Advances in Taxation, Volume 17

LIST OF CONTRIBUTORS Kenneth E. Anderson Department of Accounting and Information Management, University of Tennessee, ...

Author: Suzanne M. Luttman

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LIST OF CONTRIBUTORS Kenneth E. Anderson

Department of Accounting and Information Management, University of Tennessee, TN, USA

Anne L. Christensen

College of Business, Montana State University, MT, USA

Mary Ann Hofmann

Walker College of Business, Appalachian State University, NC, USA

Ira Horowitz

University of Florida, FL, USA

Cynthia M. Jackson

Accounting Group, College of Business Administration, Northeastern University, MA, USA

Rex Karsten

Department of Management, University of Northern Iowa, IA, USA

Claire K. Latham

Department of Accounting, College of Business, Washington State University, WA, USA

Tracy S. Manly

School of Accounting, University of Tulsa, OK, USA

James J. Maroney

Accounting Group, College of Business Administration, Northeastern University, MA, USA

William A. Raabe

Ohio State University, OH, USA

Timothy J. Rupert

Accounting Group, College of Business Administration, Northeastern University, MA, USA vii

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LIST OF CONTRIBUTORS

Dennis Schmidt

College of Business, Montana State University, MT, USA

Craig T. Schulman

Department of Economics, Texas A&M University, TX, USA

Deborah W. Thomas

Department of Accounting, Sam M. Walton College of Business, University of Arkansas, AR, USA

Gerald E. Whittenburg

School of Accountancy, College of Business Administration, San Diego State University, CA, USA

EDITORIAL BOARD Kenneth E. Anderson University of Tennessee

Beth B. Kern Indiana University-South Bend

Caroline K. Craig Illinois State University

Gary A. McGill University of Florida

Anthony P. Curatola Drexel University

Janet A. Meade University of Houston

Ted D. Englebrecht Louisiana Tech University

Michael L. Roberts University of Colorado-Denver

Philip J. Harmelink University of New Orleans

David Ryan Temple University

D. John Hasseldine University of Nottingham

Dan L. Schisler East Carolina University

Peggy A. Hite Indiana University-Bloomington

Toby Stock Ohio University

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AD HOC REVIEWERS Bruce Lubich University of Maryland – University College

Lawrence Brown Georgia State University Michael Calegary Santa Clara University

Steven Matsunaga University of Oregon

Deborah Garvey Santa Clara University

John Phillips University of Connecticut

Jeffrey Gramlich University of Southern Maine

Debra Sanders Washington State University

Robert Halperin Hong Kong Polytechnic University

Michael Schadewald University of WisconsinMilwaukee

Cherie Hennig Florida International University

Jerrold Stern Indiana University

Mary Ann Hofmann Andrews University

Robert Yetman University of California – Davis

Yongtae Kim Santa Clara University

xi

STATEMENT OF PURPOSE Advances in Taxation is a refereed academic tax journal published annually. Academic articles on any aspect of Federal, state, local, or international taxation will be considered. These include, but are not limited to, compliance, education, law, planning, and policy. Interdisciplinary research involving economics, ﬁnance, or other areas also is encouraged. Acceptable research methods include any analytical, behavioral, descriptive, legal, quantitative, survey, or theoretical approach appropriate to the project. Manuscripts should be readable, relevant, and rigorous. To be readable, manuscripts must be understandable and concise. To be relevant, manuscripts must be directly related to substantive issues inherent in the system of taxation. To be rigorous, manuscripts should scrupulously follow the tenants of sound research design and execution. Conclusions must follow logically from the evidence and arguments presented. Reasonable assumptions and logical development are essential for theoretical manuscripts. AIT welcomes comments from readers. Additional information regarding the journal is available at the Advances in Taxation link at http://cms.scu.edu/business/accounting/ait.cfm Editorial correspondence pertaining to manuscripts should be forwarded to: Professor Suzanne Luttman Santa Clara University Accounting Department 500 El Camino Real Santa Clara, CA 95053 Suzanne Luttman Series Editor

xiii

AN EXAMINATION OF TAX SCHOLARS’ PUBLICATIONS Anne L. Christensen and Claire K. Latham ABSTRACT This study examines the research productivity of three samples of tax scholars with accounting Ph.Ds. We compare publication activity in the pre-tenure period for each sample and in the first 25, 15, and 10 years for scholars whose careers began in 1977/1978, 1987/1988, and 1993/1994, respectively. The percentage of publications in ‘‘academic’’ journals in the pre-tenure period has increased from 38 to 42 to 47 percent for the 77/78, 87/88, and 93/94 tax scholars, respectively. The average number of academic and professional publications combined were 3.51 for 77/78 scholars, 5.87 for 87/88 scholars, and 4.00 for 93/94 scholars.

INTRODUCTION Has the publication activity of tax accounting scholars changed over time? In a study of where the 25 most productive accounting faculties published from 1973 to 1977, Windal (1981, p. 656) states, ‘‘Tax specialists, of course, tend to publish in tax journals.’’ He then identiﬁes tax journals as The Journal of Taxation, Taxes, and the Tax Adviser, a selection which indicates that he expects tax scholars to publish their research primarily in ‘‘professional’’ journals, i.e., journals read primarily by tax practitioners. Kozub, Sanders, and Raabe (1990) studied publication productivity by business Advances in Taxation, Volume 17, 3–35 Copyright r 2007 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1058-7497/doi:10.1016/S1058-7497(06)17001-5

3

4

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

school tax faculties from 1981 to 1988 in eight academic and 22 professional journals. They found that faculty members at eight of the 35 most proliﬁc tax publication schools published primarily in ‘‘academic’’ journals, i.e., journals directed toward academic audiences. Yet, at the three most productive schools in their study, the tax scholars also published a signiﬁcant number of articles in professional journals. The purpose of this study is to examine the overall publication productivity of tax scholars and to determine how much tax scholars publish in tax, accounting, and other professional and academic journals in different stages of their careers. Individuals listed in Prentice-Hall Accounting Faculty Directories (Hasselback, 1978–1997) with a teaching or research interest in tax are designated tax scholars.1 It is important to develop an understanding of tax scholars’ publication activity because it is closely linked to promotion and tenure decisions (Henderson, Ganesh, & Chandy, 1990) as well as salary (Gomez-Mejia & Balkin, 1992). This information also may be helpful in setting performance goals for and evaluating tax scholars at different stages of their careers. There is increasing emphasis on assessment in university settings, including assessing publication activity across scholars at different stages in their careers (Swanson, 2004). In keeping with this growing interest, our purpose is to capture a broad range of publication activity across different journal classiﬁcations from the careers of scholars who have emphasized tax as a specialty. Across universities, differences in focus and standards can signal that publications in some journals are more highly valued than those in other journals (Schultz, Meade, & Khurana, 1989; Cargile & Bublitz, 1986). As the mission of a particular school changes over time, so too may its emphasis on publications in different types of journals. Some universities may emphasize and reward publication in professional journals as building bridges to the professional tax community. Other universities may emphasize publication in academic journals as expanding the boundaries of knowledge and the reputation of the school. Still other schools may value publications in educational journals as a means of improving pedagogy. The degree to which work in other business disciplines is acknowledged also varies among universities (Swanson, 2004). While there appears to be no single standard for all universities for the publication activities of tax scholars, we can see how much and where these scholars have successfully published in different time periods in the past. This study contributes to the tax scholar research productivity literature by examining intradisciplinary and interdisciplinary publications in a wide range of journals in several different time periods. We provide measures of

An Examination of Tax Scholars’ Publications

5

research productivity in tax, accounting, and non-tax/non-accounting journals in early as well as later time periods in scholars’ careers. Publication activity in the highest-rated accounting journals is noted. Our productivity measures are further divided into separate measures of publications in journals with primarily professional or academic readership, thereby extending the discussion raised in prior literature. We select three samples of tax scholars who received an accounting Ph.D. and then took tenure track positions at U.S. universities. We then examine their publication records in the ﬁrst seven years of their careers as well as during later time periods. We refer to scholars in the ﬁrst seven years of their careers as new scholars. The ‘‘93/94’’ sample consists of 1993 and 1994 graduates, the ‘‘87/88’’ sample of 1987 and 1988 graduates, and the ‘‘77/78’’ sample of 1977 and 1978 graduates. We then search ABI Inform, CCH Federal Tax Articles, the EconLibrary Database, and the Social Science Citation Index to develop publication records for each member of our samples.2 We classify academic publications into three categories based on the journals in which the articles appeared (1) tax, (2) accounting, and (3) nontax/non-accounting journals. We adopt the same classiﬁcation strategy for publications in professional journals. We also create a separate category for publications in education journals. Academic and professional journals are then differentiated on the basis of primary readership, which is determined on the basis of publications such as Cabell’s Directory of Publishing Opportunities in Accounting: 2001–2002. In terms of overall productivity, we ﬁnd that the 93/94 new tax accounting scholars published an average of 4.0 articles in the ﬁrst seven years of their careers compared to 5.87 articles for the 87/88 scholars and 3.51 for the 77/78 scholars. We observe that while publications in professional journals continue to be a signiﬁcant part of tax scholars’ research portfolios, the percentage of publications in academic journals has increased from 38 to 42 to 47 percent, respectively for 77/78, 87/88, and 93/94 new tax scholars. In the latter part of their careers, the percentage of publications in academic journals for the 77/78 and 87/88 scholars declines slightly, but not signiﬁcantly. In addition, we ﬁnd that the aggregate number of articles published in The Accounting Review by tax scholars in the ﬁrst seven years of their careers decreased from twelve to nine to four by the 77/78, 87/88, and 93/94 scholars, respectively. The remainder of this article is organized as follows. The next section describes the motivation and research questions. We then discuss the research design followed by the results. The paper concludes with a discussion of the ﬁndings and implications for future research.

6

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

MOTIVATION AND RESEARCH QUESTIONS Overall Research Productivity Measures Kozub et al. (1990) provide evidence on the publication activity of business school tax faculty in 30 journals (eight academic and 22 professional) from 1981–1988. Their study is one of the few studies that speciﬁcally examines the productivity of tax faculty and it includes many more tax journals than any prior study. Christensen, Finger, and Latham (2002) show that research productivity measures are affected by the number and type of journals included. Their study documents considerably greater research productivity for new accounting scholars when publications in non-accounting journals are included in the productivity measures. This held true for scholars employed at both accounting doctoral and non-doctoral granting institutions. As our starting point, we determine the research productivity of new tax scholars using productivity measures that include publications from an extensive list of journals. The ﬁrst research question is: Question 1. How productive are new tax scholars when the productivity measures include publications from an extensive list of tax, accounting, and non-accounting journals? We compute the average number of publications per new scholar in all types of journals as well as in academic and professional journals. These averages are computed separately for the 93/94, 87/88, and 77/78 scholars. We further divide the samples into individuals employed at accounting doctoral granting and non-doctoral granting schools because prior research shows higher research productivity levels for the doctoral granting schools (Christensen et al., 2002; Read, Rama, & Raghunandan, 1998; Englebrecht, Iyer, & Patterson, 1994; Campbell & Morgan, 1987; Milne & Vent, 1987).3 Differences in Productivity Measures for Publications in Professional and Academic Journals Windal (1981) suggested that tax faculty would direct their publication efforts toward a professional audience. However, Kozub et al. (1990) ﬁnd evidence of signiﬁcant tax faculty publication efforts directed at both professional and academic audiences. Bricker and Previts (1990) provide evidence that as the nature of the professoriate changed and accounting scholars were required to have doctorates, accounting scholars shifted their research efforts toward questions of interest to an academic audience rather than a professional audience.

An Examination of Tax Scholars’ Publications

7

They suggest that this shift may have isolated the academic community from the practice community. We examine whether new tax scholars, who started their careers in three different time periods, include publications in professional journals in their research portfolios. Hence, our second question is: Question 2. Has the quantity of new tax accounting scholars’ publications in professional journals changed over time? If we ﬁnd that tax scholars who received their degrees at different points in time publish a substantial amount in professional journals as well as in academic journals, it suggests that tax scholars have not become isolated from the professional tax community. Publications in Highest Rated Journals New scholars’ publication records are evaluated in terms of both quantity and quality. A number of studies have measured perceptions of the quality of accounting, business, and tax journals over the years (Swanson, 2004; Brown & Huefner, 1994; Hall & Ross, 1991; Hull & Wright, 1990; Raabe, Kozub, & Sanders, 1987). Although schools and individuals do differ in perceptions of which journals are of highest quality, we can use the consistently top-rated journals from prior studies to observe the frequency with which tax scholars publish in speciﬁc journals and whether there have been changes in publication rates over time. Thus our third research question is: Question 3. Has the tendency for new tax scholars, as a group, to publish in the highest rated tax and accounting journals changed over time? We provide information on the number of articles published by new tax scholars in highly rated as well as common outlets. Timing within Careers: Academic and Professional Publications The importance of publishing in academic journals has increased over time (Ettredge & Wong-On-Wing, 1991; Hagerman & Hagerman, 1989; Campbell & Morgan, 1987). Such pressure may lead tax scholars to focus their early research efforts on empirical or theoretical work publishable in academic journals. However, there is also pressure to have a sufﬁcient number of publications in particular time periods. Zivney, Berton, and Gavin (1995, p. 11) found that only 40 percent of accounting graduates publish in academic accounting journals and 23 percent publish in what they deﬁne as the top three accounting journals (The Accounting Review, Journal

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ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

of Accounting Research, and Journal of Accounting and Economics). Hence, to have a sufﬁcient number of publications, new scholars may also direct their efforts toward applied research that is published in professional journals. As the number of years since obtaining the doctoral degree increases, scholars may believe that it is increasingly difﬁcult to undertake empirical or theoretical research. Such individuals may believe that they are more likely to be successful in undertaking applied research, publishable in professional journals. In contrast, scholars may hone their empirical or theoretical research skills over time and thus develop a competitive advantage for later career publishing in academic journals. The fourth research question addresses the timing of types of publications within scholars’ careers: Question 4. Do publications in professional journals versus academic journals typically occur earlier or later in the careers of tax accounting scholars? To examine this question that considers a much longer timeline, we include tax scholars’ publications in academic and professional journals from before the Ph.D. was granted through year 10 for the 93/94 scholars, year 15 for the 87/88 scholars, and year 25 for the 77/78 scholars (hereafter, ‘‘Expanded 93/94,’’ ‘‘Expanded 87/88,’’ and ‘‘Expanded 77/78’’ samples). Publications in Different Types of Journals To gain additional understanding of the research and publication activities of tax scholars, we further classify publications into those published in tax journals (e.g., The Journal of the American Taxation Association and The Tax Adviser), those published in accounting journals (e.g., The Accounting Review and Journal of Accountancy), and those published in business and society journals (e.g., Journal of Finance and Journal of European Business). We also examine publications in education journals by tax scholars (e.g., Issues in Accounting Education and Journal of Accounting Education). We then address the ﬁfth research question: Question 5. Has the tendency for tax scholars to publish their research in tax, accounting, business and society, or educational journals changed over time? Publications in tax journals are likely to advance knowledge within the tax community, while publications in accounting journals are likely to

An Examination of Tax Scholars’ Publications

9

advance knowledge in the broader accounting community. Publications in business and/or society journals reach audiences outside the accounting discipline and may be viewed favorably or unfavorably depending upon the mission of the particular school. Publications in educational journals may be included in either research or teaching portfolios of scholars, again depending upon the mission of the school.

RESEARCH DESIGN Selection of Tax Scholars This paper provides evidence on changes in outlet choice by new tax scholars over time. To examine these changes, we compile samples of tax graduates in three different time periods and focus on their publication portfolios before graduation and in the six years following the Ph.D.4 These publications were likely to be considered in the scholars’ tenure decisions.5 We use the Accounting Faculty Directory (Hasselback, 1996) to identify all tax scholars who obtained their degrees from U.S. universities. To increase the sample size, we pool 1994 and 1993 tax graduates, making the assumption that there are no systematic differences between successive years. We compile two additional samples to compare with the 94/93 sample. One sample is made up of 1987 and 1988 tax graduates and the other consists of 1977 and 1978 tax graduates.6 Only tax scholars listed as ‘‘Assistant’’ or ‘‘Associate’’ were included in the samples to ensure they were tenure-track. We determine the scholars’ ﬁrst employers and omit scholars with non-U.S. employers. This process results in a 93/94 sample of 51 tax scholars, an 87/88 sample of 46 tax scholars, and a 77/78 sample of 45 tax scholars. The employers of tax scholars in the three samples are further classiﬁed by whether they offer accounting doctoral programs. Of the 51 scholars in the 93/94 sample, 11 were employed at universities with accounting Ph.D. programs. The 87/88 sample contains 23 of 46 and the 77/78 sample includes 26 of 45 scholars employed by schools with accounting Ph.D. programs. Measures of Productivity Consistent with a number of other studies that examine the productivity of scholars who receive tenure (Christensen et al., 2002; Englebrecht et al., 1994; Hagerman & Hagerman, 1989; Campbell & Morgan, 1987;

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ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

Milne & Vent, 1987), we measure productivity by counting published articles. As noted previously, we measure new tax scholar productivity by including articles that were likely to be considered for tenure decisions. Therefore, we include all pre-Ph.D. publications (with no time limit), publications in the year of graduation, and publications within the following six years. We include only articles that exceed two pages in length and exclude book reviews, dissertation summaries, and commentaries. We do count discussant comments that are published in journals such as the Journal of Accounting Research Supplement and The Journal of the American Taxation Association Supplement.7 For research question 4, which examines publication activity over a longer time horizon, we extend the time frame to include publications through year 10 for the 93/94 scholars, 15 for the 87/88 scholars, and 25 for the 77/78 scholars. Publication Data After selecting the tax scholar samples, we searched ABI Inform, CCH Federal Tax Articles, the EconLibrary Database, and the Social Science Citation Index to develop comprehensive publication records for each member of our samples.8 We conducted an author name search for the scholars in each database and used cross-references to ensure that we also captured those publications in which our scholars were not the lead authors.9 We classiﬁed both academic and professional publications into three categories based on the journals in which the articles appeared tax, accounting, and non-tax/non-accounting journals. We consider journals with the word ‘‘tax’’ in the title as tax journals and journals with the word ‘‘accounting’’ or ‘‘auditing’’ as accounting journals.10 We also include publications in education journals as a separate category. Academic and professional journals are differentiated on the basis of primary readership according to Cabell’s Directory of Publishing Opportunities in Accounting (Cabell & English, 2001– 2002a), Cabell’s Directory of Publishing Opportunities in Economics, and Finance (Cabell & English, 2001–2002b), Cabell’s Directory of Publishing Opportunities in Management (Cabell & English, 2001–2002c), Cabell’s Directory of Publishing Opportunities in Marketing (Cabell & English, 2001–2002d), The Author’s Guide to Accounting and Financial Reporting Publications (Vargo & Vargo, 1998–1999), and the International Guide to Accounting Journals (Spiceland & Agrawal, 1988). Our sample scholars published in 212 different journals. Using the classiﬁcation scheme noted above, three of the journals are classiﬁed as academic tax, 28 as academic

An Examination of Tax Scholars’ Publications

11

accounting, and 75 as academic non-tax/non-accounting. Within the professional journal classiﬁcation, 29 are classiﬁed as tax, 23 as accounting journals, and 50 as non-tax/non-accounting journals. Four of the journals are classiﬁed as education journals.11 A list of the journals in which our scholars published along with the corresponding classiﬁcation and the number of articles published in each journal is provided in the appendix.

RESULTS Overall Research Productivity Measures To address the ﬁrst question, Table 1 presents research productivity measures for the 93/94, 87/88, and 77/78 samples. Counting a comprehensive list of academic, professional, and educational journal publications results in a smaller percentage of non-publishers than found in many prior studies of accounting research productivity (Christensen et al., 2002; Read et al., 1998; Englebrecht et al., 1994). Among the 93/94 tax scholars, only ﬁve or 9.8 percent had no publications. For 87/88 and 77/78 tax scholars, only four (8.7 percent) and eight (17.8 percent) scholars had no publications.12 Twenty scholars (29 for 87/88, 11 for 77/78) published articles in both academic and professional journals. In contrast, 12 scholars (6 for 87/88, 12 for 77/78) published exclusively in academic journals and 14 scholars (7 for 87/88, 14 for 77/78) published exclusively in professional journals. The average number of publications per 93/94 (87/88; 77/78) scholar was 4.00 (5.87, 3.51). This average includes those scholars who had no publications.13 When tax scholars employed at schools with accounting Ph.D. programs are compared to scholars employed at schools without accounting Ph.D. programs, we ﬁnd fewer non-publishers and a higher average number of publications at the Ph.D. granting institutions for all three samples. As indicated in Table 1, at Ph.D. granting institutions, only one individual in each of the three samples had no publications, while four, three, and seven individuals in the 93/94, 87/88, and 77/78 samples at non-doctoral granting institutions had no publications. The 93/94 scholars employed at doctoral granting schools had an average of 4.64 publications compared to 3.82 publications at non-doctoral granting institutions (t ¼ 0.79, p ¼ 0.217).14 The average number of publications for 87/88 (77/78) scholars employed at doctoral granting institutions was 7.70 (4.88) compared to an average of 4.04 (1.63) for scholars employed at non-doctoral granting institutions (87/88 t ¼ 2.78, po0.01; 77/78 t ¼ 3.35, po0.01).15

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Table 1.

Research Productivity Statistics for 93/94, 87/88, and 77/78 Ph.D. Tax Graduates.

