Firms' Off-Balance Sheet Financing: Evidence from their Book-Tax Reporting Differences

Abstract

We examine large U.S. corporations' off-balance sheet financing over the period 1989-2001. We construct firm-level proxies of off-balance sheet debt by comparing firms' tax return vs. financial statement reporting for interest expense and debt. Our results indicate that firms' financial reporting motives significantly influence their use of off-balance sheet debt. In particular, firms report greater amounts of interest on their tax return than to shareholders and creditors when their S&P bond ratings are less favorable, they have higher existing book leverage, or they have a greater proportion of debt that must be renegotiated in the short term. These results suggest that firms with greater credit risks are more likely to use substantive off-balance sheet debt. In supplemental tests, we find some evidence that these financial reporting effects occurred primarily during 1994-1999. We also find within-firm effects that suggest changes in firms' reporting incentives impact their use of off-balance sheet debt.