March 26, 2012
CEOs’ political beliefs influence firms’ tax-avoidance strategies
The political beliefs of corporate CEOs strongly influence the tax-avoidance strategies of the firms they run, and those firms with Republican chief executive officers show a significantly higher level of tax avoidance than do companies with CEOs of no obvious political preference, according to a new study co-authored by a Johns Hopkins business professor.
Moreover, a company’s tax avoidance tends to increase when the CEO supports the incumbent United States president, particularly when a Republican occupies the Oval Office, researchers Xian Sun of Johns Hopkins University, Bill B. Francis of Rensselaer Polytechnic Institute and Iftekhar Hasan of Fordham University assert in their working paper.
The researchers say that their study, covering data from 1992 to 2007, is among the first to provide empirical evidence that the political beliefs of individuals have a marked effect on their attitudes toward tax avoidance. The existing research literature has shown that individual CEOs play a major role in setting their firms’ tax policies, though no previous study in this area has identified the factors that explain this phenomenon.
“It’s an issue of broad economic impact because the savings being realized by these big, asset-heavy companies, while allowed by current tax law, can be viewed as revenue that isn’t realized by the government for public benefit,” said Sun, an assistant professor at the Johns Hopkins Carey Business School.
The term “tax avoidance” refers to legal methods of reducing tax payments, in contrast to the illegal methods of tax evasion, Sun emphasizes.
“Tax avoidance was most prevalent at firms run by Republican CEOs, but we saw that firms with Democratic CEOs also sought ways of cutting their taxes, if not quite on the same scale,” she said. “The firms with Republican CEOs used avoidance measures that ranged from aggressive to less aggressive, including measures that involved long-term tax avoidance. At the companies with Democratic CEOs, the avoidance methods generally involved book-to-tax difference and shelter activities. These are aggressive measures but don’t figure in the firm’s overall level of tax avoidance or in its long-term avoidance strategy. For these executives, improving the bottom line, rather than politics, appeared to be their primary motivation for any tax avoidance.”
As Sun notes, this conclusion falls in line with traditional findings that Republicans are more hostile to taxation and tax increases than Democrats are.
To determine the CEOs’ political sympathies, the researchers combed through a Federal Election Commission database for donations made by CEOs of the 1,500 largest public firms across some 50 industries in the United States. Of the CEOs who made political donations to the two major parties during the 15-year sampling period, about 60 percent gave to Republicans.
By and large, the executives made relatively small contributions—an average of 0.03 percent of their annual compensation—to one party or the other, rarely to both. About 200 of the CEOs switched party allegiance during the sampling period, as indicated by their political donations. The firms of those who switched to the GOP subsequently increased their total tax avoidance, while reduced avoidance was seen at firms where the CEOs switched to the non-Republican side (Democratic or no party preference).
The full study can be found at papers.ssrn.com/sol3/papers.cfm?abstract_id=2013248.