Number of

Tax Scholars All

Employed at schools with Ph.D. programs

Employed at schools without Ph.D. programs

Total tax scholars 51 (n) Non-publishers 5 Total tax scholars 46 with publications Total tax scholars 20 with publications in both academic and professional journals 12 Tax scholars with publications in academic journals only 14 Tax scholars with publications in professional journals only Total number of 204 publications

46

45

51

46

45

11

23

26

11

23

26

40

23

19

40

23

19

4 42

8 37

16 35

7 39

5 40

1 10

1 22

1 25

2 9

1 22

1 25

4 36

3 20

7 12

14 26

6 17

4 15

29

11

7

21

23

6

15

10

2

13

14

14

14

1

5

8

9

6

12

13

9

7

4

4

7

6

7

6

8

2

5

7

2

1

7

14

15

9

10

0

3

8

1

2

5

14

4

6

14

7

5

270

158

96

252

506

51

177

127

29

159

325

153

93

31

67

93

181

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

93/94 87/88 77/78 93/94 87/88 77/78 93/94 87/88 77/78 93/94 87/88 77/78 93/94 87/88 77/78 93/94 87/88 77/78 (1) (1) (1) (2) (2) (2) (1) (1) (1) (2) (2) (2) (1) (1) (1) (2) (2) (2)

95

113

60

49

96

156

42

86

50

23

72

133

53

27

10

26

24

23

109

157

98

47

156

350

9

91

77

6

87

192

100

66

21

41

69

158

Distribution of total publications per scholar Mean 4.00 5.87 3.51 1.88 5.48 11.22 Median 3.00 5.00 2.00 2.00 4.50 7.00 Standard 3.01 4.77 3.57 1.90 5.94 14.68 deviation Distribution of total academic publications per scholar Mean 1.86 2.46 1.33 0.96 2.09 3.47 Median 1.00 1.00 1.00 0 1.00 1.00 Standard 2.28 3.16 2.10 1.54 2.30 5.38 deviation Distribution of total professional publications per scholar Mean 2.14 3.41 2.18 0.92 3.39 7.76 Median 2.00 3.00 1.00 0 1.00 3.00 Standard 2.55 3.88 3.26 1.57 5.78 14.58 deviation

4.64 4.00 3.56

7.70 6.00 5.35

4.88 3.50 3.79

2.64 3.00 1.80

6.91 12.46 5.00 8.50 6.50 16.34

3.82 3.00 2.86

4.04 3.00 3.24

1.63 1.00 2.19

1.68 1.00 1.90

4.04 2.00 5.05

9.53 6.00 12.29

3.82 3.00 3.19

3.74 3.00 3.90

1.92 1.00 2.48

2.09 2.00 1.92

3.13 3.00 2.38

5.12 2.00 6.50

1.32 1.00 1.64

1.17 1.00 1.34

0.53 0 1.02

0.65 0 1.27

1.04 0 1.69

1.21 1.00 1.69

0.82 1.00 0.87

3.96 3.00 4.67

2.96 1.00 3.69

0.55 0 1.04

3.78 7.35 1.00 3.00 6.68 16.21

2.50 2.00 2.75

2.87 2.00 2.89

1.11 0.00 2.21

1.03 1.00 1.69

3.00 1.00 4.82

8.32 5.00 12.32

An Examination of Tax Scholars’ Publications

Total number of publications in academic journals Total number of publications in professional journals

Notes: (1) represents ﬁrst seven years of publication records; for 1977 graduates, it is years 1977–1983, for 1978, it is years 1978–1984, for 1987, it is years 1987–1993, for 1988, it is years 1988–1994, for 1993, it is for years 1993–1999, and for 1994, it is for years 1994–2000; (2) represents publication records up through year 25 for the 77/78 scholars (for 1977 graduates, it is years 1984-2002, for 1978 graduates it is years 1985– 2003), records up through year 15 for 87/88 scholars (for 1987 graduates, it is years 1994–2002, for 1988 graduates, it is years 1995–2003); records up through year 10 for 93/94 scholars (for 1993 graduates it is years 2000–2003, and for 1994 graduates, it is years 2001–2004).

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ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

Differences in Publication Outlet Over Time Question 2 explores whether the tendency of new tax scholars to publish in professional journals has changed over time. As indicated in Table 1, the 93/94 tax scholars published 53.4 percent (109/204) of their articles in professional journals compared to 58.1 percent (157/270) for 87/88 tax scholars and 62 percent (98/158) for 77/78 tax scholars. The average number of published professional articles for 93/94 tax scholars was 2.14, which is less than the average number for 87/88 tax scholars, 3.41 articles, but not much less than the average number for 77/78 tax scholars, 2.18 articles. An ANOVA test indicates the difference among the average number of professional articles for these three groups of scholars is not signiﬁcant (F ¼ 2.325, p ¼ 0.102).16 These results indicate that publications in professional journals may have declined somewhat but continue to be an important component of the research portfolios of new tax scholars. The average number of academic articles for the 93/94, 87/88, and 77/78 tax scholars is 1.86, 2.46, and 1.33, respectively. The differences in these averages are not statistically signiﬁcant (ANOVA, F ¼ 2.21, p ¼ 0.113). However, when both professional and academic articles are added together, the overall average number of articles for the 87/88 tax scholars (5.87) is signiﬁcantly greater than the overall average for the 93/94 tax scholars (4.00) and the 77/78 tax scholars (3.51) (ANOVA, F ¼ 4.865, po0.01). Publications in Highest Rated Journals Question 3 examines the frequency with which new tax scholars publish in highly rated journals.17 Table 2 presents the number of articles published in selected journals for the 93/94, 87/88, and 77/78 tax scholars. We ﬁnd the number of articles published by tax scholars in The Accounting Review steadily declined from 12 articles (0.27 per scholar) by the 77/78 scholars to nine (0.20 per scholar) by the 87/88 scholars and four (0.08 per scholar) by the 93/94 scholars. During the same time period, the number of articles published in The Journal of the American Taxation Association steadily rose from four (0.09 per scholar) by the 77/78 scholars to 18 (0.39 per scholar) by the 87/88 scholars to 25 (0.49 per scholar) by the 93/94 scholars. The tax scholars in our three groups almost never publish in Accounting, Organizations, and Society, but occasionally publish in the Journal of Accounting and Economics, the Journal of Accounting Research, and the National Tax Journal. Differences in the years that various journals actually began publication make it difﬁcult to draw conclusions regarding the tendency for tax

Publications of 93/94, 87/78, and 77/88 Tax Ph.D. Graduates in Selected Journal.

Journal (year started)

Articles Published Both before and within Seven Years of Receipt of Ph.D.

Articles Published after Seven Years

Publications by scholars in the 87/88 sample (N ¼ 46 scholars)

Publications by scholars in the 77/78 sample (N ¼ 45 scholars)

Publications by scholars in the 87/88 sample (N ¼ 46 scholars)

Publications by scholars in the 77/78 sample (N ¼ 45 scholars)

Publications by scholars in the 93/94 sample (N ¼ 51 scholars)

J. of Am. Tax Assoc. (1979) Adv. In Taxation (1987) National Tax J. (1948)

25 (13)a 4 (4) 2 (2)

18 (13) 10 (7) 3 (3)

4 (4) 0 2 (2)

16 (10) 7 (6) 1 (1)

18 (11) 2 (1) 5 (5)

7 (6) 2 (2) 4 (3)

Acct. Horizons (1987) Acct. Org. & Soc. (1976) Accounting Review (1926) Cont. Acct. Res. (1984) J. of Acct. & Econ. (1979) J. Acct. & Pub. Pol. (1982) J. of Acct. Research (1963)

3 (3) 0 4 (3) 2 (2) 5 (3) 5 (5) 5 (4)

5 (4) 0 9 (6) 3 (3) 2 (1) 2 (2) 4 (4)

0 1 (1) 12 (10) 0 3 (2) 3 (3) 8 (4)

3 (3) 0 4 (3) 3 (3) 4 (2) 0 4 (3)

9 (5) 1 (1) 17 (7) 7 (3) 3 (2) 5 (4) 15 (6)

0 0 6 (5) 0 2 (2) 2 (1) 4 (4)

J. of Taxation (1915) Tax Adviser (1910) Tax. for Acct. /PTSb (1938) Taxes (1923)

3 (2) 17 (7) 12 (9) 8 (5)

10 (7) 16 (8) 17 (9) 23 (11)

4 (3) 18 (10) 25 (10) 15 (7)

17 (9) 44 (14) 28 (11) 36 (10)

0 9 (2) 0 7 (4)

7 26 17 14

(6) (15) (11) (11)

15

Publications by scholars in the 93/94 sample (N ¼ 51 scholars)

An Examination of Tax Scholars’ Publications

Table 2.

16

Table 2. (Continued ) Journal (year started)

Articles Published Both before and within Seven Years of Receipt of Ph.D.

Articles Published after Seven Years

Publications by scholars in the 87/88 sample (N ¼ 46 scholars)

Publications by scholars in the 77/78 sample (N ¼ 45 scholars)

Publications by scholars in the 87/88 sample (N ¼ 46 scholars)

Publications by scholars in the 77/78 sample (N ¼ 45 scholars)

Publications by scholars in the 93/94 sample (N ¼ 51 scholars)

15 (11) 5 (3) 5 (4)

13 (9) 11 (8) 5 (5)

7 (5) 2 (2) 0

14 (8) 6 (4) 4 (4)

35 (9) 6 (5) 29 (6)

8 (4) 6 (5) 3 (3)

Acct. Ed. J. (1988) J. of Acct. Ed. (1983) Iss. in Acct. Ed. (1983)

2 (2) 2 (2) 0

5 (4) 3 (3) 5 (4)

0 1 (1) 0

4 (4) 2 (2) 1 (1)

0 6 (6) 1 (1)

0 3 (3) 1 (1)

Total

124

162

109

135

284

64

CPA Journal (1931) J. of Accountancy (1906) Nat. Pub. Acct. (1956)

a

13 scholars published 25 articles in JATA in the time period that stretches from before they earned their Ph.D. through 6 years following graduation. b In 1998, Warren, Gorham, and LaMont combined Taxation for Accountants and Taxation for Lawyers into Practical Tax Strategies.

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

Publications by scholars in the 93/94 sample (N ¼ 51 scholars)

An Examination of Tax Scholars’ Publications

17

scholars from different time periods to publish in highly rated journals. We also note that only few articles by tax scholars are published in accounting education journals. Timing within Careers: Academic and Professional Publications Question 4 explores whether publications in professional journals or academic journals occur earlier or later in tax scholars’ careers. Table 3 shows when academic and professional articles occur during tax scholars’ careers. For example, if a 93/94 tax scholar published two articles in academic journals in year ﬁve, both articles would be included in the 17 articles for year ﬁve in Panel A of Table 3. The number of publications of each type relative to year of graduation for the 93/94, 87/88, and 77/78 tax scholars is presented in Panels A, B, and C, respectively. When we compare the number of publications in academic journals to the number of publications in professional journals each year, we do note some differences. The 93/94 scholars published the largest number of professional articles in the pre-Ph.D. time period and the largest number of academic articles in year six. This result suggests that these scholars experienced success during their doctoral programs in writing articles targeted toward professional journal audiences. The large number of academic publications in year six is consistent with scholars publishing as many articles as possible before tenure. For the 93/94 tax scholars, nearly 50 percent of the articles in professional journals were published by year four and over 50 percent of the articles in academic journals were published by year ﬁve. We then compare the proportion of publications in professional journals to academic journals in the pre-tenure time period (pre-Ph.D. through six years after Ph.D.) with the post-tenure period (year seven through year 10) and ﬁnd no signiﬁcant differences (X2 ¼ 0.523, p ¼ 0.536).18 Table 3 Panel B provides an expanded time horizon for publications by 87/88 tax scholars. We note that the greatest number of professional publications occurs in year three and the greatest number of academic publications occurs in year ﬁve. Over 50 percent of both academic and professional articles are published by year six. We compare the proportion of publications in professional journals for both the primary time period (pre-Ph.D. through six years after the Ph.D.) to the secondary time period (years seven to 15 after the Ph.D.). There was no statistically signiﬁcant difference (X2 ¼ 0.476, p ¼ 0.490) between the early period (58 percent in professional journals) and the later period (62 percent in professional journals).

18

Table 3. Timing of 93/94, 87/88, and 77/78 Tax Ph.D. Graduates’ Publications Relative to Year of Graduation. Panel A: 93/94 sample (N ¼ 51 scholars) Year Relative to Graduation

All Publications #

Total

% of 300 Cum. %

32 10 11 26 24 30 35 36 28 23 20 25

10.7 3.0 3.7 8.7 8.0 10.0 11.7 12.0 9.4 7.7 6.7 8.4

300

100%

10.7 13.7 17.4 26.1 34.1 44.1 55.8 67.8 77.2 84.9 91.6 100.0

Publications in Professional Journals

#

% of 144

Cum. %

#

% of 156

Cum.%

10 3 6 12 9 16 17 22 16 15 11 7

6.9 2.1 4.2 8.3 6.3 11.1 11.8 15.3 11.1 10.4 7.6 4.9

6.9 9.0 13.2 21.5 27.8 38.9 50.7 66.0 77.1 87.5 95.1 100.0

22 7 5 14 15 14 18 14 12 8 9 18

14.1 4.5 3.2 9.0 9.6 9.0 11.5 9.0 7.7 5.1 5.8 11.5

14.1 18.6 21.8 30.8 40.4 49.4 60.9 69.9 77.6 82.7 88.5 100.0

144

100%

156

100%

Panel B: 87/78 sample (N ¼ 46 scholars) Year Relative to Graduation

All Publications #

Pre-Ph.D. 0 1

19 11 17

Publications in Academic Journals

% of 522 Cum. % 3.6 2.1 3.3

3.6 5.7 9.0

# 5 2 6

% of 209 2.4 1.0 2.9

Cum. % 2.4 3.3 6.2

Publications in Professional Journals #

% of 313

Cum.%

14 9 11

4.5 2.9 3.5

4.5 7.3 10.8

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

Pre-Ph.D. 0 1 2 3 4 5 6 7 8 9 10

Publications in Academic Journals

Total

46 53 39 48 37 39 36 32 26 25 21 23 24 26

8.8 10.2 7.5 9.2 7.1 7.5 6.9 6.1 5.0 4.8 4.0 4.4 4.5 5.0

522

100%

17.8 28.0 35.5 44.7 51.8 59.3 66.2 72.3 77.3 82.1 86.1 90.5 95.0 100.0

20 20 21 22 17 14 14 13 7 12 7 9 8 12

9.6 9.6 10.0 10.5 8.1 6.7 6.7 6.2 3.3 5.7 3.3 4.3 3.8 5.7

209

100%

15.8 25.4 35.4 45.9 54.1 60.8 67.5 73.7 77.0 82.8 86.1 90.4 94.3 100.0

26 33 18 26 20 25 22 19 19 13 14 14 16 14

8.3 10.5 5.8 8.3 6.4 8.0 7.0 6.1 6.1 4.2 4.5 4.5 5.0 4.5

313

100%

19.1 29.6 35.4 43.7 50.1 58.1 65.1 71.2 77.3 81.5 86.0 90.5 95.5 100.0

Panel C: 77/78 sample (N ¼ 45 scholars) Year Relative to Graduation

All Publications % of 664 Cum. % 10 7 23 22 28 19 24 25 30 42

1.5 1.1 3.5 3.3 4.2 2.9 3.6 3.8 4.5 6.3

1.5 2.6 6.1 9.4 13.6 16.5 20.1 23.9 28.4 34.7

#

% of 216

3 1 5 6 13 8 12 12 10 17

1.4 0.5 2.3 2.8 6.0 3.7 5.6 5.6 4.6 7.9

Publications in Professional Journals

Cum. %

#

% of 448

Cum.%

1.4 1.9 4.2 7.0 13.0 16.7 22.3 27.9 32.5 40.3

7 6 18 16 15 11 12 13 20 25

1.6 1.3 4.0 3.6 3.3 2.5 2.7 2.9 4.5 5.6

1.6 2.9 6.9 10.5 13.8 16.3 19.0 21.9 26.3 31.9

19

Pre-Ph.D. 0 1 2 3 4 5 6 7 8

Publications in Academic Journals

An Examination of Tax Scholars’ Publications

2 3 4 5 6 7 8 9 10 11 12 13 14 15

20

Table 3. (Continued ) Panel C: 77/78 sample (N ¼ 45 scholars) Year Relative to Graduation

All Publications % of 664 Cum. %

Total

26 27 28 27 33 31 22 30 38 18 17 28 30 28 27 10 14

3.9 4.1 4.2 4.1 5.0 4.7 3.3 4.5 5.7 2.7 2.5 4.2 4.5 4.2 4.1 1.5 2.1

664

100%

38.6 42.7 46.9 51.0 56.0 60.7 64.0 68.5 74.2 76.9 79.4 83.6 88.1 92.3 96.4 97.9 100.0

#

% of 216

6 9 7 11 11 12 8 9 14 3 6 7 4 6 6 7 3

2.8 4.2 3.2 5.1 5.1 5.6 3.7 4.2 6.3 1.4 2.8 3.2 1.9 2.8 2.8 3.2 1.4

216

100%

Publications in Professional Journals

Cum. %

#

% of 448

Cum.%

43.1 47.3 50.5 55.6 60.7 66.3 70.0 74.2 80.5 81.9 84.7 87.9 89.8 92.6 95.4 98.6 100.0

20 18 21 16 22 19 14 21 24 15 11 21 26 22 21 3 11

4.5 4.0 4.7 3.6 4.9 4.2 3.1 4.7 5.4 3.3 2.5 4.7 5.8 4.9 4.7 0.6 2.5

36.4 40.4 45.1 48.7 53.6 57.8 60.9 65.6 71.0 74.3 76.8 81.5 87.3 92.2 96.9 97.5 100.0

448

100%

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25

Publications in Academic Journals

An Examination of Tax Scholars’ Publications

21

The longest publication time horizon is presented in Table 3 Panel C for the 77/78 tax scholars. For these scholars, we ﬁnd that over 50 percent of their academic publications occur by year 11 and over 50 percent of their professional publications occur by year 13. We test for differences in the proportion of publications in professional journals for both the pre-tenure and post-tenure periods. In the pre-tenure period, 62 percent of publications were in professional journals; this percentage increased to 69.1 percent in the post-tenure period. But again, there are no statistically signiﬁcant differences among these percentages (X2 ¼ 2.641, p ¼ 0.104). Publications in Different Types of Journals The ﬁfth research question considers whether tax accounting scholars publish their research in tax, accounting, business and society, or educational journals. Table 4 presents the number and percentage of academic and professional publications in each category for 93/94, 87/88, and 77/78 tax scholars in the ﬁrst seven years of their careers. This same information is provided for the 93/94 scholars for years seven through 10 after the Ph.D., for 87/88 scholars for years seven through 15 after the Ph.D., and also for years seven through 25 for the 77/78 tax scholars. The 93/94 tax scholars in the ﬁrst seven years of their careers published 32.6 percent of their academic articles in tax journals, 43.2 percent in accounting journals, 20.0 percent in non-tax/non-accounting journals, and 4.2 percent in educational journals. When professional journals are considered, these scholars published 45.9 percent in tax journals, 33.0 percent in accounting journals, and 21.1 percent in non-tax/non-accounting journals. Excluding the publications in educational journals, the proportion of articles in tax, accounting, and non-tax/non-accounting journals is neither statistically different (X2 ¼ 3.57, p ¼ 0.17) for academic and professional publications in the ﬁrst seven years of their careers nor statistically different in years seven through 10 (X2 ¼ 0.455, p ¼ 0.80). In the ﬁrst seven years of their careers, the 87/88 tax scholars published 27.4 percent of their academic articles in tax journals, 36.3 percent in accounting journals, 23.0 percent in non-tax/non-accounting journals, and 13.3 percent in education journals. In contrast, 63.1 percent of their professional articles appeared in tax journals, 28.0 percent in accounting journals, and 8.9 percent in non-tax/non-accounting journals. Again excluding education articles, we ﬁnd the proportion of articles in each of the remaining three categories does differ signiﬁcantly for academic and professional publications (X2 ¼ 27.073, po0.01). In years seven through 15, and again

22

Table 4. Journal Classiﬁcation

Professional tax Professional accounting Professional nontax/nonaccounting Total professional Total articles

Articles Published Both before and within Seven Years of Receipt of Ph.D.

Articles Published after Seven Years Through year 10

Through year 15

Through year 25

Publications by the 93/94 sample (N ¼ 51 scholars)

Publications by the 87/88 sample (N ¼ 46 scholars)

Publications by the 77/78 sample (N ¼ 45 scholars)

Publications by the 93/94 sample (N ¼ 51 scholars)

Publications by the 87/88 sample (N ¼ 46 scholars)

Publications by the 77/78 sample (N ¼ 45 scholars)

32.6% 43.2%

27.4% 36.3%

11.7% 51.7%

26.5% 53.1%

26.0% 39.6%

15.4% 53.2%

20.0%

23.0%

30.0%

10.2%

25.0%

26.3%

4.2% 100% (95 articles) 45.9% 33.0%

13.3% 100% (113 articles) 63.1% 28.0%

21.1%

8.9%

100% (109 articles)

100% (157 articles)

204

270

6.7% 10.2% 9.4% 100% (60 articles) 100% (49 articles) 100% (96 articles) 75.5% 17.4%

36.2% 53.2%

61.5% 27.6%

5.1% 100% (156 articles) 46.9% 37.7%

7.1%

10.6%

10.9%

15.4%

100% (156 articles)

100% (350 articles)

252

506

100% (98 articles) 100% (47 articles) 158

96

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

Academic tax Academic accounting Academic nontax/nonaccounting Education Total academic

Publications of 93/94, 87/88, and 77/78 Tax Ph.D. Graduates by Journal Classiﬁcation.

An Examination of Tax Scholars’ Publications

23

excluding education articles, the proportions for tax, accounting, and nontax/non-accounting publications in professional journals continue to be signiﬁcantly different (X2 ¼ 25.64, po0.01) from those in academic journals. During the ﬁrst seven years of their careers, the tax scholars who received their Ph.Ds in 1977 or 1978 published 11.7 percent of their academic articles in tax journals, 51.7 percent in accounting journals, 30.0 percent in non-tax/ non-accounting journals, and 6.7 percent in education journals. These percentages are very different than those for professional articles of which 75.5 percent were published in tax journals, 17.4 percent in accounting journals, and 7.1 percent in non-tax/non-accounting journals (X2 ¼ 57.139, po0.01). The percentages of tax, accounting, and non-tax/non-accounting articles in academic and professional publications continues to differ signiﬁcantly in the post-tenure time period from year seven to 25 (X2 ¼ 42.21, po0.01). In summary, the results for the 93/94 scholars are very different than those for both the 87/88 and 77/78 scholars. In every time period, the 87/88 and 77/78 tax scholars had a much greater percentage of their professional articles published in tax-oriented journals. Their academic articles were more often targeted toward a broader accounting audience. There are fewer academic tax journals than accounting journals. In addition, several of the tax journals did not come into existence until a later time period, which may account for the difference in academic publication results between the 93/94 scholars and both the 87/88 and 77/78 scholars. We also ﬁnd the proportions of academic tax, accounting, and non-tax/ non-accounting articles differ signiﬁcantly between the 77/78 and 87/88 scholars and the 77/78 and 93/94 scholars, but not signiﬁcantly between the 87/88 and 93/94 scholars in the ﬁrst seven years of their careers.19 As noted previously, the proportion of academic tax publications in the total academic portfolio increases from 11.7 percent (77/78 sample) to 32.6 percent (93/94). It also is interesting to note the portion of tax scholars’ publication activity in academic journals that are neither tax nor accounting journals. Of the total academic publications, 30.0, 23.0, and 20.0 percent of the 77/78, 87/88, and 93/94 scholars’ publications, respectively, are in non-tax/ non-accounting journals such as the Journal of Finance and the Journal of Economic Psychology.

