Corporate Tax Avoidance and Government Corruption: Evidence from Chinese Firms

Abstract

In this paper I study the impact of government corruption on tax avoidance by corporations with tax liability in China. I begin by developing a model of a firm's choice of tax avoidance based on the level of corruption in the firm. I show that a higher level of government corruption and a higher tax rate are predicted to increase a firm's tax avoidance. My empirical estimates show that a one-standard-deviation increase in government corruption corresponds to a 6% increase in tax avoidance by firms, based on data from nearly 600,000 firms from 1998 to 2007. When I separate the sample by type of ownership of firms, I find that domestic private firms tend to avoid a larger portion of their tax liabilities than foreign or state-owned firms. I also find that tax avoidance increases when the effective tax rate increases. The size of the firm, age of the firm, and whether the firm exports from China also influence tax avoidance.