerging economies. Journal of International Accounting, Auditing and Taxation, 7(1), 47-68. https://doi.org/10.1016/S1061-9518(98)90005-2
Klein, A. (2002). Audit committee, board of director characteristics, and earnings management. Journal of Accounting and Economics, 33(3), 375–400. https://doi.org/10.1016/S0165-4101(02)00059-9
Klemm, A., & Van Parys, S. (2012). Empirical evidence on the effects of tax incentives. International Tax and Public Finance, 19, 393-423. https://doi.org/10.1007/s10797-011-9194-8
Kolko, J., & Neumark, D. (2010). Does local business ownership insulate cities from economic shocks? Journal of Urban Economics, 67(1), 103-115. https://doi.org/10.1016/j.jue.2009.08.006
Lin, Z., Liu, M., & Noronha, C. (2016). The impact of corporate governance on informative earnings management in the Chinese market. Abacus, 52(3), 568-609. https://doi.org/10.1111/abac.12084
McClure, C. G. (2023). How costly is tax avoidance? Evidence from structural estimation. The Accounting Review, 98(6), 353–380. https://doi.org/10.2308/TAR-2020-0465
Mills, L. F., & Newberry, K. J. (2001). The influence of tax and nontax costs on book-tax reporting differences: Public and private firms. Journal of the American Taxation Association, 23(1), 1–19. https://doi.org/10.2308/jata.2001.23.1.1
Noor, R. M., Mastuki, N. A., & Bardai, B. (2008). Corporate effective tax rates: A study on Malaysian public listed companies. Malaysian Accounting Review, 7(1), 1-20.
Okoth, E. (2023). Effects of Tax Incentives and Subsidies on Economic Growth in Developing Economies. International Journal of Research and Innovation in Social Science, 7(7), 567–581.
Pallant, J. (2020). SPSS survival manual: A step-by-step guide to data analysis using IBM SPSS. Routledge. https://doi.org/10.4324/9781003117452
Park, Y. W., & Shin, H. H. (2004). Board composition and earnings management in Canada. Journal of Corporate Finance, 10(3), 431–457. https://doi.org/10.1016/S0929-1199(03)00025-7
Pfordten, D. (2024, February 22). INTERACTIVE: RM6.34bil lost to tax evasion - LHDN. The Star. Retrieved from https://www.thestar.com.my/news/nation/2024/02/22/interactive-rm634bil-lost-to-tax-evasion---irb
Putri, A., Rohman, A., & Chariri, A. (2016). Tax avoidance, earnings management, and corporate governance mechanism: An evidence from Indonesia. International Journal of Economic Research, 13(4), 1931-1943.
Olaniyi, T. A., Abogun, S., & Salam, M. O. (2020). Earnings Predictability of Quoted Firms in Nigeria. Bangladesh Journal of Multidisciplinary Scientific Research, 2(1), 23-32. https://doi.org/10.46281/bjmsr.v2i1.506
Rohaya, M. N., Nur Syazwani, M. F., & Nor'Azam, M. (2010). Corporate tax planning: A study on corporate effective tax rates of Malaysian listed companies, 1(2), 189-194. https://doi.org/10.7763/IJTEF.2010.V1.34
Roychowdhury, S. (2006). Earnings management through real activities manipulation. Journal of Accounting and Economics, 42(3), 335–370. https://doi.org/10.1016/j.jacceco.2006.01.002
Salkind, N. J. (2017). Tests & measurement for people who (think they) hate tests & measurement. Sage Publications.
Sánchez-Ballesta, J. P., & Yagüe, J. (2021). Financial reporting incentives, earnings management, and tax avoidance in SMEs. Journal of Business Finance & Accounting, 48(7-8), 1404-1433. https://doi.org/10.1111/jbfa.12519
Schipper, K. (1989). Earnings management. Accounting Horizons, 3(4), 91–102.
Seidman, J. K., & Stomberg, B. (2017). Equity compensation and tax avoidance: Disentangling managerial incentives from tax benefits and reexamining the effect of shareholder rights. The Journal of the American Taxation Association, 39(2), 21-41. https://doi.org/10.2308/atax-51755
Shaxson, N. (2015, August 25). The West African tax giveaway: New report. Tax Justice Network. Retrieved from https://taxjustice.net/2015/08/25/the-west-african-tax-giveaway-new-report/
Shim, H., Choi, K., & Yoo, J. S. (2022). Examination on tax avoidance measures and earnings management: Focusing on effective tax rates and discretionary accruals. Korean Accounting Review, 47(2), 101–141. https://doi.org/10.24056/KAR.2022.04.004
Tabachnick, B. G., Fidell, L. S., & Ullman, J. B. (2013). Using multivariate statistics (Vol. 6, pp. 497-516). Boston, MA: Pearson.
Tian, B., Yu, B., Chen, S., & Ye, J. (2020). Tax incentive, R&D investment and firm innovation: Evidence from China. Journal of Asian Economics, 71, 101245. https://doi.org/10.1016/j.asieco.2020.101245
Wang, J., Fan, W., & Wang, Z. (2024). Tax incentives and earnings management: A study based on accelerated depreciation policy in China. Economic Analysis and Policy, 81, 281-296. https://doi.org/10.1016/j.eap.2023.11.036
Wu, K. (2024). The interaction between incentive and opportunity in corporate tax planning: Evidence from financially constrained firms. Advances in Accounting, 100757. https://doi.org/10.1016/j.adiac.2024.100757
Xie, H. (2001). The mispricing of abnormal accruals. The Accounting Review, 76(3), 357–373. https://doi.org/10.2308/accr.2001.76.3.357
Yu, M., Hsieh, C.-C., & Tsang, A. (2024). Cross-border regulatory cooperation and corporate tax avoidance. Journal of Corporate Accounting & Finance, 35(3), 157-179. https://doi.org/10.1002/jcaf.22702
Zhang, F., Wu, G., Zhu, L., & Zhang, W. (2023). The impact of fiscal squeeze on corporate tax avoidance behaviors: Evidence from the agricultural tax reform. Economic Analysis and Policy, pp. 79, 890–901. https://doi.org/10.1016/j.eap.2023.07.002
Zimmerman, J. L. (1983). Taxes and firm size. Journal of Accounting and Economics, 5, 119-149. https://doi.org/10.1016/0165-4101(83)90008-3
Zucman, G. (2017, November 10). How corporations and the wealthy avoid taxes (and how to stop them). The New York Times. Retrieved from https://www.nytimes.com/interactive/2017/11/10/opinion/gabriel-zucman-paradise-papers-tax-evasion.html
Copyright (c) 2024 Salsiah Mohd Ali, Mariati Norhashim, Nahariah Jaffar
This work is licensed under a Creative Commons Attribution 4.0 International License.