DISCUSSION This study documents some changes in the publication activity of tax accounting scholars, particularly when we contrast our latest sample, the 93/94

24

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

scholars, with the two earlier groups. Looking ﬁrst, however, at overall productivity measures, we note that all three samples of tax scholars possess a signiﬁcantly smaller percentage of non-publishers and a higher average number of publications per scholar when the productivity measures include all types of publication outlets (i.e., tax, accounting, non-tax/non-accounting in both academic and professional journals). Similar to the ﬁndings in prior research (Christensen et al., 2002), publication activity is greater in schools with accounting Ph.D. programs. A substantial number of tax scholars publish in both academic and professional journals, indicating that the isolation of the academic tax community from the practice tax community may not be as pronounced as has been suggested (Bricker & Previts, 1990). Although publications in academic journals as a whole are increasing, a substantial number of tax articles authored by academicians continue to be published in professional journals. Hence, collectively, tax scholars’ research portfolios reﬂect a balance between publications accessible to academic and professional audiences. Additionally, a comparison of the timing of these academic and professional journal publications across the expanded time periods of the 87/88 and 77/78 samples shows no statistically signiﬁcant differences. The balance of professional and academic articles is maintained over the extended careers of tax scholars. The research focus, rigor, and training in Ph.D. programs may account for the increase in the overall number of publications in academic journals over time. The creation of additional journals may serve to offset the low acceptance rates in some journals. Further, the reward structure within the academic community and reduced teaching loads are likely to contribute to continuous publication efforts over tax scholars’ careers. Finally, the mission of a particular school to expand the boundaries of knowledge, build bridges to the professional community, or improve pedagogy is likely to inﬂuence the research and publication activities of tax scholars. We also see a change in the latest scholar group with regards to publications in professional journals. Of the three groups, the 93/94 scholars published the largest number of professional articles in the pre-Ph.D. period. The increase in professional journal publications in this early time period may reﬂect an increased pressure to publish before exiting the doctoral program but also may support an early understanding of the applicability of one’s research to the broader professional community. The results for the 93/94 scholars also differ from the 87/88 and 77/78 scholars in terms of where their professional articles are published. In every time period, the 87/88 and 77/78 tax scholars have a greater percentage of

An Examination of Tax Scholars’ Publications

25

their professional articles in tax journals and a smaller percentage of academic articles published in tax journals. This percentage is closer to being equal for the 93/94 sample. Further, examining professional journal activity, we see a shift in outlet choice by the 93/94 scholars from professional tax to professional accounting and non-tax/non-accounting. In contrast, looking at academic journal activity, we see a shift in publications from academic accounting to academic tax. As noted previously, differences in the years various journals began publication challenge our ability to compare publication activity. For tax scholars in the 93/94 and 87/88 samples, we do ﬁnd an increase in the number of articles published in The Journal of the American Taxation Association and Advances in Taxation, a decrease in the number published in The Accounting Review and only occasional publications in Accounting, Organizations and Society, the Journal of Accounting and Economics, and the Journal of Accounting Research. These ﬁndings are consistent with the intertemporal evidence of Swanson (2004), who shows the proportion of accounting faculty publishing in four major journals declining over the time period 1980–1999 (The Journal of Accounting & Economics, Journal of Accounting Research, The Accounting Review, and Contemporary Accounting Research), as well as additional evidence of an increase in competition measured by an increase in the average number of co-authors. It underscores the importance of The Journal of the American Taxation Association and Advances in Taxation as outlets for academic tax publications and provides support for the suggestion of Swanson (2004, p. 249) ‘‘to allow the most highly rated journal in an accounting faculty member’s primary area of interest (that is, ﬁnance, managerial, auditing, systems, or tax) to be treated as a major journal.’’ Our results should be considered in light of several limitations. First, the tax scholars in the 77/78 and 87/88 samples must have remained in academia at least through 1996. Second, fewer 93/94 tax scholars were ﬁrst employed at accounting Ph.D. granting institutions than the 87/88 and 77/78 tax scholars. The publication activity of scholars who completed their Ph.Ds in other years may differ from those in the years we selected. Third, as in many prior productivity studies, we count dissimilar publications without adjusting for quality and we give full credit to all authors. Giving equal weight to sole-authored and co-authored publications may increase the number of publications examined in totality. Englebrecht et al. (1994, p. 67) suggest the ‘‘lack of a logical rule for employing differential weights to co-authored and sole-authored publications preclude(s) any such classiﬁcation’’ in studies of this type. Finally, our ﬁndings are limited by any inaccuracies that may be present in the databases used.

26

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

This study provides a comprehensive examination of where tax scholars have directed their research efforts. It documents a long-standing and continuing stream of publications directed toward the professional tax community, while observing an increase in academic publications, many of which appear in academic tax journals. There is increased interest in assessment in university settings, including reporting and evaluating publication activity of researchers at different stages of employment and when adjusting salaries. Though we do examine the period of time that is typically viewed as the tenure clock, we include additional time period comparisons. Depending on the research expectations of a university, the results of this study could be constructive in both establishing goals for and in evaluating performance of tax scholars annually and at other traditional milestones in their academic careers.

NOTES 1. The 1996 Prentice-Hall Accounting Faculty Directory was selected to allow for the lag time that may have occurred in 1994 graduates being listed in the directory. Some of the selected individuals had one or more other teaching or research interests. 2. We also searched the Lexis/Nexis Index of Law Review Articles, but did not ﬁnd any additional publications by the individuals in our samples. We did ﬁnd one law review article by a member of one sample listed in CCH’s Federal Tax Articles. 3. We collected information on scholars who moved from doctoral granting schools to non-doctoral granting schools and vice versa during the pre-tenure period (Hasselback, 1978–1997). We noted no signiﬁcant differences in the overall mean and median number of publications by scholars at doctoral and non-doctoral granting schools when adjustments are made for school changes. Hence, we classify scholars strictly on the basis of their ﬁrst school of employment after the doctoral degree. 4. Tax scholars with a J.D. or L.L.M. were only included in the study if they also had a Ph.D. This decision was made because the type of research training undertaken in Ph.D. programs differs from that in J.D. and L.L.M. programs. 5. Some universities consider only publications of scholars while in residence for tenure and promotion decisions. We provide information so that the mean number of publications can be calculated excluding those that occurred prior to completing the Ph.D. 6. We chose 1988 graduates in order to provide a seven-year time period that includes 1988 through 1994. We then increased the sample size by pooling the 1988 graduates with the 1987 graduates. The earliest sample (1977 and 1978) allows us to compare ﬁndings from a decade earlier. 7. In cases where the same article may have been reprinted in another journal, with a different title, authors were given credit for two publications. In cases where the title did not change, as in articles ﬁrst published in Taxation for Accountants and then reprinted in Taxation for Lawyers, the authors were given credit for a single publication.

An Examination of Tax Scholars’ Publications

27

8. The reader is referred to Christensen et al. (2002) for a comprehensive discussion of ABI Inform and the Social Science Citation Index. The EconLibrary (formerly the Economic Literature Database) updates the Accounting Literature Index and several other indexes to include 475 journals of economics, ﬁnance, accounting, insurance, and real estate. The CCH Federal Tax Articles also includes a number of journals specializing in tax that are not incorporated in the other databases searched. 9. We recognize that the databases we searched are unlikely to contain 100 percent of the publications of our scholars. We obtained vitae from a subset of our scholars and compared the publication records we developed from the various databases to the publication records on speciﬁc vitae. We did discover some publications on the vitae that were not included in our data set. These journals tended to be of a more specialized nature, such as The Marquette Sports Law Journal and The Behavior Therapist. There were articles also in the study dataset that were not reﬂected on the vitae. Follow-up phone calls to these scholars indicated that the vitae contained only selected publications. Because not everyone responded to our request for vitae, we included only publications that were included in the databases. This approach creates consistency in the treatment of all scholars in our samples. 10. Management Accounting has been renamed Strategic Finance, which we also classify as an accounting journal. 11. Books, monographs, and other non-journal publications are omitted from this study although they are considered for promotion and tenure purposes at most schools. 12. Christensen et al. (2002) use 1987/88 and 1977/78 samples comprised of scholars from all the accounting disciplines. They note that 34% of the 1987/1988 sample and 51% of the 1977/1978 sample did not publish. Using the Accounting Literature Index, Read et al. (1998) examine publication productivity of accounting faculty promoted during the period 1987–1994 and ﬁnd 40% (0%) of faculty at nondoctoral granting institutions (doctoral granting institutions) have no publications. Examining accounting faculty who were promoted in 1987, 1988, and 1989, Englebrecht et al. (1994) determine that approximately 2–38 percent of the individuals promoted are non-publishers with the low end of the range being for individuals at accredited doctoral-granting institutions and the high end being for faculty at nonaccredited, non-doctoral granting institutions. 13. Excluding non-publishers, the average number of publications is 4.44 for the 93/94 scholars, 6.43 for the 87/88 scholars, and 4.27 for the 77/78 scholars. 14. This is a one-tailed test as we expected scholars employed at doctoral granting institutions to have a larger number of publications than those employed at nondoctoral granting institutions (Christensen et al., 2002; Read et al., 1998). 15. The average number of publications for each group over different time periods may be calculated using Table 3. 16. These are two-tailed tests as we did not have any a priori expectations that one group would publish more in professional or academic journals than another group. 17. We rely on highly rated journals listings from prior studies. Read et al. (1998) base their listing of the top nine journals on a study by Brown and Huefner (1994), who asked senior faculty to rank 44 journals. We include their journals and add The National Tax Journal, which was included on the senior faculty list but not in their study, as it was not part of the data source they used (Accounting Literature Index).

28

ANNE L. CHRISTENSEN AND CLAIRE K. LATHAM

For journals not included in Table 2, the reader is referred to the appendix, which provides frequency counts for all the journals in which the sample scholars are published. 18. These are two-tailed tests as we did not have any a priori expectations that the proportion of publication in professional journals would change from one time period to another. 19. The test statistic for the differences in proportions for 77/78 and 87/88 is X2 ¼ 8.975, p ¼ 0.03; the 77/78 and 93/94 is X2 ¼ 9.136, p ¼ 0.028; and for 87/88 and 93/94 is X2 ¼ 5.944, p ¼ 0.114.

ACKNOWLEDGMENTS The authors gratefully acknowledge the ﬁnancial support for this research that was provided by Montana State University and Washington State University. In addition, we would like to thank Rosanne Mohr, Timothy Rupert, Debra Sanders, the anonymous reviewers and the Editor, Suzanne Luttman for helpful comments and suggestions on the manuscript.

REFERENCES Bricker, R. J., & Previts, G. J. (1990). The sociology of accountancy: A study of academic and practice community schisms. Accounting Horizons, 4(March), 1–14. Brown, L. D., & Huefner, R. J. (1994). The familiarity with and perceived quality of accounting journals: Views of senior accounting faculty in leading U.S. MBA programs. Contemporary Accounting Research, 11(Summer), 223–251. Cabell, D. E., & English, D. L. (Eds) (2001–2002a). Cabell’s directory of publishing opportunities in accounting, (8th ed.). Beaumont, TX: Cabell Publishing Co. Cabell, D. E., & English, D. L., (Eds) (2001–2002b). Cabell’s directory of publishing opportunities in economics and finance (Vols. I and II, 8th ed.). Beaumont, TX: Cabell Publishing Co. Cabell, D. E., & English, D. L., (Eds) (2001–2002c). Cabell’s directory of publishing opportunities in management (Vols. I–IV, 8th ed.). Beaumont, TX: Cabell Publishing Co. Cabell, D. E., & English, D. L. (Eds) (2001–2002d). Cabell’s directory of publishing opportunities in marketing, (8th ed.). Beaumont, TX: Cabell Publishing Co. Campbell, D. R., & Morgan, R. G. (1987). Publication activity of promoted accounting faculty. Issues in Accounting Education, 2(Spring), 28–43. Cargile, B. R., & Bublitz, B. (1986). Factors contributing to published research by accounting faculties. The Accounting Review, 6(January), 158–178. Christensen, A. L., Finger, C. A., & Latham, C. K. (2002). New accounting scholars’ publications in accounting and non-accounting journals. Issues in Accounting Education, 17(August), 233–252. Englebrecht, T. D., Iyer, G., & Patterson, D. (1994). An empirical investigation of the productivity of promoted accounting faculty. Accounting Horizons, 8(March), 45–68.

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Ettredge, M., & Wong-On-Wing, B. (1991). Publication opportunities in accounting research journals: 1970–1988. Issues in Accounting Education, 6(Fall), 239–247. Gomez-Mejia, L. R., & Balkin, D. (1992). Determinants of faculty pay: An agency theory perspective. Academy of Management Journal, 35(5), 921–955. Hagerman, R. L., & Hagerman, C. M. (1989). Research promotion standards at selected accounting programs. Issues in Accounting Education, 4(Fall), 265–279. Hall, T. W., & Ross, W. R. (1991). Contextual effects in measuring accounting faculty perceptions of accounting journals: An empirical test and updated journal rankings. Advances in Accounting, 9, 161–182. Hasselback, J. R. (1978–1997). Accounting faculty directory. Englewood Cliffs, NJ: PrenticeHall. Henderson, G., Jr., Ganesh, K., & Chandy, P. R. (1990). Across-discipline journal awareness and evaluation: Implications for the promotion and tenure process. Journal of Economics and Business, 42(4), 325–351. Hull, R. P., & Wright, G. B. (1990). Faculty perceptions of journal quality: An update. Accounting Horizons, 4(March), 77–98. Kozub, R. M., Sanders, D. L., & Raabe, W. A. (1990). Measuring tax faculty research publication records. Journal of the American Taxation Association, 12(Fall), 94–101. Milne, R. A., & Vent, G. A. (1987). Publication productivity: A comparison of accounting faculty members promoted in 1981 and 1984. Issues in Accounting Education, 2(Spring), 94–102. Raabe, W. A., Kozub, R. M., & Sanders, D. L. (1987). Attitude measurement and the perceptions of tax accounting faculty publication outlet. Journal of Accounting Education, 6(Spring), 45–57. Read, W. J., Rama, D. V., & Raghunandan, K. (1998). Are publishing requirements for accounting faculty promotions still increasing? Issues in Accounting Education, 13(May), 327–340. Schultz, J. J., Meade, J. A., & Khurana, I. (1989). The changing roles of teaching, research, and service in the promotion and tenure decisions for accounting faculty. Issues in Accounting Education, 4(Spring), 109–119. Spiceland, J. D., & Agrawal, S. (1988). International guide to accounting journals. New York, NY: Markus Weiner Publishing, Inc.. Swanson, E. P. (2004). Publishing in the majors: A comparison of accounting, ﬁnance, management and marketing. Contemporary Accounting Research, 21(Spring), 223–255. Vargo, R. J., & Vargo, M. T. (1998–1999). The author’s guide to accounting and financial reporting publications (Revised Ed.). Lodi, CA: Vargo Publishing. Windal, F. W. (1981). Publishing for a varied public: An empirical study. The Accounting Review, 56(July), 653–659. Zivney, T. L., Berton, W. J., & Gavin, T. A. (1995). A comprehensive examination of accounting faculty publishing. Issues in Accounting Education, 10(Spring), 1–25.

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APPENDIX List of Journalsa Academy of Management Executive (PN) (1) Accountancy Ireland (PA) (1) Accounting and Business Research (AA) (2) Accounting and Finance (PA) (1) Accounting Educator’s Journal (ED) (11) Accounting Enquiries (AA) (4) Accounting Historians Journal (AA) (2) Accounting Horizons (AA) (20) Accounting, Auditing & Accountability Journal (AA) (3) Accounting, Organizations and Society (AA) (2) Advances in Accounting (AA) (12) Advances in International Accounting (AA) (4) Advances in Public Interest Accounting (AA) (1) Advances in Quantitative Analysis of Finance and Accounting (AA) (2) Advances in Taxation (AT) (25) Administration and Society (PN) (1) Akron Business and Economic Review (PN) (2) American Business Law Journal (PN) (1) American Business Review (PN) (3) American Economic Review (AN) (1) Applied Financial Economics (AN) (3) Appraisal Journa1 (PN) (2) Arkansas Business and Economic Review (PN) (1) Asian Paciﬁc Journal of Management (AN) (1) Auditing: A Journal of Practice and Theory (AA) (15) Australian Accountant (PA) (1) Behavioral Research in Accounting (AA) (3) Beneﬁts Quarterly (PN) (1) British Accounting Review (AA) (1) British Tax Review (PT) (3) Business (PN) (2) Business Communication Quarterly (PN) (1) Business Forum (PN) (1) Business History (AN) (1) Business Quarterly (PN) (1) CA Magazine (PA) (5) Canadian Journal of Economics (AN) (1) Competitiveness Review (PN) (1) Computers in Accounting (PA) (2)

An Examination of Tax Scholars’ Publications

APPENDIX (Continued ) List of Journalsa Contemporary Accounting Research (AA) (15) Corporate Accounting (PA) (1) Corporate Controller (PA) (2) Corporate Tax (PT) (3) S Corporations: The Journal of Tax, Legal and Business Strategies (PT) (3) CPA Journal (PA) (92) Decision Sciences (AN) (1) Economic Journal (AN) (1) Economic Letters (AN) (1) Engineering Economist (PN) (1) Estate Planning (PN) (3) Financial Accountability and Management (AA) (1) Financial Analysts Journal (PN) (2) Financial Management (PN) (2) Financial Review (AN) (2) Financial Services Review (AN) (2) Government Accountants Journal (PA) (2) Government Finance Review (PN) (2) Housing Policy Debate (AN) (2) Internal Auditing (PA) (7) Internal Auditor (PA) (10) International Journal of Accounting and Education Research (ED) (9) International Journal of Forecasting (AN) (1) International Tax Journal (PT) (14) Issues in Accounting Education (ED) (8) Ivey Business Journal (PN) (2) Journal of Accountancy (PA) (36) Journal of Accounting & Economics (AA) (19) Journal of Accounting and Public Policy (AA) (17) Journal of Accounting Education (ED) (17) Journal of Accounting Literature (AA) (7) Journal of Accounting Research (AA) (40) Journal of Accounting, Auditing and Finance (AA) (14) Journal of Accounting, Auditing and Taxation (AA) (6) Journal of Agricultural Taxation and Law (PT) (1) Journal of American Academy of Business (AN) (1) Journal of Applied Business Research (AN) (11) Journal of Applied Economics (AN) (1) Journal of Asset Protection (PN) (1)

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APPENDIX (Continued ) List of Journalsa Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal Journal

of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of of

Bank Taxation (PT) (1) Business (PN) (3) Business and Economic Studies (AN) (1) Business Ethics (AN) (6) Business Research (AN) (2) Business, Finance and Accounting (PA) (18) Compensation and Beneﬁts (PN) (3) Corporate Accounting and Finance (PN) (20) Corporate Taxation (PT) (8) Cost Management (AA) (1) Economic Behavior and Organization (AN) (1) Economic Issues (AN) (2) Economic Psychology (AN) (3) Economic Theory (AN) (2) Economics and Business (PN) (1) Environmental Economics and Management (AN) (1) Finance (AN) (4) Financial Economics (AN) (5) Financial Planning (PN) (4) Financial Research (AN) (2) Financial Service Professionals (PN) (3) Financial Statement Analysis (AN) (1) Forecasting (AN) (3) General Management (PN) (1) Health Economics (AN) (1) Housing Economics (AN) (1) Housing Research (AN) (1) International Business Studies (AN) (2) International Taxation (PT) (2) Law and Economics (AN) (3) Legal Studies (AN) (1) Lending and Credit Risk Management (PN) (1) Macroeconomics (AN) (1) Management Accounting Research (AA) (3) Marketing (AN) (1) Mathematical Economics (AN) (1) Operations Management (AN) (1) Organizational Behavior (AN) (2) Partnership Taxation (PT) (3)

An Examination of Tax Scholars’ Publications

APPENDIX (Continued ) List of Journalsa Journal of Pass Through Entities (PA) (2) Journal of Pension Planning and Compliance (PN) (1) Journal of Political Economy (AN) (1) Journal of Professional Services Marketing (AN) (1) Journal of Property Management (PN) (2) Journal of Public Budgeting, Accounting and Financial Management (AA) (1) Journal of Real Estate Finance and Economics (AN) (2) Journal of Real Estate Research (AN) (1) Journal of Real Estate Taxation (PT) (17) Journal of Retirement Planning (PN) (1) Journal of Small Business Management (PN) (1) Journal of Small Business Research (AN) (2) Journal of State Taxation (PT) (2) Journal of Tax Practice and Procedures (PT) (1) Journal of Taxation (PT) (41) Journal of Taxation of Corporate Transactions (PT) (2) Journal of Taxation of Estates and Trusts (PT) (1) Journal of Taxation of Investments (PT) (19) Journal of the American Real Estate and Urban Economics Assoc. (PN) (1) Journal of the American Society of CLU and CHFC (PN) (3) Journal of the American Taxation Association (AT) (88) Journal of the Marketing Research Society (AN) (2) Journal of Theory Decisions (AN) (1) Journal of Urban Economics (PN) (1) Journal of World Trade (PN) (1) Lecture Notes in Economics and Mathematical Systems (AN) (1) Local Government Studies (PN) (1) Long Range Planning (PN) (2) Louisiana CPA (PA) (1) Louisiana Law Review (AN) (1) Management Accounting (PA) (25) Management Accounting Quarterly (PA) (1) Management and Decision Economics (AN) (2) Management International Review (AN) (1) Management Science (AN) (1) Managerial Auditing Journal (PA) (9) Managerial Finance (AN) (4) Mid-American Journal of Business (AN) (3) Multinational Business Review (PN) (1)

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APPENDIX (Continued ) List of Journalsa National Public Accountant (PA) (46) National Tax Journal (AT) (17) Nonproﬁt Management and Leadership (PN) (1) Nonproﬁt World (PN) (2) Ohio CPA Journal (PA) (12) Oil and Gas Tax Quarterly (PT) (5) Organizational Behavior and Human Decision Processes (AN) (4) Plant Engineering (AN) (1) Practical Accountant (PA) (13) Practical Tax Strategies (PT) (20) Production and Inventory Management Journal (AN) (1) Property Tax Journal (PT) (1) Psychological Reports (AN) (2) Public Administration Review (AN) (1) Public Finance Quarterly (AN) (2) Public Opinion Quarterly (AN) (2) Rand Journal of Economics (AN) (1) Real Estate Accounting and Taxation (PT) (4) Real Estate Appraiser and Analyst (PN) (1) Real Estate Law Journal (PN) (18) Real Estate Review (PN) (7) Regional Science and Urban Economics (AN) (1) Research in Accounting Ethics (AA) (4) Research in Accounting Regulation (AA) (4) Review of Accounting Studies (AA) (5) Review of Business and Economic Research (AN) (1) Review of Financial Economics (AN) (2) Review of Financial Studies (AN) (2) Review of Taxation of Individuals (PT) (9) Small Business Controller (AN) (2) Small Business Taxation (PT) (1) Social Science Quarterly (PN) (1) Socio Economic Planning Science (AN) (1) South Dakota Business Review (PN) (2) Southern Economic Journal (PN) (1) Spectrum (AN) (1) SRA Journal (PN) (1) Strategic Financeb (PA) (5) Systems: The Journal of State Government (AN) (1)

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APPENDIX (Continued ) List of Journalsa Tax Advisor (PT) (130) Tax Executive (PT) (4) Tax Notes (PT) (20) Tax Notes International (PT) (2) Taxation for Accountants (PT) (79) Taxation for Lawyers (PT) (1) Taxes (PT) (103) The Accounting Review (AA) (52) The Oxford Economic Papers: New Series (AN) (1) Total Quality Management (AN) (1) Transportation Journal (AN) (1) Trusts and Estates (PN) (3) Woman CPA (PA) (5) World Bank Economic Review (AN) (1) a

Code: AA (Academic Accounting), AN (Academic Non-Accounting), AT (Academic Tax), ED (Education), PA, (Professional Accounting), PN (Professional Non-Accounting, Non-Tax), PT (Professional Tax). Number in parentheses is number of articles published by sample scholars. b Formerly titled Management Accounting.

