[As examined in previous research (e.g., Gramlich 1991; Dhaliwal and Wang 1992), accounting accruals related to the alternative minimum tax (AMT) may either contain effects unrelated to the book income adjustment or be confounded by other changes in the 1986 Tax Reform Act. For example, total accruals in Gramlich (1991) arising from changes in accounts receivable and inventory have no effect on the book income adjustment because they affect taxable income and book income simultaneously.1 Also, the repeal of the investment tax credit and a slower capital recovery schedule in the 1986 Tax Reform Act may induce firms to reduce investment. This change may decrease depreciation (a component of accruals in Gramlich (1991)) and the depreciation timing difference (a component of accruals in Dhaliwal and Wang (1992)) in 1987 and may contribute to the observed results.2 Prior research also relied on pre-1987 data and certain assumptions to predict the likelihood that firms would be subject to the AMT in 1987 (see Gramlich (1991) and Dhaliwal and Wang (1992) for examples). Such an approach is warranted only under an assumption of no change in tax status for the sample firms. However, the overwhelming changes instituted by the 1986 Tax Reform Act make such an assumption questionable. Misclassification of firms can lead to results attributable to sample partition rather than the AMT. Furthermore, firms with low tax payments are classified as the AMT firms in these studies. Since low tax payments may be an indication of poor financial condition, the AMT sample is likely to contain firms with deteriorating financial condition which may lead to an overall decrease in accruals in 1987. This study improved three aspects of previous research designs to test the effect of the book income adjustment on financial reporting. First, the sample consisted of firms that were indeed subject to the AMT in 1987 to ensure that only the behavior of AMT firms were examined. Second, only accrued expenses and revenues that were not sensitive to other major changes in the 1986 tax law were assessed. Third, a time-series model controlling for changes in firms' financial condition was used to estimate the unexpected accruals. In general, the results indicated that firms that were subject to the AMT in 1987 exhibited unusual shifts in accounting accruals in 1986 and 1987. Unlike the institution of the AMT in 1987, the repeal of the book income adjustment in 1990 was independent of other major changes in tax law, providing a rather clean event to examine the effect of the book income adjustment on financial reporting. Evidence of accruals shifting for firms subject to the AMT in 1989 would lend further support to the conclusion that the AMT affects financial reporting practices. Accordingly, accruals of sample firms subject to the AMT in 1989 were examined. An unusual shift in accounting accruals was observed in 1989 but in a direction opposite to the 1987 sample.]

Examines the effect of the book income adjustment on financial reporting using a modified research design. Effect of shifting accounting accruals on the alternative minimum tax (AMT) in 1987.

Prior research has investigated firms' success in the political process and its relation to firm size. For example, effective tax rates have been used to measure the extent to which firms are able to influence cor- porate income taxation. Effective tax rates, however, are a biased proxy of political success because they may contain a factor, net operating losses (NOLs), attributable to firms' operating results and experience rather than to success in the political process. Moreover, if firm size is also correlated with NOLs, then NOL,s may affect the relationship between firm size and tax rates in a systematic manner. If such an effect is substantial, the association of firm size and effective tax rates will be a biased basis for drawing inferences about firm size and political success. The purpose of this article is to assess the extent of the effect of NOLs on the overall relationship of firm size and tax rates. Path analysis is employed to isolate the effect of firm size on effective tax rates that is attributable to NOLs (i.e., the indirect effect of NOLs). Determining the indirect effect of NOLs allows an assessment of the bias in the overall firm size/tax rate relation attributable to NOLs. To estimate the indirect effect of NOLs, a path model with two structural equations is built to identify the indirect links between firm size and effective tax rates mediated by NOLs, and the remaining direct link between firm size and effective tax rates. To correct errors-in-variables problems and to provide a consistent interpretation of the results, variables in the structural equations are modeled by a latent-variable approach (measurement model). The path model and the measurement model are estimated by LISREL Based on the parameter estimates of the structural equations, the path analysis results indicate that the indirect effect of NOLs has a statistically significant impact on the overall relationship between firm size and effective tax rates. This indicates that NOLs constitute an importarnt omitted variable in prior studies. While effective tax rates may measure some degree of firms' success in the political process, conclusions regarding the relation between firm size and firms' success In the political. process is confounded by the serious omission of NOLs.

