ABSTRACT This study examines equity risk incentives as one determinant of corporate tax aggressiveness. Prior research finds that equity risk incentives motivate managers to make risky investment and financing decisions, since risky activities increase stock return volatility and the value of stock option portfolios. Aggressive tax strategies involve significant uncertainty and can impose costs on both firms and managers. As a result, managers must be incentivized to engage in risky tax avoidance that is expected to generate net benefits for the firm and its shareholders. We predict that equity risk incentives motivate managers to undertake risky tax strategies. Consistent with this prediction, we find that larger equity risk incentives are associated with greater tax risk and the magnitude of this effect is economically significant. Our results are robust across four measures of tax risk, but do not vary across several proxies for strength of corporate governance. We conclude that equity risk incentives are a significant determinant of corporate tax aggressiveness.

ABSTRACT Amid growing globalization, many countries have offered tax incentives to attract corporate investment. Prior research studies the role such incentives play in firms' location and investment choices. However, we have limited evidence regarding the role that uncertainty about the intensity of future tax enforcement plays in those decisions. In 2013, the European Commission (E.C.) abruptly began investigating the tax-ruling practices of several countries in response to allegations that certain firms received preferential tax treatment (“state aid cases”). We use this setting to study the economic consequences of increased uncertainty about future tax enforcement. We find evidence consistent with significant reductions in U.S. multinational enterprises' subsidiary investments within, firm input purchases from, and aggregate investment of U.S. firms flowing to targeted state aid countries. Specifically, for U.S. multinational enterprises' subsidiary investments, we find fixed assets declined by 1.7 percent of total assets, or $7.6 million per subsidiary. JEL Classifications: M41; M48; H25; H26.