TAX PLANNING FOR THE LOBBY TAX Mary Ann Hofmann ABSTRACT In 1993, Congress eliminated the business deduction for lobbying. The disallowance extends to dues paid to tax-exempt trade and labor associations when those organizations conduct lobbying activities. Associations are required to notify members regarding the portion of their dues that is non-deductible or pay a flat 35% tax on their lobbying expenditures. This study examines the factors considered by associations in making the pay-or-notify decision, looking for evidence that associations consider the marginal tax rates of their members to insure that the party with the lowest marginal rate pays the tax. Data is obtained from the IRS and is supplemented by data collected in a mail survey. The evidence suggests that associations do not necessarily attempt to minimize the total tax cost to all parties. This study identifies a situation where non-profit firms might fail to implement an optimal tax planning strategy, and where the absence of a competitive market allows this inefficiency to persist.

INTRODUCTION The IRC Section 6033 proxy tax, commonly known as the lobby tax, sets up a unique situation in which a tax-exempt association that engages in Advances in Taxation, Volume 17, 37–63 Copyright r 2007 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1058-7497/doi:10.1016/S1058-7497(06)17002-7

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lobbying activities can choose whether to pay a tax on those activities or to pass the incidence of the tax on to its members by making their dues a nondeductible expense. Even if one argues that the incidence of the tax ultimately falls on the members either way, the organization’s choice inﬂuences the rate at which the tax is paid – 35% if paid by the association, and anywhere from 0% to 50%, depending on the marginal tax bracket, if passed along to the members in the form of a disallowed deduction.1 This article explores the factors that inﬂuence the association’s choice of whether to notify members as to the non-deductibility of their dues or to pay the lobby tax. Speciﬁcally, it looks for evidence that trade, labor, and agricultural associations (hereafter referred to simply as associations) consider the marginal tax rates of their members to insure that the party with the lowest marginal rate pays the lobby tax. This is the ﬁrst research study to examine empirically the lobby tax issue. The pay-or-notify decision is modeled using a binomial logistic regression. Data is obtained from the IRS Statistics of Income (SOI) Division and is supplemented by a mail survey of associations with lobbying activity. The evidence suggests that associations do not necessarily seek to minimize the total tax cost associated with the lobby tax. Non-tax considerations seem to drive the decision, but it is not clear that associations always make the optimal choice for their members. This study identiﬁes a situation where nonproﬁt ﬁrms might ignore the ‘‘all parties, all taxes, all costs’’ tax-planning approach (Scholes et al., 2005) and where the absence of a competitive market allows this inefﬁciency to persist. The paper proceeds as follows. The next section describes the lobby tax and develops the primary research proposition. The third and fourth sections discuss the research method and the data, while the ﬁnal sections present the results and conclusions.

BACKGROUND AND HYPOTHESIS DEVELOPMENT The Taxation of Lobbying In the United States, lobbying has become an accepted and ever-present part of the political system. Many large corporations, labor unions, professional associations, educational groups, medical interests, farm alliances, and various public interest and social issue groups maintain permanent lobbies in Washington, DC and in state capitals to promote and protect their interests (‘‘Lobbying,’’ 2001–2004; see also http://www.opensecrets.org). Trade and professional associations, labor unions, agricultural associations, and other

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alliances provide an important means of pooling resources to make lobbying more effective and efﬁcient. One of the major functions of many such tax-exempt membership organizations is to advance their interests in the political arena (Hudson Institute, 1990). The potential for corruption, especially bribery of public ofﬁcials, has given lobbying an unfavorable connotation and the federal government has made many attempts to regulate lobbying.2 The Internal Revenue Code also contains several disincentives for lobbying. While amounts spent on political campaigns or for ‘‘grass roots’’ lobbying generally have not been deductible for tax purposes, the Revenue Act of 1962 allowed a business deduction for expenses that are directly attributable to appearances before committees or individual members of federal, state, or local legislative bodies in connection with existing or proposed legislation that will, or may reasonably be expected to, affect such trade or business (P.L. 87–834 Sec. 3(a)). This Act also allowed a deduction for amounts expended in communicating information on legislative matters to trade or professional organizations of which the taxpayer was a member, as well as for dues paid to such an organization to conduct the actual lobbying.

The Section 6033 Proxy Tax The Omnibus Budget Reconciliation Act of 1993 brought an end to government subsidy of lobbying by eliminating the business tax deductibility of lobbying expenditures. Furthermore, it prevents taxpayers from obtaining an indirect deduction for the lobbying carried out through tax-exempt trade associations. Individuals or corporations paying dues to a non-proﬁt organization, such as a trade association, that engages in lobbying activities are disallowed from deducting the portion of those dues allocable to lobbying activities, and lobbying expenses are presumed to be paid ﬁrst from dues. If a non-proﬁt membership organization fails to notify its members regarding the amount of their non-deductible dues, the organization itself must pay a ﬂat 35% tax on its lobbying expenditures. This payment is the proxy tax, more commonly known as the lobby tax. In tax year 1998, 612 associations reported and paid a total of $10.8 million of lobby tax (Riley, 2002). Section 6033(e) of the Internal Revenue Code outlines the requirements for associations to report their lobbying activities or pay the lobby tax, and it created a fair amount of controversy when ﬁrst enacted. The American Society of Association Executives (ASAE) predicted that the denial of a

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business deduction for lobbying expenditures would dramatically reduce lobbying activities by associations and thus severely limit the voice of their constituencies in government. In the words of ASAE’s government affairs issues analyst, ‘‘This curtailment of legislative speech not only threatens the legitimate interests of the association community, but it is a clear indicator of the lobby tax’s unconstitutionality’’ (Tenenbaum, 1994b, p. 55; Smith, 1995).3 A large part of the association community’s objection to this law is that it places an undue record-keeping burden on associations that lobby (Weiland, 1993; Tenenbaum, 1994a; Smith, 1995).

A Tax-Planning Model for the Lobby Tax Tax planning in the corporate world is best described by Scholes et al. (2005). Their book, Taxes and Business Strategy: A Planning Approach, presents a global framework for business decisions involving taxes. In essence, this approach involves maximizing the after-tax net cash ﬂows to all parties to a business transaction. This framework, ﬁrst published in 1992, has been widely adopted, and academic researchers have found evidence of its validity in a variety of empirical studies.4 For securities trading in public markets, and for publicly traded ﬁrms operating in competitive markets, the opportunities for arbitrage seem to ensure that the optimal tax-planning approach is followed, but the question remains: does optimal tax planning apply to non-proﬁt ﬁrms operating in a non-competitive environment? The lobby tax, therefore, provides an opportunity to examine tax planning in the non-proﬁt sector. Several recent studies have examined taxes in the non-proﬁt setting – speciﬁcally the Unrelated Business Income Tax (UBIT). Sansing (1998) explores analytically the impact of the UBIT in inducing productive efﬁciency among nonproﬁts. Yetman (2001) ﬁnds evidence that charitable non-proﬁts shift expenses from exempt activities to taxable activities to minimize the UBIT (see also Omer & Yetman, 2003). Hofmann (2006) ﬁnds similar evidence using a sample of non-charitable nonproﬁts. These studies suggest aggressive tax planning (or perhaps even tax evasion) on the part of exempt organizations subject to the UBIT. The lobby tax could be susceptible to a similar type of cost allocation bias. When an association engages in in-house lobbying activities, a portion of administrative overhead costs must be allocated to lobbying expense, and thus be subject to the lobby tax. Clearly, a carefully designed cost system could minimize such allocations. The focus of this article, however, is not on the allocation of expenses to lobbying.

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Rather, taking the lobbying expenses reported as given, this study explores the association’s choice of whether to pay the lobby tax or shift it to members as a disallowed deduction. If the corporate model applies to the non-proﬁt world, the goal of tax planning for the lobby tax should be to maximize net after-tax cash ﬂows to all parties. Since the pay-or-notify decision primarily involves cash outﬂows, the objective would be to minimize the total tax and non-tax costs to the association and its members. Consider, for example, an association whose membership consists of self-employed professionals, each of whom is in the 25% marginal federal income tax bracket and is subject to the 15.3% selfemployment tax. If this association collects dues of $100,000 per year and spends $50,000 on lobbying, it would have to either notify the members that 50% of their dues are not deductible or pay $17,500 (35% $50,000) in lobby tax (which it possibly could re-coup through higher dues assessments). Fig. 1 illustrates three available alternatives. The decision to notify the members has a zero tax cost to the association but a cost of $18,682 in additional taxes paid by the members. In Alternative B, the association pays the tax. Consequently, the services the members receive are reduced by $17,500, but they avoid $18,682 in taxes. Alternative C, where the association pays the tax and increases dues by an offsetting amount, has the same net result for the association as Alternative A but at a much lower cost to the members, since the dues are tax-deductible. Before one can choose the optimal alternative, one must compare the $17,500 reduction in services to the $18,682 increase in taxes or the $10,961 after-tax increase in dues. For lack of evidence to the contrary, the initial assumption is that members value the services provided by the association on a dollar-for-dollar basis (this assumption is revisited in the Sensitivity Analysis section of the paper). Thus, members should prefer the $17,500 reduction in services (Alternative B) to the $18,682 increase in taxes (Alternative A). Likewise, they should prefer the $10,961 after-tax increase in dues (Alternative C) to the $17,500 reduction in services (Alternative B). Therefore, Alternative C is the optimal choice. Some general propositions emerge from an examination of Fig. 1. Alternative B will be preferable to Alternative A whenever the members’ combined marginal tax rate (CMTR) with respect to the dues deduction is greater than 35%. The CMTR equals the change in total tax liability (selfemployment taxes plus income tax) resulting from the deduction of $1 of association dues; Appendix A shows the derivation of the formula. Alternative C will be preferable to Alternative B if members can take advantage of an increased tax deduction for the increased dues, but will be preferable

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Assumptions: • The association collects dues revenues of $100,000 annually. • The association spends $50,000 annually on lobbying. • The members are all self-employed, subject to a 25% marginal federal income tax rate and a 15.3% self-employment tax rate (1/2 of which is deductible for AGI). • The members currently deduct their association dues on Schedule C. • Administrative costs of notification or payment are approximately equal. • State and local income taxes are ignored. Alternative A: The association notifies members that 50% of dues are non-deductible. Consequences to Association No tax consequences No cash flow consequences No change in level of services provided

Consequences to Members Loss of $50,000 deduction, resulting in aggregate increased taxes of $18,682* No change in association services

Alternative B: The association pays the 35% lobby tax. Consequences to Association Increased tax of $17,500 Decrease in cash flow of $17,500 $17,500 decrease in services provided

Consequences to Members No loss of deduction or tax increase No dues increase $17,500 reduction in services received

Alternative C: The association pays the 35% lobby tax and raises dues to compensate.

Consequences to Association Increased tax of $17,500, offset by dues No net cash flow consequences No change in level of services provided

Consequences to Members Increased dues, increased deduction: after-tax cost of dues increase, $10,961** No change in association services

*$50,000 additional self-employment income *0.9235* 15.3% = $7,065 additional self-employment tax [$50,000 – ½($7,065)]* 25% = $11,617 additional federal income tax $11,617 + $7,065 = $18,682 increase in tax liabilities (combined marginal tax rate = 37.4%) **$17,500 reduction of self-employment income *0.9235 * 15.3% = $2,473 self-employment tax savings ($17,500 –1,236.5) *25% = $4,066 federal income tax savings from increased dues deduction. $17,500 increase in dues less total tax savings of $6,539 = $10,961 after-tax cost of dues increase

Fig. 1.

An Illustration of the Pay-or-Notify Decision.

to Alternative A whenever the CMTR exceeds 26%. Proofs of these propositions appear in Appendix B.5 The Research Proposition In the simpliﬁed example shown in Fig. 1, all of the members were in the same self-employment and income tax brackets. Actually, members will face CMTRs ranging from 0% to 51%. Rather than seeking to minimize the total

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taxes paid by all parties, the association is more likely to attempt to please the greatest number of members. Members in a marginal tax bracket at or below 26% or those who do not or cannot deduct the dues as a business expense or employment-related expense will be best served by being disallowed the deduction for the dues (rather than having to pay higher dues or receive diminished services). On the other hand, members in a combined marginal tax bracket (with respect to the dues deduction) above 26% will prefer that the association pay the lobby tax. Thus, the research proposition is: The probability that an association pays the lobby tax is positively associated with the proportion of its membership that is in a combined marginal tax bracket (with respect to the dues deduction) exceeding 26%.

Non-tax costs also need to be considered, such as record-keeping and administrative costs that might vary between the two alternatives and across ﬁrms. The lobbying expenditures must be tracked whether for disclosure or for lobby tax computation, so basic record-keeping costs should not differ between the two options (Tenenbaum, 1994b). Disclosure of lobbying activity usually takes place on the dues assessment notice, so no additional mailings are required for ﬁrms choosing to notify. Associations that pay the lobby tax must ﬁle Form 990-T; thus, associations that do not have Unrelated Business Income to report incur an incremental ﬁling cost.6 In addition to administrative costs, the political costs of the choice must be considered. To implicitly pass the incidence of the tax to the membership, the association must disclose the extent of its lobbying activities. An article in Association Management suggested that some associations might be reluctant to disclose lobbying expenses to members because they fear that members may disapprove of how much (or how little) of their dues are being spent on political activities (Hopkins & Tesdahl, 1995).7 Finally, associations also likely vary as to budgetary and cash ﬂow constraints. These nontax costs and constraints must be included in the decision model.

RESEARCH METHOD The Logit Regression Model The choice of whether to disclose the lobbying expenditures or pay the lobby tax can be analyzed using a binomial logistic (logit) regression model.8 The general form of this model is PAY ¼ f fCMTR; non-tax factors and control variablesg

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MARY ANN HOFMANN

where the dependent variable PAY takes on the value of one if the association elects to pay the lobby tax and zero otherwise, and CMTR measures the proportion of the membership with a CMTR above the speciﬁed cut-off. Non-tax factors and control variables include the size of the association, the proportion of revenue derived from dues, the proportion of total expenses devoted to lobbying, the proportion of dues spent for lobbying, administrative costs of notiﬁcation versus paying the lobby tax, cash ﬂow constraints, etc. See Table 3, which appears later in this article, for a complete description of the model and deﬁnitions of the variables.

The Marginal Tax Rate Variable It is not possible to determine the marginal tax rates of the members of each association, but demographic information about each organization’s membership is used to estimate the proportion of members in a marginal tax bracket above 26%. Basically, members fall into one of four possible tax-status categories: employed individuals (wage-earners), self-employed individuals (including sole proprietors and partners), corporations, or taxexempt organizations. Each category faces a different marginal tax rate with respect to the deduction for association dues. Obviously, tax-exempt members derive no beneﬁt from the deduction of membership dues and thus face a marginal tax rate of zero. Corporate tax rates range from 15% to 35%. Corporations with taxable income below $75,000 face a marginal tax rate of 25% or less. The remainder falls into the 34% or 35% marginal income tax brackets. For corporations making the ‘‘S’’ election, income and deductions ﬂow through to the shareholders and are taxed at their personal rates. In 1997, the lowest individual tax bracket is 15%; the next one is 28%. Detailed data regarding speciﬁc members are unavailable; it seems reasonable to assume that the majority of corporate members have sufﬁcient income to be in a marginal tax bracket above 26%. Members who are wage earners may deduct dues paid to an association as an unreimbursed employee expense, reported on Schedule A of the Form 1040. Individuals in the highest marginal tax bracket who are able to take advantage of such a deduction could save up to 39.6% (in 1997). However, unreimbursed employment-related expenses can be deducted only to the extent they exceed 2% of adjusted gross income (AGI); and the taxpayer gains no tax beneﬁt unless total itemized deductions exceed the standard deduction. Furthermore, itemized deductions are subject to phase-out for high-AGI taxpayers. Owing to these signiﬁcant limitations, the actual tax

Tax Planning for the Lobby Tax

45

savings from deducting association dues is likely to be zero for a substantial proportion of wage-earner members. Employees who are reimbursed by their employers under an accountable plan report no income or deduction relating to the dues, and thus face a marginal tax rate of zero. Therefore, the assumption is that the majority of employed members face a CMTR of zero with respect to the dues deduction.9 Self-employed individuals have the most to gain from the membership dues deduction. For self-employed individuals, including sole proprietors and partners, the business deduction for membership dues reduces both taxable income and self-employment income, so the tax savings is two-fold. One-half the self-employment tax is deductible for AGI, and in 1997 only the ﬁrst $65,400 of self-employment income is subject to the Social Security portion of the self-employment tax. Under the 1997 tax rates, the CMTR with respect to the dues deduction could range from 17% to 51%. Fig. 2 shows the possible combinations of self-employment tax and income tax rates. Only taxpayers in the lowest income tax bracket whose employment/ self-employment income exceeds $65,400 (an unlikely combination) will have a CMTR below 26%. Thus, the CMTR26 variable is operationalized as the percentage of the association’s members who are corporations or selfemployed. Question 10 in the survey instrument asks the association to furnish the percentages of its membership that fall into each of the four taxstatus categories. Owing to the possible inaccuracy of these percentages or the assumptions regarding the marginal tax brackets of members in each category, the CMTR26 variable is subject to measurement error.

Marginal Income Tax Bracket 15% 28% 31% 36% 39.6%

CMTR for Taxpayers whose FICA income <= $65,400* 28% 40% 43% 48% 51%

CMTR for Taxpayers whose FICA income > $65,400** 17% 30% 33% 38% 42%

*

∆SE Tax = $1 x 0.9235 x 15.3% ∆Income Tax = [$1 – ½(SE Tax)] * Marginal Income Tax Rate CMTR = ∆SE Tax + ∆Income Tax

**

∆SE Tax = $1 x 0.9235 x 2.9% ∆Income Tax = [$1 – ½(SE Tax)] * Marginal Income Tax Rate CMTR = ∆SE Tax + ∆Income Tax

Fig. 2.

Combined Marginal Tax Rates with Respect to $1 of Dues Deduction for Self-Employed Association Members in 1997.

46

MARY ANN HOFMANN

Non-Tax and Control Variables A variety of variables are used to control for the non-tax costs that might differ between the pay and notify alternatives. The size of the association serves to control for budgetary constraints. Smaller ﬁrms may be less prepared to notify members as to the non-deductibility of dues but also may be less likely to have sufﬁcient cash ﬂow to pay the lobby tax. Thus, it is impossible to predict the sign of the relationship between size and the choice to pay the lobby tax. The SIZE variable is measured as the natural log of total assets at the end of the year. The ratio of current assets to total assets, CURRENT, is a measure of liquidity.10 Firms with greater liquidity should be better able to pay the lobby tax, so a positive association is predicted for CURRENT. The administrative costs of ﬁling Form 990-T to report and pay the lobby tax are not measurable, but the SOI data does include an indicator for ﬁrms ﬁling Form 990-T due to having Unrelated Business Income exceeding $1,000. For these ﬁrms, the decision to pay the lobby tax will not result in additional ﬁling costs. The 990-T variable, therefore, is predicted to have a positive coefﬁcient. Other factors that might inﬂuence the pay-or-notify decision relate to the signiﬁcance of dues as a source of revenue, DUES%REV; the relative proportion of total expenses represented by lobbying, LOB%EXP; and the relative proportion of dues spent for lobbying, LOB%DUES. The larger the proportion of an association’s total revenues derived from dues, the more sensitive it should be to the preferences of its members, suggesting a positive relationship with the choice to pay. The larger the proportion of an association’s total expenditures devoted to lobbying, however, the more signiﬁcant the lobby tax cost will be to the association, suggesting a negative relationship. The larger the proportion of dues spent for lobbying, the greater will be the loss of the dues deduction for the members, suggesting a positive impact on the association’s decision to pay the lobby tax.

