How Do Firms Use Cash Tax Savings: A Cross-Country Analysis

Abstract

Cash tax avoidance activities can serves as a significant source of additional cash flows for firms; how managers utilize this additional cash source and the resulting consequences is an empirical question. To answer our research question, we examine the association between the spread between a country’s enacted statutory rate for the year and the cash effective tax rate, and two uses of cash – investment and dividend payout – for an international sample of firms. In the cross-section, we find the firms are more likely to invest cash tax savings rather than distribute them in the form of dividends and find that this results in inefficient over investment for firms. When partitioning on country-level governance, we find that firms located in weak-governance countries actually under invest and pay out larger amounts of tax savings in the form of dividends. Our results suggest that firms’ cash tax avoidance activities have a real effect on firm decisions, namely investment and payout policies, and this effect varies based on the country in which the firm operates.