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This study critically reviews the accounting literature of tax avoidance with an emphasis on theories of corporate tax avoidance as well as empirical proxies for tax avoidance. The agency theory should be one of the relevant analytical bases to improve the understanding of the interactions between managers and shareholders with respect to corporate tax avoidance strategies. A number of empirical proxies for corporate tax avoidance are computed using financial statement variables, but their relevance is limited for firms that engage in conforming tax avoidance that reduce both book and taxable income. Alternatively, tax shelters and uncertain tax benefits can be used as proxies for aggressive tax avoidance.
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INTRODUCTION
Tax avoidance represents a firm's deliberate efforts to reduce its tax liabilities through either legal or illegal means or strategies. Since the boundary between legal and illegal acts is not clear, the legality of a firm's tax position is determined by the authoritative bodies after the fact. Thus, there is no clear ex ante distinction between legal tax avoidance and illegal tax evasion. Hanlon and Heitzman (2010) depict the types of tax avoidance behavior on the continuum ranging from a common tax saving strategy of municipal bond investments (legal tax avoidance) up to aggressive tax strategies including tax shelters (illegal tax evasion). Using this model, a firm's tax avoidance strategy can be placed anywhere on the continuum depending upon the degree of aggressiveness the firm pursues in the course of reducing its tax liabilities. In this paper, we address the two terms, tax avoidance and tax evasion with primary interests in corporate tax evasion strategies.
A firm's tax strategy and practice are proprietary information as its tax return is not public information. Tax researchers try to develop inference about a firm's tax policy using proxies that are selected from its financial statements. For example, Lisowsky et al. (2013) illustrate five empirical proxies over the continuum from the legal tax avoidance to the illegal tax evasion, such as a Generally Accepted Accounting Principles (GAAP) effective tax rate, a cash effective tax rate, total book-tax differences, permanent book-tax differences, discretionary permanent book-tax differences, and reportable transactions. As the reportable transactions represent business transactions that are crafted solely to evade taxes without business purposes,...