THE DATA Statistics of Income Data The IRS’s SOI Division’s 1994–1997 Exempt Organization Microdata records are the primary source of data. The SOI collects this data from a stratiﬁed random sample of all Forms 990 ﬁled in each year. Sampling rates vary from 100% for the largest ﬁrms (total assets>$10 million) to 2% for

Tax Planning for the Lobby Tax

47

the smallest ﬁrms. The data include most of the line items on Form 990 and its supporting schedules. SOI compiles the returns of 501(c)(4), (5), and (6) organizations – trade, labor, and agricultural associations – separately from those of 501(c)(3) charities. Besides revenue and expense numbers and beginning and ending balance sheets, Forms 990 ﬁled by associations contain information regarding membership dues, lobbying expenses, notiﬁcation to members of non-deductibility, and the election to pay the lobby tax. Although the lobby tax law became effective in 1994, data from the ﬁrst few years of its existence may not fully reﬂect informed tax planning, for reasons that follow. The law requires associations not wishing to pay the lobby tax to estimate their lobbying expenses for the coming year and notify members in advance. Organizations unprepared for this law were forced to pay the lobby tax for the ﬁrst year or two (Riley, 2000). Furthermore, the ﬁnal Treasury regulations, which provide guidelines for the allocation of costs to lobbying, were not issued until 1995. Until then, there was some confusion as to how to implement the new law (Tenenbaum, 1995). Thus, to avoid including observations where the choice was not a deliberate one, this study examines only data from 1997. By then, associations should have had time to absorb the implications of the new law and to choose purposefully how best to handle the lobby tax. Fig. 3 reproduces the section of Form 990 dealing with the lobby tax provisions. Questions 85a and 85b seek to eliminate organizations not subject to the Sec. 6033(e) provisions – organizations whose members are unable to deduct their dues, and organizations with lobbying expenses below the $2,000 de minimis threshold. Associations answering ‘‘Yes’’ to either question are directed not to complete parts 85c through 85h. In the 1997 SOI data set, 784 of the 4,446 Section 501(c)(4), (5), and (6) associations responded ‘‘Yes’’ to the ﬁrst question. These associations would be ones whose members are either non-proﬁt organizations or employed individuals who probably cannot take advantage of the deduction for unreimbursed employee expenses. Another 1,625 answered ‘‘Yes’’ to the second question, on line 85b. A ‘‘No’’ answer implies that the organization had lobbying expenditures exceeding $2,000, but of the 2,037 ﬁrms answering ‘‘No,’’ only 580 actually reported any lobbying expenses on line 85d. This omission may reﬂect blatant tax evasion – a refusal to report lobbying expenses – but one would speculate that ﬁrms wishing to hide the amount of their lobby expenses likely would not admit to having such expenses in the ﬁrst place. It is also possible that the IRS SOI Division coded all missing responses as ‘‘No.’’ Thus, it is assumed that the 1,457 ﬁrms answering ‘‘No’’ to line 85b

48

Fig. 3.

MARY ANN HOFMANN

Part VI, Line 85 from Page 5 of the 1997 IRS Form 990 Return of Organization Exempt from Income Tax.

but reporting no lobbying expenses on line 85d either were confused by the question or had their responses miscoded. In any event, 580 associations reported lobbying expenses on line 85d. Of those, 20 observations were eliminated for data irregularities, leaving 560 associations with lobby expenses.11 The Mail Survey To more fully address the lobby tax issue, a mail survey was developed to collect additional data (see Appendix C).12 The survey questions examine changes in membership numbers, changes in lobbying activity, changes in record-keeping and tax compliance costs, and factors considered in making the decision of whether or not to pay the lobby tax. Question 10 in the survey instrument asks the association to furnish the percentages of its membership that fall into each of four tax-status categories. Surveys were mailed to the 551 ﬁrms for whom addresses could be obtained.13 One hundred eight associations responded, representing a response rate of approximately 20%.14 Only 92 of the responders provided information on the demographics of their memberships, which is necessary to estimate the marginal tax rate. Descriptive Statistics Descriptive statistics for the SOI and survey samples are presented in Table 1. As discussed earlier, the SOI data are a stratiﬁed random sample, so

Descriptive Statistics.

Panel A: The SOI Sample

Total assets (mean) Minimum Median Maximum Current/total assets (mean) Minimum Median Maximum Total revenues (mean) Minimum Median Maximum % of revenues from dues (mean) Minimum Median Maximum % of expenses for lobbying (mean) Minimum Median Maximum

Panel B: The Survey Sample

n ¼ 560

Payers n ¼ 83

Notiﬁers n ¼ 477

p-value

n ¼ 92

Payers n ¼ 11

Notiﬁers n ¼ 81

p-value

$ 12,670,566 24,661 3,488,409 386,973,238 0.70

$17,799,346

$11,778,137

0.085

$21,122,883

$12,425,434

0.073

0.76

0.69

0.028

$13,465,346 154,859 5,881,742 58,595,820 0.71

0.78

0.70

0.296

$14,169,409

$11,904,159

0.727

28.1%

51.4%

0.025

1.8%

7.0%

0.006

0 0.76 1.00 $ 10,575,705 63,674 3,209,369 281,711,065 48.6% o1% 47.6% 100% 7.13% o1% 4.36% 96%

$12,909,415

$10,169,630

0.475

38.57%

49.68%

0.001

0.24 0.73 1.00 $12,175,004 169,669 4,821,844 88,774,628 48.6%

0.000

o1% 45.1% 100% 6.4%

1.63%

8.09%

Tax Planning for the Lobby Tax

Table 1.

o1% 3.8% 25%

49

50

Table 1. (Continued ) Panel A: The SOI Sample

% of dues spent for lobbying (mean) Minimum Median Maximum Number (%) of ﬁrms required to ﬁle a Form 990-T due to UBI>$1,000

Panel B: The Survey Sample

n ¼ 560

Payers n ¼ 83

Notiﬁers n ¼ 477

p-value

n ¼ 92

Payers n ¼ 11

Notiﬁers n ¼ 81

p-value

14.52%

7.73%

15.7%

0.000

13.3%

18.5%

12.6%

0.153

0.020

o1% 8.3% 63% 68 (74%)

60 (74%)

8 (73%)

0.929

o1% 9.61% 241% 354 (63.21%)

43 (51.81%)

311 (65.2%)

Notes: Payers are ﬁrms choosing to pay the lobby tax; notiﬁers are ﬁrms choosing to notify members as to the non-deductibility of dues. Pvalue measures the signiﬁcance level for the test of differences in means.Source: The data come from the IRS Statistics of Income 1997 Exempt Organization Microdata records. The SOI sample consists of those associations identiﬁed as having lobbying expenses exceeding the $2,000 de minimis. Surveys were mailed to the 551 ﬁrms for whom addresses could be obtained; 108 responses were received, 92 with complete information.

MARY ANN HOFMANN

Tax Planning for the Lobby Tax

51

each observation is weighted by the inverse of its sampling rate. The means and medians for the survey sample are somewhat higher than for the population as a whole. It appears that the majority of the survey observations come from the middle two quartiles of the full sample. Also, some signiﬁcant differences arise between the ﬁrms that paid the lobby tax and those that did not. In the full SOI sample, ﬁrms paying the lobby tax have a higher ratio of current assets, a lower percentage of revenues from dues, a lower percentage of total expenses for lobbying, and a lower percentage of dues spent for lobbying than those choosing to notify. The survey respondents paying the lobby tax receive a lower percentage of their revenues from dues and spend a signiﬁcantly smaller percentage of their budgets for lobbying. Table 2 presents the results of the mail survey of ﬁrms identiﬁed as incurring lobbying expenditures. No unusual changes in membership numbers occur, nor does lobbying activity seem to have suffered the blow predicted by ASAE (Tenenbaum, 1994a). Responders report that record-keeping costs have increased since 1993 as predicted (Weiland, 1993; Tenenbaum, 1994a, b, 1995; Smith, 1995), but it is not clear that this increase necessarily relates to the lobby tax provisions. As discussed in the previous section of the article, associations whose membership is comprised primarily of employed individuals or non-proﬁt organizations would not be expected to pay the lobby tax; and yet two such associations in the sample do so. Likewise, associations whose membership is comprised primarily of self-employed individuals would be expected to pay the lobby tax, yet 13 out of 15 such associations in the sample do not. Interestingly, tax factors are second among those chosen most frequently by survey respondents as signiﬁcant to the pay-or-notify decision. Convenience of the members and/or the organization is ﬁrst. Cash ﬂow considerations, conﬁdentiality regarding lobbying activity, and administrative costs are reported as signiﬁcant factors less frequently. While responders report tax factors to be important in making the payor-notify decision, it is not clear that associations take the trouble to apply the professional tax-planning model in the strictest sense, that is, by minimizing the combined tax liability of both the organization and the members by allowing the party with the lowest marginal tax rate to bear the incidence of the lobby tax. Since one cannot be certain whether the surveys were completed by the individuals responsible for making the pay-or-notify decision, one cannot place too much reliance on the subjective survey questions. It is also not clear what the impact of non-tax factors might be; therefore, the question needs to be examined in a multivariate framework.

52

MARY ANN HOFMANN

Table 2.

Survey Results: Lobby Tax Questions (n ¼ 92).

Survey Question

Change in membership from 1995 to 2000 Large decrease (>20%) Small decrease (5%–20%) Little change (5% to 5%) Small increase (5%–20%) Large increase (>20%) Change in amount spent for lobbying Small decrease No change Small increase Moderate to large increase Change in amount spent for record-keeping and tax return preparation: (no firms reported a decrease) No change Small increase Moderate to large increase Tax status of large majority (at least 75%) of members Employed and/or nonproﬁt Self-employed and/or corporate Self-employed Survey Question 16 – signiﬁcant factors considered in lobby tax decisiona

Administrative costs of ﬁling 990-T Administrative costs of notiﬁcation Cash ﬂow considerations Convenience of the members Convenience of the organization Conﬁdentiality regarding lobbying activity Minimizing taxes for members Minimizing taxes for organization Organization is exempt from lobby tax Other a

Firms ranking this factor as

Number of Firms

Number electing to Pay Lobby Tax

7 22 28 22 13

1 2 3 2 3

1 81 4 6

0 11 0 0

38 37 17

4 6 1

13 67 15

2 7 2

% of sample ranking this factor in top 3

Firms ranking this factor in top 3 and electing to pay lobby tax

1

2

3

3

3

5

12.0%

1

5

5

8

19.6%

3

5 21

6 8

8 5

20.7% 37.0%

4 10

10

20

14

47.8%

4

2

2

5

9.8%

3

10

10

9

31.5%

9

34

7

7

52.2%

3

0

0

1

1.1%

0

5

1

3

9.8%

1

Choices are not mutually exclusive

Tax Planning for the Lobby Tax

53

Accordingly, a binomial logistic (logit) regression is used to test the research proposition.

RESULTS Several speciﬁcations of the logit model were run, with results reported in Table 3.15 Model One employs the entire SOI sample of associations with lobbying expenses, and includes only those variables available from the SOI data. The results imply that ﬁrms with higher ratios of current assets are more likely to pay the lobby tax, as predicted. LOB%EXP is negative and signiﬁcant, implying that when lobbying expenses are large in relation to total expenses, the association is less likely to pay the lobby tax. Unexpectedly, ﬁrms already ﬁling a Form 990-T appear less likely to pay the lobby tax (perhaps because they are already paying the UBIT). None of the other variables is statistically signiﬁcant. A naive model would predict that no ﬁrms choose to pay and would be correct 85% of the time; it would correctly predict 0% of the payers and 100% of the notiﬁers for an overall accuracy rate of 85%. Model One correctly predicts 72% of the payers and 88% of the notiﬁers for an overall accuracy rate of 87% of the observations. Model Two incorporates the CMTR26 variable, which measures the percentage of association members facing a CMTR exceeding 26% (corporations and self-employed individuals). Since demographic data about the associations’ members are required to estimate CMTR26, this model is conﬁned to the 92 ﬁrms providing that information in the survey. It appears that the probability of an association choosing to pay the lobby tax is not positively related to the percentage of members with a CMTR greater than 26%. The coefﬁcient for CMRT26 is negative, though not statistically signiﬁcant. The coefﬁcient for LOB%EXP is negative and signiﬁcant as before. For LOB%DUES, the coefﬁcient is positive and signiﬁcant, suggesting that when lobbying expenses are large in relation to total dues collected, the association is more likely to pay the lobby tax. This model correctly predicts 80% of the payers and 92% of the notiﬁers, for a 91% overall accuracy rate. Few good ‘‘goodness-of-ﬁt’’ measures exist for logit regression models. The w2 statistics from the Log Likelihood Ratio test gives some assurance that the models are reasonably speciﬁed. In each case, the p-value for the w2 test statistic is below 0.01. McFadden’s pseudo-R2 gives some indication of the proportion of the variance explained by the model.16 The pseudo-R2 is 0.248 for Model One and 0.386 for Model Two; clearly neither model explains fully the pay-or-notify decision.

54

MARY ANN HOFMANN

Logit Regression Results.

Table 3.

PAY ¼ f Constant, SIZE, DUES%REV, LOB%EXP, LOB%DUES, CURRENT, 990T, CMTR, Survey Question Items (t-statistics in parentheses) Variable

SIZE

Predicted sign

Model 1 (n ¼ 560)

Model 2 (n ¼ 92)

Model 3 (n ¼ 92)

(?)

0.11 (1.21) 0.19 (0.34) 42.45 (6.16) 0.05 (0.07) 1.37 (2.25) 0.74 (2.66)

0.10 (0.25) 0.77 (0.38) 82.13 (2.47) 9.87 (2.22) 1.77 (0.73) 0.84 (0.80) 0.004 (0.29)

0.04 (0.11) 0.78 (0.39) 82.60 (2.50) 9.81 (2.20) 1.54 (0.66) 0.89 (0.80)

DUES%REV

(+)

LOB%EXP

()

LOB%DUES

(+)

CURRENT

(+)

990-T

(+)

CMTR26

(+)

CMTR35

(+)

QCONFID

(+)

QADMNOTIFY

(+)

QCONVMEM

(+)

Chi-square (likelihood ratio test) McFadden’s pseudo-R2 (see Note 16) % correctly predicted to pay % correctly predicted to notify Overall % correctly predicted

0.003 (0.19)

116.67 0.248 72 88 87

25.99 0.386 80 92 91

25.94 0.385 83 93 92

Model 4 (n ¼ 92) 7.85 (1.89) 10.01 (1.09) 936.93 (1.90) 187.48 (1.88) 11.40 (1.40) 9.18 (1.50)

0.11 (1.76) 0.69 (0.53) 11.21 (1.72) 24.75 (1.88) 55.17 0.393 91 99 98

Notes: PAY: an indicator variable, which equals one if the association elects to pay the lobby tax; SIZE: the natural log of total assets at the end of the year; DUES%REV: dues revenues as a percentage of total revenues; LOB%EXP: lobbying expenses as a percentage of total expenses; LOB%DUES: lobbying expenses as a percentage of dues collected; CURRENT: the ratio of current assets to total assets at year-end; 990-T: an indicator variable, which equals one if the association had to ﬁle a Form 990-T for UBIT; CMRT26 (35): the percentage of members facing a combined marginal tax rate above 26(35)%; QCONFID: the reversed survey ranking of the factor confidentiality regarding lobbying activity; QADMNOTIFY: the reversed survey ranking of the factor administrative costs of notifying members; QCONVMEM: the reversed survey ranking of the factor convenience of members. Signiﬁcant at 0.10 (two-tailed test). Signiﬁcant at 0.05. Signiﬁcant at or below 0.01.

Tax Planning for the Lobby Tax

55

Sensitivity Analysis One of the primary assumptions underlying the research proposition is that members value the services received from the association dollar-for-dollar. If this assumption is not true, members may prefer a reduction in services to an increase in dues. Furthermore, the association may be unwilling or unable to increase the charge for dues (Weiland, 1993). Unfortunately, it was not possible to compile usable data regarding changes in membership fees.17 Where it is not feasible to offset the lobby tax payment with an increase in dues (in other words, when Alternative C in Fig. 1 is not an option), the association should pay the lobby tax only when the majority of the membership is in a tax bracket above 35%. To test this alternative scenario, CMTR26 is replaced with CMTR35, which measures the proportion of members with a CMTR above 35% – basically, only self-employed members.18 Model Three uses the CMTR35 variable. The results of this regression do not differ qualitatively from those for Model Two except that the coefﬁcient for the tax variable is positive, though still not statistically signiﬁcant. The predictive ability of Model Three is slightly better than that of Model Two, although the pseudo-R2 is virtually unchanged. Clearly, factors other than tax minimization dominate the pay-or-notify decision for the ﬁrms in this sample. Model Four incorporates the reversed rankings from some of the factors listed in Survey Question 16 (which asks associations to rank the factors affecting their decision in order of importance). Concerns about conﬁdentiality, about the administrative costs of notiﬁcation, or concern for the convenience of the members should lead a ﬁrm to choose to pay the lobby tax. Indeed, the coefﬁcients for all three factors are positive, and the latter two are marginally signiﬁcant. Model Four has the highest percentage of correct predictions for both payers (91%) and notiﬁers (99%), with an overall accuracy rate of 98%, and a pseudo-R2 slightly higher than Models Two or Three. However, one is uncertain whether the factors listed by the survey respondents are actually those considered before making the pay-or-notify decision or are simply after-the-fact justiﬁcation for the decision. Thus, the predictive ability of Model Four may be overstated.

CONCLUSIONS These results fail to ﬁnd evidence that associations apply optimal taxminimizing strategies when dealing with the Section 6033 lobby tax. If this

56

MARY ANN HOFMANN

failure accurately reﬂects the population, associations and particularly their members may be paying more taxes than necessary. Alternatively, the failure to ﬁnd support for the research proposition could be the result of several other factors. The low survey response rate may have produced a sample that is not representative of the larger population. The many assumptions made in developing the constructs may not have produced a model capable of detecting the tax effect, especially in a small sample. The CMTR variable, in particular, is subject to measurement error, and this is likely to bias the statistical tests toward zero. The typical rationalization for failure to ﬁnd ﬁrms minimizing all taxes for all parties (as in the Scholes et al., 2005 framework) is that non-tax costs dominate the decision. As mentioned earlier, lobbying expenditures must be identiﬁed and tracked under either alternative; notiﬁcation requires only a short statement on the dues notice while payment requires the ﬁling of Form 990-T and available cash. It is difﬁcult to envision that any of these non-tax costs could be signiﬁcant enough to drive the decision, but perhaps other costs are associated with notiﬁcation or payment of the lobby tax that have not been identiﬁed. Of the two ‘‘errors’’ an association might make in regard to the lobby tax – paying the tax unnecessarily or failing to pay the tax when members would beneﬁt – the ﬁrst is understandably less common. In the response sample, only two of 16 ﬁrms with more than 50% of the members being employed or nonproﬁt (and thus unlikely to beneﬁt from the dues deduction) chose to pay the lobby tax. In both cases, the dollar amounts involved appear to be immaterial; the tax on the lobby expenses is less than 1% of the association’s end-of-year assets and less than 5% of its end-of-year cash balance. On the other hand, 21 of 24 associations with greater than 50% of the members being self-employed (and 13 out of 15 associations with at least 75% of the members self-employed) did not pay the lobby tax, thereby depriving their members of tax savings exceeding the cost of the lobby tax. Several reasons may explain why an association might choose not to pay the lobby tax even though a majority of members are in a high tax bracket and thus would derive a beneﬁt from the dues deduction. First, such decisions may be made by uninformed administrators. Most of the associations subject to the lobby tax are not subject to other forms of federal taxation (see Note 6), so their management may not be as knowledgeable or as sophisticated as corporate management when dealing with tax issues. Second, although the tax consequences are large in the aggregate, the disallowed dues deductions might be immaterial to individual members who pay modest annual dues. Nevertheless, the most compelling potential reason is that associations may face an inelastic demand curve. Since the services

Tax Planning for the Lobby Tax

57

and beneﬁts they provide have no ready substitutes, many associations do not operate in a perfectly competitive market. Members who are dissatisﬁed with losing the tax deduction for their dues cannot shop around for a better trade association or labor union.19 In other words, no opportunities are available for ‘‘arbitrage’’ or ‘‘clientele’’ effects to efﬁciently allocate the lobby tax to the appropriate parties as Scholes et al. (2005) describe in the corporate setting (pp. 118–145). Thus, little incentive exists for management to seek the optimal tax strategy for the lobby tax, and the lack of market forces allows this inefﬁciency to persist. This is the ﬁrst research study to empirically examine the lobby tax issue, and as such the analysis is preliminary at best. The results (or lack thereof) seem to support a conclusion that nonproﬁts are not necessarily efﬁcient tax planners when it comes to the lobby tax; however, this conclusion is subject to the limitations discussed above. The lack of a positive ﬁnding for the tax variable and the speculation concerning the possible reason(s) may be as dissatisfying to the reader as to the author. Unfortunately, it seems impossible to resolve this issue with currently available data. The research question requires a more detailed survey or ﬁeld study of the tax-planning attitudes and behaviors of exempt organizations subject to the lobby tax. The researcher would need to be able to identify the person in each organization (or the external tax preparer/advisor) who is responsible for the pay-or-notify decision. It would be important to determine how much associations know about the potential tax-status of their members, as well as whether and how that information is used in making the lobby tax decision. A truly comprehensive study would include a survey of association members to determine their attitudes about the goods and services they receive from the association (including its lobbying activities) as well as the value they place on the dues deduction.

NOTES 1. When Congress passed the lobby tax law, the top marginal tax rate for individuals was 39.6%. Add the self-employment tax (and adjust for the fact that onehalf is deductible for adjusted gross income), and the change in total tax liability from deducting $100 of trade association dues could approach $50. (Keep in mind that an individual would have to have signiﬁcant non-employment-related income or income from a spouse in order to be in the top marginal bracket and still be subject to the Social Security portion of the self-employment tax). Recently, the top marginal rate for individuals has been reduced, and is currently 35%. In 2005, for self-employed individuals, the loss of a $100 deduction for trade association dues could increase ﬁnal tax liability by as much as $40.

