There has been some debate as to whether family firms are more tax aggressive than non-family firms. Like previous studies, we find that all other things being equal, family firms on average engage in less tax avoidance than their non-family counterparts. However, this negative association is attenuated when corporate opacity increases.
In family firms, agency conflicts between dominant and minority shareholders can occur because dominant shareholders (in this case, the family owners) presumably have higher ownership and control than the latter. Minority shareholders are rightfully concerned about the family owner’s rent-seeking activities masked by tax avoidance.
To correct rent-seeking activities by family owners, minority shareholders could impose a price discount on the firm’s stocks, which could lead to a considerable cost for the firm and family owners. When the cost outweighs the benefit, family owners are less willing to engage in tax avoidance in order to avoid other adverse economic consequences (for example, further stock price discounts). Thus, it is thought that family firms would engage in less tax avoidance than non-family firms. In other words, we expect a negative association between family firms and tax avoidance.
As a form of information asymmetry, corporate opacity would aggravate minority shareholders’ perceptions of the family owner’s wealth expropriation. Yet, we know very little about the role of corporate opacity in the association between family firms and tax avoidance. This motivated our research. We investigate whether an increase in corporate opacity influences the negative association between family firms and tax avoidance. We use a sample of publicly listed firms from Taiwan.
Our research
In line with the literature, we define family firms as firms in which family members hold positions on the board of directors or in top management. We apply the criteria for family firms as specified in the Taiwan Economic Journal (TEJ) database. The TEJ database defines family firms as meeting one of the following conditions: (1) family members hold positions on the board of directors or in top management, such as general manager or chief executive officer; (2) more than 50% of the inside directorships on the board of directors are held by family members, and the combined external and affiliated directorships are less than 33%; (3) at least three family members serve either on the board of directors or in top management, and their combined directorships on the board are greater than 33%; and (4) the controlling share percentage exceeds the critical controlling level (which means, family members have overwhelming voting rights to have full control of the firm and make key decisions).
We use multiple tax avoidance measures documented in the literature, namely two effective tax rate measures (effective tax rate and current effective tax rate) and two book–tax difference measures (book–tax difference and discretionary book–tax difference). Firms that engage in more tax avoidance should have lower effective tax rates and larger book–tax differences. In other words, we expect that family firms have higher effective tax rates and smaller book–tax differences than non-family counterparts.
Following prior research, we measure corporate opacity using a composite index of analyst forecast error, analyst forecast dispersion, analyst following, and bid–ask spread. We argue that such a constructed index provides a robust measure of corporate opacity, as it considers both stock market and analyst information.
Findings
We hypothesise that corporate opacity affects the negative association between family firms and tax avoidance. We find that family firms engage in less tax avoidance than non-family firms. This indicates that dominant shareholders in family firms want to avoid corrective action imposed by minority shareholders, such as a stock price discount, which can be a considerable cost to family owners and the firm. In this case, the cost outweighs the tax avoidance benefit. Hence, family firms are less willing to engage in tax avoidance than is the case with non-family firms.
However, when corporate opacity increases, family firms engage in more tax avoidance than non-family firms, indicating a change in trade-off between the reduced cost of tax avoidance and the increased benefit of tax avoidance. When the benefit of tax avoidance outweighs the cost, family firms are willing to engage in more tax avoidance than non-family firms.
Implications
Our results highlight the importance of incorporating the corporate opacity perspective into agency conflicts between dominant and minority shareholders to better understand firms’ tax avoidance. We extend the family business literature by documenting the moderating effect of corporate opacity on the negative association between family firms and tax avoidance. This result might be surprising, given that prior studies find that family firms generally engage in less tax avoidance than non-family firms. This again illustrates the importance of our study.
Future researchers on agency conflicts between dominant and minority shareholders should be aware that corporate opacity could affect any results relating to firms’ tax avoidance. Consistent with prior research, we argue that each firm pursues a unique level of tax avoidance, and that corporate opacity could affect this decision, especially among family firms. Our findings are of value to standard setters concerned with family firms’ tax avoidance, and to academics and minority shareholders concerned about family owners’ rent-seeking activities masked by tax avoidance.
Although our results shed considerable light on the impact of corporate opacity on the negative association between family firms and tax avoidance, their generalisability may be limited to economies with similar levels of family control and ownership, investor protection, and corporate opacity to those found in Taiwan, for example, South Korea and China. Our results may be less significant in economies with stronger investor protection, weaker family control and ownership, and lower corporate opacity, such as the United States. Further studies are warranted to understand the interactive effects of corporate opacity and family ownership on other economies.
Full paper can be downloaded via ScienceDirect: https://www.sciencedirect.com/science/article/abs/pii/S1815566921000217.
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