[Prior research has investigated firms' success in the political process and its relation to firm size. For example, effective tax rates have been used to measure the extent to which firms are able to influence corporate income taxation. Effective tax rates, however, are a biased proxy of political success because they may contain a factor, net operating losses (NOLs), attributable to firms' operating results and experience rather than to success in the political process. Moreover, if firm size is also correlated with NOLs, then NOLs may affect the relationship between firm size and tax rates in a systematic manner. If such an effect is substantial, the association of firm size and effective tax rates will be a biased basis for drawing inferences about firm size and political success. The purpose of this article is to assess the extent of the effect of NOLs on the overall relationship of firm size and tax rates. Path analysis is employed to isolate the effect of firm size on effective tax rates that is attributable to NOLs (i.e., the indirect effect of NOLs). Determining the indirect effect of NOLs allows an assessment of the bias in the overall firm size/tax rate relation attributable to NOLs. To estimate the indirect effect of NOLs, a path model with two structural equations is built to identify the indirect links between firm size and effective tax rates mediated by NOLs, and the remaining direct link between firm size and effective tax rates. To correct errors-in-variables problems and to provide a consistent interpretation of the results, variables in the structural equations are modeled by a latent-variable approach (measurement model). The path model and the measurement model are estimated by LISREL. Based on the parameter estimates of the structural equations, the path analysis results indicate that the indirect effect of NOLs has a statistically significant impact on the overall relationship between firm size and effective tax rates. This indicates that NOLs constitute an important omitted variable in prior studies. While effective tax rates may measure some degree of firms' success in the political process, conclusions regarding the relation between firm size and firms' success in the political process is confounded by the serious omission of NOLs.]

This study examines the effect of the book income adjustment provision in the 1986 alternative minimum tax (AMT) on financial accounting practices. A model is developed to identify firms that are more susceptible to the book income adjustment. The changes in financial accounting practices for firms affected by the AMT are then examined. Our results indicate that firms that are likely to be affected by the book income adjustment shift timing and permanent differences across years to reduce the impact of the AMT.

[This study investigates whether firms that expect increases in earnings resulting from sudden product price increases use accounting accruals to reduce earnings and, thus, political sensitivity. Specifically, oil firms' accruals are analyzed in a period of rapid gasoline price increases during the 1990 Persian Gulf crisis. Our results show that oil firms that expected to profit from the crisis used accruals to reduce their reported quarterly earnings during the Gulf crisis. In contrast to previous research, we find that the tendency to release good earnings news early, documented in prior research, is reversed for oil firms during the Gulf crisis. This finding suggests that the benefit of disclosing "good news" (i.e., earnings increases) early may have been out-weighed by the political costs associated with timely releases of the information.]

This study investigates whether firms that expect increases in earnings resulting from sudden product price increases use accounting accruals to reduce earnings and, thus, political sensitivity. Specifically, oil firms' accruals are analyzed in a period of rapid gasoline price increases during the 1990 Persian Gulf crisis. Our results show that oil firms that expected to profit from the crisis used accruals to reduce their reported quarterly earnings during the Gulf crisis. In contrast to previous research, we find that the tendency to release good earnings news early, documented in prior research, is reversed for oil firms during the Gulf crisis. This finding suggests that the benefit of disclosing "good news" (i.e., earnings increases) early may have been outweighed by the political costs associated with timely releases of the information.

We analyze the effect of tax-based transaction structure on the acquisition price of corporate subsidiaries. For a sample of 200 subsidiary stock acquisitions, the evidence weakly supports the conclusion that acquisition premiums are higher in transactions accompanied by an I.R.C. §338(h)(10) election. We find that the tax benefits generated by the §338(h)(10) election are positively correlated with acquisition premiums. Overall, this study indicates that the tax structure of a subsidiary sale influences the price paid in the transaction, and the tax structure selected is a function of a divesting parent's tax basis in the subsidiary's stock and net assets.

We investigate whether acquiring firms attempt to increase their stock price prior to a stock for stock merger in order to reduce the cost of buying the target. In a sample of stock for stock mergers completed between 1985 and 1990, we find that acquiring firms manage earnings upward in the periods prior to the merger agreement. Our results also indicate that the degree of income increasing earnings management is positively related to the relative size of the merger.