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MARY ANN HOFMANN

2. The federal Regulation of Lobbying Act of 1946 required registration of and regular ﬁnancial reports from all individuals and agents seeking to inﬂuence legislation. In 1995, Congress passed a new bill intended to strengthen registration and disclosure requirements. 3. ASAE brought suit (and lost) in U.S. District Court for the District of Columbia in an effort to prevent the IRS from enforcing the association-related provisions of the lobby tax law. They have since appealed to the Supreme Court. Their application for certiorari can be seen at http://www.asaenet.org/policy. 4. See Matsunaga, Shevlin, and Shores (1992) for an example of a test of the ‘‘all parties, all taxes, all costs’’ framework in the corporate setting. See Shackelford and Shevlin (2001) for a comprehensive review of empirical research in taxation, much of which is based on the Scholes and Wolfson (now Scholes et al., 2005) framework. 5. An interesting corollary to these propositions is that whenever it is preferable for the association to pay the lobby tax, it will also be more efﬁcient to pass along the cost to the members by increasing the dues. The after-tax cost of the dues increase will always be less than the reduction in services that would otherwise occur. Of course, this result makes sense only if members value the services received at more than the after-tax cost of the dues increase. 6. In 1996, 65% of Forms 990-T reporting lobby tax were ﬁled solely for that purpose (Riley, 2000). 7. The amount of lobbying expenditures is always disclosed on Form 990, which is subject to public disclosure, and thereby available to anyone who requests it. Political contributions and lobbying expenditures are also tracked by organizations such as the Center for Responsive Politics, and this information is made available to the public. See their website at http://www.opensecrets.org. 8. When the dependent variable is limited to two discrete choices, pay (Y ¼ 1) or notify (Y ¼ 0), ordinary least squares regression is inefﬁcient (Greene, 1997, pp. 873–874). An alternative approach is to use a probit or logit model. These binary choice models assume an unobservable underlying response variably, y*, which is continuous, and for which y* ¼ b0 x + u, where b is the set of parameters that reﬂect the impact of changes in the independent variables (x). When y* exceeds some threshold, Y ¼ 1. The probability that Y ¼ 1 is equal to the cumulative distribution function of (b0 x) (Maddala, 1983, pp. 22–27). The probit model uses the standard normal distribution function while the logit model uses the logistic cumulative distribution function. Maximum likelihood estimation produces coefﬁcient estimates that are unbiased and consistent (Greene, 1997, p. 871). In situations like the lobby tax decision, where there is a small proportion of Y ¼ 1 responses, logit seems to result in a better ﬁtting model (Greene, 1997, p. 875). 9. In fact, organizations that can provide evidence that at least 90% of their membership is unable to deduct dues as a business/employment expense are exempt from the Section 6033 reporting requirements and/or lobby tax. 10. A large number of ﬁrms had zero current liabilities, so the traditional current ratio was unworkable. The ratio of cash to total assets and the ratio of current liabilities to current assets both gave results similar to those using CURRENT. 11. Twelve ﬁrms reported zero dues revenue, and thus would face no lobby tax consequences. Three ﬁrms answered ‘‘Yes’’ to both questions on lines 85g and 85h (see Fig. 3), and another ﬁve ﬁrms answered ‘‘No’’ to both questions. These choices,

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to pay the lobby tax on taxable lobby expenditures or to add such expenditures to next year’s dues notices, are mutually exclusive; thus, it is not clear what the ﬁrms’ choices are. 12. The lobby tax issue was part of a larger study of taxation issues affecting trade, labor, and agricultural associations. 13. Because Form 990 is subject to public disclosure, the names and partial addresses of the ﬁrms are included in the SOI microdata records. 14. Yetman (2001) had a 30% response rate when requesting copies of Form 990T from charitable nonproﬁts. 15. Results for probit speciﬁcations (not shown) were qualitatively similar but had reduced predictive ability. 16. McFadden’s Pseudo R2 is computed as 1 – L1/L0, where L1 is the log likelihood of the full model, and L0 is the log likelihood of an alternative model, which contains only a constant. 17. Many associations have a range of dues charges for various levels of membership, and some actually charge dues on a sliding scale based on the member’s gross receipts; thus it was impossible to determine whether a change in total dues revenues was a result of increased charges per member or changes in the distribution (or income) of members. 18. As shown in Fig. 2, six out of 10 possible combinations of income tax bracket and FICA tax bracket result in a CMTR greater than 35%. Granted, some of these combinations are more likely than others, but considering ﬁling status, other sources of income/loss (including a spouse’s income/loss), itemized deductions, etc., are well within the realm of possibility. 19. It would be interesting to explore this issue further, but the current data do not provide any basis for estimating demand elasticity for individual associations. The average change in membership numbers from 1995 to 2000 does not differ signiﬁcantly between ﬁrms who paid the lobby tax and those who passed it along to their members.

REFERENCES Greene, W. (1997). Econometric analysis (3rd ed.). Upper Saddle River, NJ: Prentice-Hall. Hofmann, M. (2006). Tax-motivated earnings management by associations. Unpublished working paper, Andrews University. Hopkins, B., & Tesdahl, D. (1995). Legal affairs. Association Management, 47(2), 27. Hudson Institute. (1990). The value of associations to American society. Washington, DC: The American Society of Association Executives. Lobbying. (2001–2004). The Columbia encyclopedia (6th ed.). New York: Columbia University Press. Retrieved October 27, 2005 from http://www.bartleby.com/65/. Maddala, G. (1983). Limited-dependent and qualitative variables in econometrics. Cambridge, UK: The Cambridge University Press. Matsunaga, S., Shevlin, T., & Shores, D. (1992). Disqualifying dispositions of incentive stock options: Tax beneﬁts versus ﬁnancial reporting costs. Journal of Accounting Research, 30(Supplement), 37–68.

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Omer, T., & Yetman, R. (2003). Near zero taxable income reporting by non-proﬁt organizations. Journal of the American Taxation Association, 25(2), 19–34. Riley, M. (2000). Unrelated business income of non-proﬁt organizations, 1996. Statistics of Income Bulletin, 19(4), 123–146. Riley, M. (2002). Unrelated business income tax returns, 1998. Statistics of Income Bulletin, 21(4), 187–215. Sansing, R. (1998). The unrelated business income tax, cost allocation, and productive efﬁciency. National Tax Journal, 51(2), 291–302. Scholes, M., Wolfson, M., Erickson, M., Maydew, E., & Shevlin, T. (2005). Taxes and business strategy: A planning approach (3rd ed.). Englewood Cliffs, NJ: Prentice-Hall. Shackelford, D., & Shevlin, T. (2001). Empirical tax research in accounting. Journal of Accounting and Economics, 31(1–3), 321–388. Smith, S. (1995). Associations at risk. Association Management, 47(1), 33. Tenenbaum, J. (1994a). Fighting the new lobby tax law. Association Management, 46(2), 36–42. Tenenbaum, J. (1994b). Lobby tax Q & A. Association Management, 46(5), 52–57. Tenenbaum, J. (1995). The new lobby tax rules. Association Management, 47(9), 77–82. Yetman, R. (2001). Tax-motivated expense allocations by non-proﬁt organizations. The Accounting Review, 76(3), 297–311. Weiland, R. (1993). President’s corner. Tax Executive, 45(5), 356–358.

APPENDIX A. CMTR WITH RESPECT TO THE LOSS OF $1 OF DUES DEDUCTION The loss of the deduction increases taxable income, as well as income subject to self-employment tax. For taxpayers whose income subject to FICA tax is less than or equal to $65,400 (in 1997), the self-employment tax rate is 15.3%. For taxpayers whose income subject to FICA tax is greater than 65,400, the marginal self-employment tax rate is 2.9%, which is the Medicare portion of the FICA tax. $1 0:9235 applicable SE tax rate ¼ DSE tax One-half of the SE tax is deductible for AGI, so taxable income is increased by $1 and decreased by the deduction for the increased SE tax. $1 1=2ðDSE TaxÞ ¼ DTaxable Income The increase in taxable income is taxed at the marginal income tax rate (MTR). DTaxable Income MTR ¼ DIncome Tax The CMTR is equal to the sum of the changes in SE tax and income tax, divided by the $1 increase in income. CMTR ¼ ðDSE Tax þ DIncome TaxÞ=$1

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APPENDIX B. OPTIMIZATION OF ALTERNATIVES A, B, AND C Refer to Fig. 1, which describes the three alternatives. Basically, the objective is to minimize the cost among the three alternatives. The costs are measured per dollar of dues spent on lobbying. In Alternative A, where the association notiﬁes the members as to the dues spent on lobbying, the cost is the increase in taxes paid by the members as a result of the loss of the dues deduction. The resulting increase in taxable income is taxed at the members’ marginal tax rate. The derivation of the CMTR is shown in Appendix A. CostA ¼ CMTR $1 In Alternative B, where the association pays the lobby tax and reduces services by an offsetting amount, the cost to the members of the reduced services is measured by the 35% lobby tax levied on the dues spent for lobbying. CostB ¼ 35% $1 In Alternative C, the association pays the lobby tax and increases the amount charged for dues by an offsetting amount. Since in this case the increased dues are deductible, the net cost to the members is the after-tax cost of the dues increase. CostC ¼ ð35% $1Þ ð1 CMTRÞ Proposition 1. Alternative B will have a lower cost than Alternative A whenever the members’ CMTR is greater than 35%. CostBoCost A when ð35% $1ÞoðCMTR $1Þ; or when CMTR435%. Proposition 2. Alternative C will have a lower cost than Alternative B whenever the members’ CMTR is greater than zero. CostCoCostB when ½ð35% $1Þ ð1 CMTRÞoð35% $1Þ ð1 CMTRÞo1 CMTR40

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Proposition 3. Alternative C will have a lower cost than Alternative A whenever the members’ CMTR is greater than 26%. CostCoCostA when ½ð35% $1Þ ð1 CMTRÞoðCMTR $1Þ ½35% ð35% CMTRÞoCMTR 35%o1:35 CMTR 26%oCMTR; or CMTR426

APPENDIX C. RELEVANT EXCERPTS FROM THE SURVEY INSTRUMENT 10. Membership Information:

1995

2000

Number of Members Estimate the approximate proportion of your membership that consists of the following:

Employed Individuals (wage-earners) Self-employed Individuals (proprietors, partners) Corporations Non-proﬁt Organizations

% % % %

Total

100%

Part III: Lobby Tax – complete if you made lobbying expenditures in any year from 1994 to 1997 15. The 1993 ‘‘Lobby Tax’’ law made lobbying expenditures taxable to the organization, unless members were notiﬁed as to the non-deductibility of their dues. Indicate how this law affected your organization’s lobbying activities and tax compliance costs over subsequent years by

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circling the number corresponding to the following scale: 1 – Large decrease 2 – Moderate decrease 3 – Small decrease

4 5 6 7

– – – –

No change Small increase Moderate increase Large increase

(a) Amount spent for lobbying activities:

1234567

(b) Amount spent for record-keeping and tax return preparation:

1234567

16. Choose from the list below the three most signiﬁcant factors that were considered in deciding whether to pay the lobby tax or to disclose lobbying activity to the members. Write a 1, 2, and 3 next to those factors, in their order of importance (1 ¼ most important). _____Administrative costs of ﬁling the 990-T _____Administrative costs of notifying members _____Cash ﬂow considerations _____Convenience of the members _____Convenience of the organization _____Desire to maintain conﬁdentiality regarding lobbying activity _____Minimizing the tax liability of the members _____Minimizing the tax liability of the organization _____Organization is exempt from lobby tax, or members pay no dues _____Other________________________________________________ _____Other________________________________________________

SOCIAL SECURITY REFORM: EXPLORING THE GENERATIONAL AND RACIAL DIVIDE Cynthia M. Jackson, James J. Maroney and Timothy J. Rupert ABSTRACT Increased life expectancies and decreased birthrates have placed enormous financial pressure on the Social Security system. Because significant reforms are needed to ensure its financial solvency, our study examines the acceptability of proposals to reform the system. Given the potentially divergent views suggested by prior research, we selected participants from the following four groups (1) younger black taxpayers, (2) younger white taxpayers, (3) older black taxpayers, and (4) older white taxpayers. While there was agreement among the groups on several of the proposals, in general, the differences between the generations were more pronounced than the differences between the racial groups.

INTRODUCTION Maintaining the solvency of the Social Security system has been identiﬁed as one of the greatest challenges facing tax policy makers (Gravelle, 2002; Pollack, 2002). The Trustees of the Social Security Fund conﬁrm the magnitude of the problem in their 2005 annual report by suggesting that it would Advances in Taxation, Volume 17, 65–94 Copyright r 2007 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1058-7497/doi:10.1016/S1058-7497(06)17003-9

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take an immediate increase in program revenues of 15% or an immediate reduction in beneﬁts of 13% to ensure the system’s solvency for the next 75 years1 (Social Security and Medicare Boards of Trustees, 2005). Further compounding the funding problem with the Social Security system is the fact that the Medicare system also has signiﬁcant funding problems. In fact, the Trustees indicate in their 2005 annual report that ‘‘Medicare’s ﬁnancial difﬁculties come sooner – and are much more severe – than those confronting Social Security’’ (Social Security and Medicare Boards of Trustees, 2005). Thus, it appears that substantial reforms to both the Social Security and Medicare systems are required. The primary cause of these funding problems is the changing age demographic in American society. For example, in 1960 there were 5.1 workers per beneﬁciary in the Social Security system, with this ratio falling to about 3.3 workers per beneﬁciary currently (Concord Coalition, 2005). As the baby boomer generation begins to retire starting in 2008, this ratio will continue to decrease until it stabilizes at around 2.0 workers per beneﬁciary around 2030 (Concord Coalition, 2005; Kotlikoff & Burns, 2004). Given that both the Social Security and Medicare systems are essentially on a payas-you-go-basis,2 this changing age demographic will likely require substantial reforms to both systems. Former Federal Reserve Board Chairman Alan Greenspan acknowledged this changing age demographic, as well as the need for signiﬁcant reforms to both Social Security and Medicare, in recent testimony to Congress. Chairman Greenspan indicates ‘‘this dramatic demographic change is certain to place enormous demands on our nation’s resources – demands we almost surely will be unable to meet unless action is taken. For a variety of reasons, that action is better taken as soon as possible’’ (Federal Reserve Board, 2004). Given this demographic change, along with the current ﬁnancial status of the Social Security and Medicare funds, reforms are urgently needed for both the Social Security and Medicare systems. Thus, the purpose of this research study is to examine some of the reform proposals that are currently being discussed. Although the focus of our study is on the Social Security system, we also discuss implications of our ﬁndings for reform of the Medicare system. In general, the proposals that have been advanced to reform the Social Security system either increase fund revenues or decrease fund expenditures (see, e.g., Ball & Bethell, 1998 or Aaron & Reischauer, 2001, for a discussion of these proposals). Further, many of the recent reform proposals are designed so that, in general, beneﬁts for current retirees and those near retirement age are not changed. In fact, President Bush has recently indicated that any reforms to the Social Security system should not affect beneﬁts for

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those taxpayers 55 or older (Bush, 2005). Thus, the increased Social Security taxes and/or beneﬁt reductions from most of the proposals may be primarily borne by future retirees, particularly younger adults. As the preceding discussion suggests, the proposals that are adopted to address the solvency of the Social Security Trust Fund may result in very different outcomes for current and future retirees. The present research examines preferences for these various possible outcomes by presenting four samples of taxpayers with descriptions of the most commonly proposed alternatives for revising the Social Security system and ensuring its solvency. Recruiting from university classes and several organizations in urban areas of the East coast, we developed samples of participants representing the following four groups (1) younger black taxpayers, (2) younger white taxpayers, (3) older black taxpayers, and (4) older white taxpayers. Participants in each group were asked to rate their agreement with each proposal. The results suggest that signiﬁcant differences in the agreement of the groups exist for some proposals that would increase revenues, decrease beneﬁts, or establish private accounts. In general, the differences between generations were more pronounced than the differences between racial groups. By understanding differences in these views, as well as potential areas of agreement, policy makers may be able to design a reform plan for Social Security that is acceptable to more Americans.

LITERATURE REVIEW AND RESEARCH QUESTIONS Social Security and Generational Differences As discussed earlier, American society is rapidly aging. One concern is that this changing age demographic may lead to new intergenerational conﬂicts that we have not previously experienced. For example, researchers have examined the effect of the aging population on funding support for public education (Brunner & Balsdon, 2004; Ladd & Murray, 2001; Kenmitz, 2000) and the public policy for long-term health care support (Tabata, 2005). However, the potential for intergenerational conﬂict is perhaps greatest with Social Security. Over the last several decades, the burden of the Social Security system on the working population has increased, with the ratio of workers to beneﬁciary dropping from 5.1 to 3.3 over the last four decades. Further, the value of lifetime beneﬁts received by the average elderly couple has increased dramatically over the same time period, from $195,000 to $710,000

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(Steuerle, 2005). Despite these trends, there is some debate over the urgency of the need for Social Security reform. For example, both the U.S. Congressional Budget Ofﬁce (1995) and Gokhale and Kotlikoff (2001) suggest that based on their analyses, prevailing policies for Social Security and Medicare are not sustainable. Others (Baker & Weisbrot, 1999) have argued that these analyses are based on assumptions that are too conservative and unrealistic, so the need for reform is not as urgent as might be suggested. Despite the debate over the urgency of reform, the likelihood of reform has grown in recent years as politicians have increasingly called for signiﬁcant reform to the Social Security system. While a variety of reforms have been proposed, essentially these proposals either increase revenues credited to the Social Security Fund and/or decrease expenditures.3 However, the costs of these proposals are not borne equally across generations. For example, any proposal that increases revenues to the Social Security fund through an increase to the payroll tax rate or through an increase in the maximum wage base subject to taxation will primarily be borne by working taxpayers. Thus, current retirees will bear little, if any, of these costs. Conversely, a decrease in current retirement payments would be most directly felt by current retirees, since they are currently receiving beneﬁts. Historically, reforms to the Social Security system have typically passed most of the cost of reform onto the next generation (Kotlikoff & Burns, 2004). However, due to the impending demographic changes in the United States, a strategy of passing the reform costs of Social Security and Medicare onto the next generation may place an unconscionable tax burden on that generation (Kotlikoff & Burns, 2004). Thus, a reasonable question to ask is how can these systems be changed in a manner that is fair across generations? A failure to address this question raises the potential for signiﬁcant conﬂict between generations over the reform of the Social Security system. Given this potential conﬂict between generations, we examine the following research question: Research Question 1. Do senior citizen taxpayers differ from young taxpayers in their agreement with proposals to reform the Social Security system? Social Security and Racial Differences Social Security has proved to be of great importance for elders from all backgrounds. For example, using data from 1997, Porter, Larin, and Primus (1999) indicate that, before considering Social Security payments, the poverty rate among elders is 47.6%. When Social Security payments are

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considered, this rate drops to just 11.9%. While this drop in poverty rate is dramatic, further analysis indicates that not all racial groups beneﬁt equally from Social Security programs. For example, before considering Social Security, 46.3 percent of elderly whites are considered to live in poverty; this number decreases to just 9.1 percent when Social Security programs are considered. In contrast, 59.9% of elderly blacks fell into the poverty category before considering Social Security; the number fell to 29.1 percent when Social Security was considered (Porter et al., 1999, pp. 17–18). To further underscore the differential impact of Social Security along racial lines, the Social Security Administration (2004) found that threefourths of blacks in comparison to two-thirds of whites depend on Social Security for at least half of their retirement income. Additionally, Social Security is the only source of retirement income for 40 percent of blacks while just 16 percent of whites count it as their only source of retirement income (Hendley & Bilimoria, 1999, p. 60). In reforming Social Security, considerable debate has arisen about the relative effects of Social Security on whites and minority groups. For example, several studies have suggested that because of the effect of shorter life expectancy on the returns received from Social Security, blacks would beneﬁt greatly from reforming the system to allow for private accounts because of the ownership rights associated with the accounts (Tanner, 2001; Beach & Davis, 1998). Others have argued that higher disability rates, a greater number of survivors and lower average wages are important factors overlooked in many of these analyses and when these are taken into account, the impact of reform on the relative beneﬁts received by minorities may not be so clear (Rockeymoore, 2001; Wasow, 2002; Kijakazi, 1998; General Accounting Ofﬁce (GAO), 2003). Given the importance of Social Security in reducing poverty among the elderly and the differential impact that reforms may have on elders of different racial backgrounds, all taxpayers may not view potential reforms in the same light. In fact, previous researchers have documented substantial ‘‘gaps’’ in the opinions of whites versus other racial groups. For example, Smith and Seltzer (2000) report substantial differences between white and black survey participants on a series of questions designed to gather attitudes on government spending on a variety of programs, including Social Security. Given these previous ﬁndings, we examine differences between different racial groups with the following research question: Research Question 2. Do white taxpayers differ from black taxpayers in their agreement with proposals to reform the Social Security system?

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In summary, the previous literature suggests that different generational and racial groups may have different preferences for the speciﬁc reforms that are implemented to strengthen the Social Security system. However, the direction of differences (if any) in these preferences is not clear. Thus, the present study investigates potential differences in terms of acceptance of the various reform proposals with research questions, rather than research hypotheses, through the use of a survey described in the following section.

METHODS Participants In order to examine potential differences in preferences for revisions in the Social Security system for taxpayers of different ages and different races, we recruited participants from four different groups of taxpayers during 2002 and the beginning of 2003. Given that the survey instrument took a relatively short time to complete, none of the participants were compensated for their participation. We recruited two groups of young taxpayers. The ﬁrst group, Black Youth,4 consisted of 21 members of an organization for young urban professionals from the black community in a large city on the East coast. One of the researchers attended a meeting of the group and administered the instrument at the start of the meeting. The second group, White Youth, consisted of 39 students from two classes at a university in the same city. The classes included a senior level accounting class and a ﬁrstsemester class in an MBA program. The survey was administered by one of the researchers at the beginning of class. The students received no credit for their participation. In addition to yielding the 39 students for the White Youth group, the classes also included ﬁve black students who we included as part of the Black Youth group. This raised the total number of participants for the Black Youth group to 26.5 In order to compare the responses of the young taxpayers with those of elderly taxpayers, we also recruited two groups of senior citizens. The ﬁrst elder group, Black Senior, included 24 members of a housing concerns group for black elders, which was sponsored by one of the city’s centers for aging. One of the researchers distributed the instruments at the start of one of the group’s meetings. Finally, the second elder group, White Senior, consisted of 25 senior citizens who were members of a professional group at a senior center. The director of the senior center administered the instrument.6

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One drawback of recruiting participants from speciﬁc groups as we did, compared with other survey methods like a national survey, is that the resulting samples are not representative of the population as a whole. For example, the geographic focus of the groups is probably the most apparent way in which we are limited in generalizing from our results. However, this method of gathering our samples also offers some clear beneﬁts. We were able to gain 100 percent participation from the participants in each group, thereby effectively eliminating the limitation of non-response bias that is often present in other survey methods. In addition, because two of the participant groups involved older participants, we were better able to ensure that they were able to adequately understand and process the survey materials. Recent studies have shown that 30 percent of senior citizens develop dementia by age 80. By gathering responses from participants who were part of an active senior group, we help to limit the measurement error that may be associated with broader survey techniques of this age group. Procedures We created a survey instrument that included nine frequently suggested proposals for revising the Social Security system to ensure its solvency.7 For each of the alternatives, we provided a brief description of how the action would change the Social Security system.8 Exhibit 1 includes the proposals and their descriptions.9 After reading each alternative, participants indicated their agreement with the proposal using a 7-point Likert scale (1 ¼ strongly agree and 7 ¼ strongly disagree). On average, participants were able to complete the instrument in about 20 min. After rating their agreement with each of the proposals, participants then provided background information, including their gender, age, educational background, political orientation, and experience as a recipient of Social Security beneﬁts. Table 1 reports the results from these demographic questions. As this table indicates, the youth samples were fairly evenly split on gender. However, the senior samples were not as evenly divided between the genders. The Black Senior group consisted almost entirely of women. While we would have preferred to have a more similar split in gender representation for the two senior groups, previous researchers have not found gender differences on Social Security issues for either blacks or whites (Smith & Seltzer, 2000).

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Exhibit 1.

Proposals to Reform the Social Security System.

Allow Social Security Surpluses to be Invested in Debt and Equity Securities. The surplus in the Social Security Trust Fund is currently invested in United States Treasury bonds. If surpluses in the fund were invested in debt and equity securities from private companies instead, these investments may provide higher returns than the interest credited to the fund from treasury bonds. However, there is a risk that the investment return from the debt and equity securities may be less than the Treasury bonds Increase Maximum Amount of Wages Subject to Social Security Tax. The maximum amount of wages subject to the Social Security tax is $80,400 for the year 2001. An increase in the maximum amount of wages subject to taxes would help to expand the size of the Social Security tax base and thereby increase revenues Increase Social Security Tax Rate. Currently the Social Security tax rate paid on wages and salary by both the employee and the employer is 6.2%. An increase in the tax rate would provide an increase in revenues Tax Social Security Benefits the Same as Private Pensions. Any Social Security beneﬁts a retiree receives, beyond what he or she contributed to the system as a worker, would be taxed as ordinary income. Currently, only beneﬁciaries with incomes above certain annual thresholds owe taxes on their beneﬁts, and just a portion of their beneﬁts is subject to the tax. This change would have a favorable effect due to the increase in income taxes paid on retirement beneﬁts, which are credited to the Social Security fund Use Budget Surpluses from Social Security Fund to Repay National Debt. If the projected surpluses from the Social Security Fund are used to repay the national debt, both the Congressional Budget Ofﬁce and private economists project that the entire national debt would be repaid by 2016. Therefore, the interest that the United States government must pay on the national debt would be eliminated. These interest savings could be credited to the Social Security Fund, thereby increasing fund revenues Adjust CPI to Obtain a More Accurate Measure of Inflation. Social Security beneﬁts are currently adjusted for inﬂation based on changes in the CPI. Many economists believe that the current CPI overstates the actual inﬂation rate. If adjustments were made to CPI to obtain a more accurate measure of inﬂation, the growth in future Social Security beneﬁts would decline Reduce Future Retirement Benefits by Increasing Retirement Age. Since life expectancies for Americans have been increasing, an alternative approach to trimming beneﬁts would be to increase the retirement age. For taxpayers born 1960 and later, the current retirement age is 67. If the life expectancy of individuals born after 1960 continues to increase, the normal retirement age could be adjusted to reﬂect the longer life expectancy Reduce Future Retirement Benefits by Trimming Monthly Benefits. Since the life expectancy for Americans has been increasing, a reduction in monthly beneﬁt payments for younger taxpayers would still provide total beneﬁt payments equal to older taxpayers due to the increased life expectancies Allow Workers to Invest in Individual Investment Accounts. Currently workers do not have the opportunity to invest any of their Social Security payments into individual investment accounts. If workers were allowed to establish such accounts, these individual accounts may provide higher investment returns than those received by the Social Security Fund. These higher investment returns may result in higher beneﬁt payments. However, there is a risk that these investment accounts may earn less, resulting in lower beneﬁt payments

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Table 1. Demographic Data for Sample. Percentage of Participantsa

Gender Male Female No response Age Under 30 30–40 40–55 Over 55 Receive social security Yes No No response

Black youth

White youth

Black senior

White senior

40 60

49 51

4 96

63 29 8

76 24

90 10 100

100

87 13

96 4

100

100

Attend college Yes No No response

96 4

100

61 35

38 62

Candidates supported: Democratic Republican Neither more than other No response

81 4 15

44 31 23 3

61 4 21 13

21 21 54 4

a

Total may not add to 100 percent due to rounding.

In further comparing the backgrounds of the senior groups, more of the black seniors have attended college than the white seniors. Over 60 percent of the black seniors have attended college while slightly less than 40 percent of the white seniors have attended college. However, both groups are generally well educated and should be able to analyze and understand the various Social Security reform proposals that were presented to them. Finally, more of the black participants are likely to afﬁliate themselves with Democratic candidates than the white participants. For the black youths, over 80 percent support Democratic candidates as compared to less than 50 percent of the white youths. Similarly, over 60 percent of the black seniors support Democratic candidates as compared to slightly over 20 percent of white seniors.

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RESULTS Overall Mean Agreement for Reform Proposals To examine the agreement of the entire sample for the various proposals, we divided the proposals into three categories (1) proposals to increase Social Security fund revenues, (2) proposals to decrease Social Security fund beneﬁts, and (3) the proposal to establish individual investment accounts. Table 2 presents key statistics (means and standard deviations) for each of the proposals. As indicated in the Methods section, agreement was based on a 7-point Likert scale, with 1 ¼ strongly agree and 7 ¼ strongly disagree. To examine the extent of agreement for the total sample with the various proposals, we tested the mean agreement for each proposal to see if it differed from the point of indifference (i.e., 4) on the Likert scale. As indicated in the table, six of the proposals had mean agreement scores that were signiﬁcantly Table 2. Mean Agreement for the Various Social Security Proposals Across All Participant Groups.

Proposals to increase Social Security fund revenues Allow Social Security surpluses to be invested in debt and equity securities Increase maximum amount of wages subject to Social Security tax Increase Social Security tax rate Tax Social Security beneﬁts the same as private pensions Use budget surpluses from Social Security fund to repay national debt Proposals to decrease Social Security fund benefit payments Adjust CPI to obtain a more accurate measure of inﬂation Reduce future retirement beneﬁts by increasing retirement age Reduce future retirement beneﬁts by trimming monthly beneﬁts Proposals to establish individual investment accounts Allow workers to invest in individual investment accounts

Meana

Standard Deviation

4.93

1.99

3.75

2.15

4.89 5.03 5.39

1.89 1.93 1.90

4.14 4.72

1.94 1.89

5.09

1.80

4.35

2.37

a Participants indicated the extent of their agreement with the proposals in Table 2 by responding on a 7-point Likert scale with 1 ¼ Strongly Agree and 7 ¼ Strongly Disagree. po0.01, two-tailed.

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different from the point of indifference. Four of these proposals were designed to increase Social Security fund revenues. These include proposals to allow Social Security surpluses to be invested in debt and equity securities (mean ¼ 4.93), to increase the Social Security tax rate (mean ¼ 4.89), to tax Social Security beneﬁts the same as private pensions (mean ¼ 5.03), and to use budget surpluses from the Social Security fund to repay the national debt (mean ¼ 5.39). Two additional proposals from the group designed to decrease Social Security fund beneﬁt payments were also signiﬁcantly different from the point of indifference. The proposals included reducing future beneﬁts by increasing the retirement age (mean ¼ 4.72) and by trimming monthly beneﬁts (mean ¼ 5.09). It is interesting to note that all six of these proposals have means that are greater than 4 (the point of indifference), indicating that the sample as a whole disagrees with the proposals. In fact, only one of the proposals (to increase the maximum amount of wages subject to Social Security tax) has an average disagreement score that is less than 4.0. Analysis of Research Questions 1 and 2 To examine the research questions related to differences between age groups and racial groups, we ran a MANOVA model with the participants’ agreement with the nine proposals serving as the dependent variables. We included the age group (senior or youth) and racial group (black or white) as the independent variables. Both age and race proved to be signiﬁcant (Wilks l ¼ 13.88 and 3.12; p ¼ 0.000 and 0.002 for age and race, respectively). As suggested in the literature review, the various proposals may have a quite different appeal to the various age and racial groups. For this reason, in the following sections we look at agreement with the various proposals by subgroup.10 Proposals to Increase Social Security Fund Revenues Table 3 presents key statistics (means and standard deviations) for each participant group for the proposals designed to increase Social Security fund revenues. In addition to reporting the key statistics for the various groups, we also report the results of Scheffe comparisons for tests of differences in the means for the various groups.11 The results reported in Table 3 suggest that several signiﬁcant differences in the agreement with the various proposals to increase Social Security fund revenues exist among the groups. Speciﬁcally, signiﬁcant differences were found for three of the proposals. For the proposal to allow the government to invest Social Security surpluses in debt and equity securities and the

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Table 3. Means, Standard Deviations, and Scheffe Comparisons for Agreement with Social Security Proposals by Participant Group – Proposals to Increase Social Security Fund Revenues. Group

n

Meana

St. Dev.

Sign. Diff. (o0.01)

Allow Social Security Surpluses to be Invested in Debt and Equity Securities Black youth (BY) 26 4.19 1.74 BS White youth (WY) 39 3.56 1.76 BS, WS Black senior (BS) 24 6.67 0.92 BY, WY White senior (WS) 25 5.24 1.94 WY Increase Maximum Amount of Wages Black youth (BY) 26 White youth (WY) 39 Black senior (BS) 24 White senior (WS) 25 Increase Social Security Tax Rate Black youth (BY) 26 White youth (WY) 39 Black senior (BS) 24 White senior (WS) 25

(o0.05)

WS BS

Subject to Social Security Tax 3.46 2.00 3.51 2.09 4.21 2.59 3.68 2.01 4.88 4.77 5.50 4.12

1.40 1.61 2.17 2.03

Tax Social Security Benefits the Same as Private Pensions Black youth (BY) 26 4.15 1.62 White youth (WY) 39 4.28 1.76 Black senior (BS) 24 5.96 2.05 White senior (WS) 25 5.08 2.04 Use Budget Surpluses from Social Security Fund to Repay National Black youth (BY) 26 4.54 1.77 White youth (WY) 39 4.00 1.73 Black senior (BS) 24 6.92 0.28 White senior (WS) 25 6.08 1.73

BS BS WY

BY

Debt BS, WS BS, WS BY, WY BY, WY

a

Participants indicated the extent of their agreement with the proposals in Tables 3–5 by responding on a 7-point Likert scale with 1 ¼ Strongly Agree and 7 ¼ Strongly Disagree.

proposal to use budget surpluses from Social Security to repay the national debt, the Scheffe tests indicate signiﬁcant differences between the youth groups and the senior groups. For the proposal to allow the government to invest Social Security surpluses in debt and equity securities, both the black youth and the white youth groups indicated either indifference or slight agreement with this proposal (means ¼ 4.19 and 3.56, respectively). In contrast, both the black and white senior groups expressed more disagreement

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with this proposal (means ¼ 6.67 and 5.24). As indicated in Table 3, the difference between the level of agreement of the black seniors and all of the other groups proved to be signiﬁcant. In addition, the level of agreement by the white seniors was signiﬁcantly different from the white youths but not from the black youths. However, there was no signiﬁcant difference between the two youth groups. Similarly, agreement with the proposal to use budget surpluses from Social Security to repay the national debt also differed based on age rather than racial background. Once again, the two youth groups were near the point of indifference on the agreement scale (means ¼ 4.54 and 4.00 for black and white youth, respectively). In contrast, both the senior groups felt a higher level of disagreement with this proposal (means ¼ 6.92 and 6.08 for the black and white seniors, respectively). Finally, for the proposal to tax Social Security beneﬁts the same as private pensions, there were signiﬁcant differences between the two youth groups and the black seniors. Once again, the two youth groups expressed mean agreement near the point of indifference (means ¼ 4.15 and 4.28 for black and white youths, respectively) while the black seniors expressed a higher degree of disagreement with the proposal (mean ¼ 5.96). Proposals to Decrease Social Security Fund Benefit Payments Table 4 contains the extent of agreement for each of the groups with the proposals to decrease Social Security beneﬁt payments. The greatest disagreement occurred for the proposal to reduce future beneﬁts by trimming monthly beneﬁts. The black seniors strongly disagreed with this proposal (mean ¼ 6.46) while the white seniors also disagreed with the proposal (mean ¼ 5.20). In contrast, the two youth groups were at or near the point of indifference (mean ¼ 4.81 and 4.00, respectively, for black and white youth). The black seniors’ agreement with the proposal was signiﬁcantly different from both the youth groups (p ¼ 0.01) while the white seniors were signiﬁcantly different from the white youths (p ¼ 0.05). In addition to the disagreement between the groups on the trimming of monthly beneﬁts, there was also some disagreement between the black seniors and white youths on the proposal to reduce future beneﬁts by increasing the retirement age. The black seniors more strongly disagreed with this proposal than the white youths (means ¼ 5.83 and 4.31, respectively, p ¼ 0.05). Proposals to Establish Individual Investment Accounts Perhaps the most controversial reform for Social Security that has been proposed has been the implementation of individual investment accounts. It

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Table 4. Means, Standard Deviations, and Scheffe Comparisons for Agreement with Social Security Proposals by Participant Group – Proposals to Decrease Social Security Fund Beneﬁt Payments. Group

n

Mean

St. Dev.

Sign. Diff (o0.01)

(o0.05)

Adjust CPI to Obtain a More Accurate Measure of Inflation Black youth (BY) 26 3.73 1.48 White youth (WY) 39 3.74 1.46 Black senior (BS) 24 4.75 2.59 White senior (WS) 25 4.36 2.02 Reduce Future Retirement Benefits by Increasing Retirement Age Black youth (BY) 26 4.46 1.77 White youth (WY) 39 4.31 1.69 Black senior (BS) 24 5.83 1.93 White senior (WS) 25 4.48 2.08 Reduce Future Retirement Benefits by Trimming Monthly Benefits Black youth (BY) 26 4.81 1.47 White youth (WY) 39 4.00 1.54 Black senior (BS) 24 6.46 1.28 White senior (WS) 25 5.20 1.94

BS WY

BS BS BY, WY

WS WY

is not surprising, then, that we ﬁnd the most disagreement among the various groups about this proposal. As reported in Table 5, the two youth groups tend to demonstrate a fair amount of agreement with this proposal (mean ¼ 3.04 and 2.77, respectively, for the black and white youth groups). In contrast, the white senior group showed slight disagreement with a mean of 4.88 while the black senior group showed strong disagreement with the proposal (mean ¼ 6.46). The level of agreement by both the senior groups was signiﬁcantly different from the two youth groups (po0.01). Further, the white senior group was also signiﬁcantly different from the black senior group (po0.05). As discussed earlier and indicated in Table 1, we gathered data from our participants as to their political orientation. Therefore, we compared the participants’ agreement with individual investment accounts based on political orientation. The results indicate that those participants who identiﬁed themselves as supporting Republican candidates did not have a signiﬁcantly greater acceptance of this proposal than those participants who identiﬁed themselves as supporting Democratic candidates (t ¼ 1.61, p ¼ 0.11, twotailed test). A similar comparison of the participants’ agreement with

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Table 5. Means, Standard Deviations, and Scheffe Comparisons for Agreement with Social Security Proposals by Participant Group – Proposals to Establish Individual Investment Accounts. Group

n

Mean

St. Dev.

Sign. Diff. (o 0.01)

Allow Workers to Invest in Individual Black youth (BY) 26 White youth (WY) 39 Black senior (BS) 24 White senior (WS) 25

Investment Accounts 3.04 1.56 2.77 1.97 6.46 1.14 4.88 2.45

BS, BS, BY, BY,

WS WS WY WY

(o0.05)

WS BS

individual investment accounts based on race indicate that the white groups had a greater acceptance of this proposal than the black groups (t ¼ 2.49, p ¼ 0.014, two-tailed test). Further, a comparison of the participants’ agreement with individual investment accounts based on generational differences indicates that the youth groups’ acceptance of this proposal was signiﬁcantly greater than that of the senior citizen groups (t ¼ 7.63, p ¼ 0.000, two-tailed test). Given the signiﬁcance of the race and age variables, and in order to understand the relative contributions of age and race to differences in the acceptance of the individual investment account proposal, we performed an ANOVA using agreement with individual investment accounts as the dependent variable and race (white or black) and age (youth or senior) as the independent variables. The results of this analysis indicate that age (F ¼ 60.35, p ¼ 0.000) had substantially more explanatory power than race (F ¼ 6.74, p ¼ 0.011). Taken together, the results indicate that generational differences are the more important factor in determining agreement with the individual investment account proposal, not political party or race. Implications of this ﬁnding are discussed in the conclusion section. Most and Least Preferred Proposals Given the divergent views between generations as to reforming the Social Security system, it is important to understand if there is some common ground in terms of acceptance of certain proposals. By examining the mean agreement with the nine proposals, the proposal that is most preferred by both the black and white senior citizen groups is increasing the maximum amount of wages subject to the Social Security tax. This proposal is also the second most preferred proposal for both the black and white youth groups.

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As discussed earlier and as indicated by Table 3, there were no differences between the four groups in terms of their agreement with this proposal. Further, Table 2 indicates that the overall mean agreement with this proposal is 3.75. Though this mean agreement rating is not statistically different from the point of indifference (4.00), it is the only proposal with a mean rating in the agreement range. Further, this proposal is only one of the three proposals that are not signiﬁcantly greater than the point of indifference (indicating disagreement with the proposal). This analysis suggests that there is a fairly strong consensus among the four groups as to their acceptance of this proposal. A further review of means reveals that the proposal to adjust the consumer price index (CPI) to obtain a more accurate measure of inﬂation is rated second overall by the black seniors and third overall by the white seniors. This proposal is also the third most preferred proposal for the black youth group and fourth most preferred for the white youth group. As discussed earlier and as indicated by Table 4, there were no differences between the four groups in terms of their agreement with this proposal. Further, Table 2 indicates that the overall mean agreement rating of this proposal is 4.14 and that this proposal is also one of the three proposals that are not signiﬁcantly greater than the point of indifference (indicating disagreement with the proposal). In summary, this analysis suggests that there is consensus among the four groups as to their relative acceptance of this proposal. While there is general consensus for increasing the Social Security wage base and adjusting the CPI, the groups disagree on some of the other proposals. For example, as indicated by the means, the proposal most preferred by both the black and white youth groups is to allow workers to invest in individual investment accounts. As indicated by Table 5, the mean agreement with the proposal for individual investment accounts is 3.04 for the black youth group and 2.77 for the white youth group. These mean agreements are signiﬁcantly less than the point of indifference for both the black youth group (t ¼ 3.14, p ¼ 0.004, two-tailed test) and the white youth group (t ¼ 3.91, p ¼ 0.000, two-tailed test), indicating signiﬁcant agreement with this proposal. Further, the mean agreement with this proposal for the youth groups is signiﬁcantly greater (po0.001) than their agreement with all of the remaining proposals, with the exception of the proposal to raise the maximum amount of wages subject to the Social Security tax where the agreement with individual investment accounts was marginally greater (po0.10). In contrast with the youth groups’ strong agreement with the proposal to establish individual investment accounts, both senior groups disagree with this reform proposal. As indicated earlier by Table 5, the black seniors’

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mean agreement of 6.46 and the white seniors’ mean agreement of 4.88 are both signiﬁcantly less than the agreement ratings for the black and white youth groups. Further, these mean agreement ratings are signiﬁcantly greater than the point of indifference for both the black senior group (t ¼ 10.55, p ¼ 0.000, two-tailed test) and the white senior group (t ¼ 1.79, p ¼ 0.086, two-tailed test), indicating strong disagreement with this proposal. Finally, the proposal to increase the Social Security tax rate is ranked third in terms of mean agreement for the black seniors and is ranked second in terms of mean agreement for the white seniors. However, this proposal is one of the least preferred proposals by the youth groups. In fact, the mean agreement rating for the black youths is the lowest of the nine proposals and is the third lowest mean agreement rating for the white youths. Although Table 3 indicates that there are no signiﬁcant differences among the four groups in terms of their mean agreement with this proposal, that result is partially driven by the low mean agreement ratings for each of the nine proposals by the senior groups. In summary, the analysis presented in this section suggests that there is some consensus between the youth and senior groups in terms of their relative agreement with two of the Social Security reform proposals. However, there are sharply divergent views on some of the other reform proposals. Implications of these convergent and divergent views on the various reform proposals are examined in the conclusion section. Supplemental Analyses In addition to gathering data from the participants as to their agreement with proposed Social Security reforms, we also gathered data on some opinion questions relevant to Social Security. One question asked to the participants, ‘‘In general, how concerned are you that Social Security beneﬁts will be substantially reduced during your retirement?’’ Endpoints were labeled (1) ‘‘Not Concerned’’ and (7) ‘‘Very Concerned.’’ The black seniors were very concerned that their beneﬁts would be reduced (mean ¼ 6.33). The white seniors also exhibited some concern (mean ¼ 5.16), as did the two youth groups (mean ¼ 4.85 for both the black youth and white youth). The black seniors’ level of concern was signiﬁcantly higher than both of the youth groups (p ¼ 0.027 versus the white youth group and p ¼ 0.051 versus the black youth group). There were no other signiﬁcant differences between the four groups. We also conducted analyses to examine whether the participants’ concern about a potential reduction in Social Security beneﬁts was correlated with

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their agreement with the nine reform proposals. Pearson Correlation coefﬁcients were calculated between the participants’ agreement with each of the nine proposals and their level of concern about a reduction in their Social Security beneﬁts. The participants’ concern about a beneﬁt reduction was positively correlated with four of the nine reform proposals. These four reform proposals included the proposal to allow Social Security surpluses to be invested in debt and equity securities (Pearson Correlation ¼ 0.331, p ¼ 0.000); the proposal to use budget surpluses from the Social Security fund to repay the national debt (Pearson Correlation ¼ 0.323, p ¼ 0.000); the proposal to allow workers to invest in individual investment accounts (Pearson Correlation ¼ 0.248, p ¼ 0.008); and the proposal to reduce future retirement beneﬁts by increasing the retirement age (Pearson Correlation ¼ 0.33, p ¼ 0.000). The signiﬁcant positive correlations indicate that as the participants’ concern about a reduction in Social Security beneﬁts increases, their disagreement with the reform proposal also increases. These signiﬁcant positive correlations, combined with our ﬁnding that the black senior citizens exhibited a higher level of concern about beneﬁt reductions than the two youth groups, offers some potential insights to tax policy makers. Of particular interest are the signiﬁcant correlations between the level of concern about a beneﬁt reduction and the proposal to establish individual investment accounts and the proposal to invest the Social Security surplus in debt and equity securities. These signiﬁcant correlations may help to explain why the black senior citizens are so strongly opposed to reform proposals that change how Social Security funds are invested. They fear that their own Social Security beneﬁts will be reduced if these investment alternatives are allowed. Thus, to enhance the black senior citizens’ acceptance of individual investment accounts, tax policy makers will need to mitigate their concern that their future beneﬁts will not be safe if these investment proposals are adopted. A second question asked to the participants, ‘‘How important is a candidate’s position on Social Security to your vote?’’ Endpoints were labeled (1) ‘‘Not at all Important’’ and (7) ‘‘Extremely Important.’’ The black seniors indicated that a candidate’s position was very important to their vote (mean ¼ 6.83). The white seniors also indicated that a candidate’s position was important to their vote (mean ¼ 5.56), while the two youth groups indicated a lesser importance (mean ¼ 4.65 for the black youth group and mean ¼ 4.51 for the white youth). Scheffe comparisons indicate that a candidate’s position on Social Security is signiﬁcantly more important to a voting decision for the black seniors than for both the youth groups (p ¼ 0.000 versus both the white youth group and black youth group) and

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also more important than for the white senior group (p ¼ 0.016). Further, a candidate’s position on Social Security is signiﬁcantly more important to a voting decision for the white seniors than for the white youth group (p ¼ 0.033). There was no signiﬁcant difference between the white senior group and the black youth group (p ¼ 0.136). Pearson Correlation coefﬁcients were also calculated between the participants’ assessment of the importance of a candidate’s position on Social Security to their vote and their agreement with each of the nine reform proposals. The importance of a candidate’s position on Social Security was signiﬁcantly (po0.01) positively correlated with seven of the nine proposals. Only the proposal to increase the Social Security tax rate and the proposal to increase the maximum amount of wages subject to Social Security tax were not signiﬁcantly correlated with the participants’ assessed importance of a candidate’s position. These signiﬁcant positive correlations indicate that as the participants’ assessed importance of a candidate’s position on Social Security to their vote increases, their disagreement with the reform proposal also increases. These signiﬁcant correlations help to explain the difﬁculty tax policy makers have with Social Security reform, particularly given our additional ﬁndings that Social Security is more likely to affect seniors’ voting patterns than younger taxpayers’ voting patterns and that in general the seniors disagreed with most of the reform proposals. The fact that senior citizens represent the age demographic with the highest voting percentage (U.S. Assistance Election Commission, 2000) illustrates why Social Security is often times referred to by politicians as the ‘‘third rail’’ of American politics (try to change it and you will be voted out of Washington, DC). Implications for Social Security reform due to seniors’ voting patterns are also discussed in the conclusions section.

CONCLUSIONS The purpose of this research study was to examine how groups of Americans that differ in age and race view the acceptability of some of the current proposals to modify the Social Security system. We accomplished this purpose by gathering survey data from groups of senior citizens (black and white) and young adults (black and white). Although we ﬁnd in general that all four groups tended to be indifferent at best to the reform proposals, and in fact disagreed with many of the proposals, we did ﬁnd some cases where there was agreement among the groups. However, there were also strongly divergent views on some of the proposals. Overall, our results indicate that

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most of the differences among groups were generational differences and not racial differences. As indicated in the Methods section, we gathered the data by presenting speciﬁc groups with our survey instrument rather than using other survey techniques, like a national survey. Our survey method helped to ensure that we were reducing the impact of sampling bias that might be caused by nonresponse bias. However, the ﬁndings need to be considered in light of the limitations of the methods that we used to gather the data. By its very intent, our survey method was not designed to gather samples that represented the entire population. All the participants were recruited from the East coast; thus, we are unable to address the extent that agreement with the proposals may vary by geographical region. Future research could employ national surveys to examine how preferences for various proposals may vary across geographic regions. Further, the participants were generally more highly educated than the population. While this ensures a greater likelihood that the participants were able to analyze and understand the proposals, we are unable to generalize the results to a population with a greater diversity of educational backgrounds. Future research should examine whether agreement with the Social Security reform proposals varies across educational backgrounds. We also recruited participants from just two racial groups. Other racial groups may have different opinions about proposals to reform Social Security. Thus, further research should examine the acceptance by other minority groups (e.g., Hispanics and Asians) of the proposals to reform the Social Security system. In addition to limitations based on our samples, our ﬁndings are also limited by the fact that we gathered our data during 2002 and 2003. Since that time, Social Security has received a great deal of attention in the media and from interested parties and organizations. This attention may have altered the opinions of some taxpayers about the proposals.12 Further, the present study is also limited by the choice of proposals that were included as part of our survey instrument. Recently, several new proposals have been offered to address the Social Security issue.13 Because we did not examine these recent reform proposals as part of our study, we are unable to comment on how these proposals are viewed across generation and race. Finally, we pre-tested the explanations of the proposals that we provided participants to ensure that they were clear and understandable. However, we did not examine potential effects of the framing of the questions by incorporating alternate wording of the explanations or the ordering of the information provided in an explanation. For example, the proposal that explains the possibility of allowing Social Security surpluses to be invested in debt

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and equity securities describes the potential beneﬁt of higher returns and then presents the potential drawback of increased risk. We did not test whether an explanation that provides the potential drawback ﬁrst and then the potential beneﬁt would result in the same level of agreement with the proposal. Future research could draw on the substantial literature on framing effects in accounting (e.g., Chang, Yen, & Duh, 2002) and tax (e.g., Traub, 1999; Schepanski & Kelsey, 1990; Christensen & Hite, 1997) to examine how the framing of the descriptions for Social Security reform may affect agreement with the proposals. Despite these limitations, the results of the present study provide some important insights. There was a fairly strong consensus between the seniors and young adults on the proposal to increase the maximum amount of wages subject to Social Security tax. Because it is unlikely that the wages of any of the survey participants currently exceed the maximum amount of wages subject to tax ($90,000 in 2005), the fact that there was consensus as to agreement with the proposal is consistent with prior tax research that suggests fairness perceptions and agreement with tax law changes are strongly inﬂuenced by self interest (e.g. Maroney, Rupert, & Wartick, 2002; Hite & Roberts, 1991). Though it is unlikely that workers with earnings at or above the maximum would have similar views on this proposal as those of our participants, given the fairly small number of workers (approximately 6%) who currently have earnings at or above the maximum, it is likely that a proposal to increase the maximum wage base for Social Security may eventually become part of a Social Security reform package.14 A second proposal on which there was consensus among the groups was the proposal to adjust the CPI to obtain a more accurate measure of inﬂation. Robert M. Ball and Bethell (1998) estimate that the CPI that is currently used to index beneﬁts, once a worker retires, overstates the actual rate of inﬂation for the elderly by 0.20 percentage points. In fact, former Federal Reserve Board Chairman Alan Greenspan shares this belief that the CPI overstates inﬂation and therefore overcompensates Social Security beneﬁciaries (Federal Reserve Board, 2004). The participants in our study appeared to have a consensus as to their acceptance of this proposal. Though the participants were essentially indifferent to the proposal, this was unlike many of the other proposals where there was signiﬁcant disagreement. It is interesting to note that the participants did not disagree with this proposal even though they were told in the survey materials that if the adjustments to the CPI were made, ‘‘the growth in future Social Security beneﬁts would decline.’’ Thus, unlike the proposal to raise the maximum amount of wages subject to Social Security tax, self interest does not appear

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to be guiding their judgment. Ball and Bethell (1998) estimate that this change in itself would reduce the projected 75-year Social Security deﬁcit by approximately 19%. The results of our study suggest that this reform proposal may be acceptable to groups of Americans with very divergent interests (senior citizens and young adults). Although there appears to be relative acceptance of a reduction in Social Security beneﬁts through adjustments to the CPI, there tended to be disagreement, particularly by the senior citizens, with the remaining proposals that would reduce beneﬁts. However, even though beneﬁt reductions may be an unpopular alternative to reforming the Social Security system, a number of economists believe that any Social Security reform package must include some beneﬁt reductions. For example, in his recent testimony to Congress, former Federal Reserve Board Chairman Alan Greenspan clearly indicated his preference for reforms that reduce expenditures, rather than increase revenues (Federal Reserve Board, 2004). Greenspan suggested adjustments to the CPI as a way of reducing outlays and also suggested adjusting the age for eligibility for Social Security and Medicare beneﬁts due to changes in life expectancy (Federal Reserve Board, 2004). Given our ﬁnding of the disagreement with proposals to reduce beneﬁts by increasing the retirement age, policy makers who intend to propose this type of reform will need to carefully consider the ‘‘framing’’ of the proposal. The most relevant form of framing may be ‘‘attribute framing.’’ Attribute framing refers to a situation whereby the same objective information is evaluated differently depending on whether it is presented in a positive or negative light (Levin, Gaeth, & Schneider, 1998; Levin, Gaeth, Schneider, & Lauriola, 2002). Therefore, rather than explaining the potential change as an increase in retirement age that reduces beneﬁts (negative light), it can be explained as indexing the retirement age for increases in life expectancy (positive way). Also, because retirees’ life expectancies will have increased, total beneﬁts paid (discounted present-value basis) should still be equivalent to the amounts received by earlier retirees. Future accounting researchers should examine whether this proposal, and other reform proposals to Medicare and Social Security, can be framed in a positive light, thereby making them more attractive. Such framing may be able to increase the acceptance of necessary, yet unpopular changes. We also examined our participants’ acceptance of a proposal to create individual investment accounts. President Bush recently called for the establishment of individual investment accounts in his 2005 State of the Union speech. The initial agreement or disagreement within Congress has closely followed party lines (Bernstein, 2005). Economists also sharply disagree as to the relative advantages and disadvantages of this proposal, with

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some agreeing with (e.g., Hubbard, 2005) and some disagreeing with (e.g., Diamond & Orszag, 2004) the proposal. The purpose of this study was not to enter into the debate as to the conceptual advantages and disadvantages of private accounts, but to understand whether acceptance of this proposal differs by generation and race. The results of our study suggest that generational differences are the most important factor in determining agreement with this proposal and not race or political orientation. Thus, it appears that this reform proposal may have the potential to create signiﬁcant conﬂict between generations. Further, because many of the other ideas that have been proposed to reform the Social Security system tend to disadvantage younger adults to a much greater extent than senior citizens, the potential for generational conﬂict over this issue may be further exacerbated. An encouraging ﬁnding from our study relates to our results regarding racial differences between the participants’ agreement and disagreement with the various reform proposals. Though the black seniors tended to exhibit stronger disagreement with the various reform proposals than the white seniors, as evidenced by a signiﬁcant or marginally signiﬁcant difference on their agreement ratings for ﬁve of the nine proposals,15 there were no such differences between the black and white youth groups. In fact, the agreement or disagreement with the various proposals by the black and white youth groups was remarkably consistent. Our ﬁnding of a strong disagreement with many of the reform proposals by the black seniors is consistent with research in sociology which indicates a general mistrust of government held by minorities (Crocker, Luhtanen, Broadnax, & Blaine, 1999; Howell & Fagan, 1988). This ﬁnding suggests that almost any Social Security reform proposal may be difﬁcult to sell to this demographic group. Further, our ﬁnding of strongly consistent views between the black and white youth groups suggests that the gap between races as to their general view of government may be closing. Despite this positive development, our ﬁnding that the views on many of the reform proposals differ across generations still makes Social Security reform very difﬁcult. While the present study focuses on proposals to reform the Social Security system and these proposals are also garnering much of the current attention of policy makers, funding problems for Medicare also loom large. As the Social Security and Medicare Board of Trustees indicated in their 2005 annual report, it would take an immediate increase in program revenues of 107% or an immediate reduction in program outlays of 48% to ensure the system’s solvency for the next 75 years. Given the substantial challenges facing both the Social Security and Medicare systems, what can be done to ensure that we do not face signiﬁcant conﬂict between generations as we

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seek to reform both the Social Security and Medicare systems? In other words, how can the burden of reforming these systems be equitably shared between generations? A recently developed method, referred to as ‘‘generational accounting’’ (Auerbach, Gokhale, & Kotlikoff, 1991) may be useful in ensuring that reforms to these systems are equitable across generations. Generational accounting is intended to measure how the government’s ﬁscal burden is shared between generations. Unlike the Federal Government’s current ﬁnancial reporting system that focuses on the annual federal deﬁcit or surplus to guide ﬁscal policy, generational accounting also incorporates government’s implicit liabilities through programs such as Social Security and Medicare (U.S. Congressional Budget Ofﬁce, 1995; Kotlikoff, 1992; Auerbach, Kotlikoff, & Leibfritz, 1999; Kotlikoff & Burns, 2004). The method can then be used to address questions such as (1) Which generation will pay for government policies with their net taxes? or (2) If a given policy applies to all current generations for the rest of their lives, what would that imply for the net taxes of current and future generations (U.S. Congressional Budget Ofﬁce, 1995)? Though the Congressional Budget Ofﬁce (CBO) recognized certain limitations with generational accounting (for example, the difﬁculty of choosing an appropriate discount rate or predicting the future population growth rate), they concluded that generational accounting is a tool that can be used to inform policy analysis (CBO, 1995). However, the fact that generational accounting has not received widespread use in government reporting is not surprising given the CBO’s (1995) ﬁnding, through the use of generational accounting, that the lifetime net tax rate of future generations would have to be about twice the rate of current newborns given existing government programs. Most recently, Gokhale and Kotlikoff (2001) arrived at a very similar calculation. If generational accounting was used to examine the potential effect of reforms to the Social Security and Medicare systems on people of different ages, it may inform policy makers about the fairness of the reform proposals to the various generations. However, given our ﬁnding that Social Security issues are more likely to affect the votes of senior citizens than younger taxpayers, and the fact that senior citizens are about twice as likely to vote as younger (aged 18–24) taxpayers (U.S. Assistance Election Commission, 2000), politicians may place more emphasis on the views of senior citizens. This emphasis would be most unfortunate because given the changing age demographic in the United States discussed earlier, it may not be possible to continue ﬁscal policies that shift the costs of Social Security and Medicare reform onto the younger generation and their descendants without signiﬁcantly increasing the tax burden of these generations (Kotlikoff & Burns, 2004).

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A ﬁnal policy recommendation relates to the accounting system currently used in the Trustees’ annual report for the Social Security and Medicare systems. In effect, the Trustees’ annual report uses a cash-basis form of accounting and primarily focuses on the system’s annual cash receipts and cash payments. Although the Trustees’ report does project cash ﬂow ﬁgures for the next 75 years, results for the current year focus on the change in net assets on a cash-basis. Jackson (2004) argues that the Social Security system should also be required to include a GAAP-style accrual accounting statement as part of their annual report. Jackson (2004) converted the Trustees’ December 31, 2002 annual report for the Social Security fund into an accrual basis. He found that instead of the $165.4 billion increase in net assets reported by the Trustees on a cash-basis, the Social Security trust fund would have reported a loss of $467.5 billion on a GAAP-style accrual basis and would have also reported an unfunded accrued liability of approximately $12.6 trillion (Jackson, 2004).16 Jackson (2004) suggests that accrual accounting, used in conjunction with the current system, would create a ‘‘clearer picture’’ of the Social Security fund’s ﬁnances. Further, he suggests ‘‘accrual accounting would also create political incentives for political leaders to address Social Security’s difﬁculties in a timely manner, and enhance the quality of public debate over the relative merits of competing reform proposals’’ (Jackson, 2004, p. 59). We concur with this recommendation and also believe the Medicare system could beneﬁt from a similar GAAP-style reporting requirement. Doing so should help create a sense of urgency for Medicare and Social Security reform in both political parties, which tends to be mitigated by the current focus on annual cash ﬂows.

NOTES 1. The use of a 75-year forecast period signiﬁcantly understates the magnitude of the funding problem since there is also a substantial imbalance between revenues and expenses after the 75-year period (Jackson, 2004). 2. Although there are Social Security and Medicare Trust Funds, as discussed later in the paper, the assets in these funds are substantially less than the total accrued liabilities. Further, there is also disagreement as to the signiﬁcance of the assets held in these funds. These assets are ‘‘special purpose Treasury securities,’’ and in essence represent a government IOU to itself. Diamond and Orszag (2004) argue that these securities are assets because they can be redeemed to pay beneﬁts and because the accumulation of the fund has allowed the government to reduce their debt. However, Diamond and Orszag (2004) acknowledge that when these securities are used to pay beneﬁts, this will require additional government borrowings or additional tax revenues. As indicated earlier by Schieber and Shoven (1999), ‘‘these

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are the same choices that the government would face if the system didn’t have the bonds and simply asked for a bailout. The point is that the bonds have helped save the system only if they have resulted in greater investment in the economy and hence higher productivity and higher wages for those who are either going to have to pay the taxes or buy the bonds y . All in all, the trust fund balances do not offer much reason to be sanguine about the burden we are passing on to future generations’’ (Schieber & Shoven, 1999, p. 207). 3. Currently revenues credited to the Social Security Fund include the employees’ and employers’ share of the Social Security payroll tax (combined rate of 12.4%), interest credited on the Social Security Trust Fund balance and the income tax revenues received due to the partial taxation of Social Security beneﬁts. 4. Throughout the discussion of our survey, the term ‘‘black’’ is used to describe any participant who designated his or her ethnic background as ‘‘African-American/ other black.’’ 5. The classes used for the survey consisted of 60 students. In addition to the 39 students who were included in the white youth group and the ﬁve who were included in the black youth group, an additional 16 were excluded from the sample because they indicated their ethnic background was other than non-Hispanic/white or African-American/other black. 6. We were advised that the participants would feel more at ease if the director of the senior center, rather than one of the researchers, administered the instrument. The director of the senior center indicated to us that the participants appeared to understand the survey instrument and did not have any questions about the survey instrument. 7. We created four different versions of the instrument with the alternatives randomly ordered. There were no signiﬁcant differences in responses among the different orderings of the alternatives. 8. We tried to create the descriptions so that they would be clear and neutral as well as provide the necessary information without being too lengthy. To determine if we had achieved these goals, we pre-tested the instrument by giving it to colleagues and friends who represented various age and racial groups. While the feedback from the participants in the pre-test generally indicated that the descriptions were clear and understandable, we made several small wording changes to the descriptions based on their comments. 9. For a review of the major proposals that have been offered to address the solvency of the Social Security system, see Steuerle and Bakija (1994), Ball and Bethell (1998), and Aaron and Reischauer (2001). 10. Because we are interested in differences among all four groups, we report the results of Scheffe comparisons from a MANOVA model that used the four sub-groups as the independent variable. However, we did run separate analyses for age and racial group. For the analysis with age group as the independent variable, we found signiﬁcant differences between the seniors and youths on all of the proposals except the proposal to increase the maximum amount of wages subject to the Social Security tax and the proposal to increase the Social Security tax rate. For the analysis with racial group as the independent variable, we found signiﬁcant differences between blacks and whites on all proposals except the proposal to adjust the CPI to obtain a more accurate measure of inﬂation, the proposal to increase the Social Security tax rate, and the proposal to tax Social Security beneﬁts, the same as private pensions.

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11. The Scheffe comparisons were conducted through a MANOVA model that used the four sub-groups as the independent variable and the nine reform proposals as the dependent variables. The overall MANOVA results indicate a highly signiﬁcant effect for the independent variable (Wilks l ¼ 4.77, p ¼ 0.000). 12. Although we acknowledge the time period over which the data were gathered as a possible limitation, the data collection period might also be considered a strength of our study. Currently, the issue of Social Security reform has become highly politicized. Thus, there are numerous messages being issued by both major political parties and various special interest groups regarding Social Security reform. Because the participants in our study were not exposed to these messages, it is more likely that their opinions were based on their acceptance of the various reform proposals, rather than their support of a political party or a special interest group. Further, because many of the messages currently being provided are intended to persuade rather than inform, our data may provide an unbiased measure of the participants’ agreement with the various reform proposals. 13. One recent suggestion is to expand the Social Security system to include state and local government workers hired after 2008 (Diamond & Orszag, 2004). Currently, ‘‘about 4 million state and local government workers are not covered by Social Security’’ (Diamond & Orszag, 2004, p. 90). Diamond and Orszag estimate that the extension of Social Security coverage to new state and local government workers would reduce the 75-year actuarial deﬁcit by 10 percent. A second recent reform proposal is a proposed change to the method by which retirees’ future Social Security beneﬁts are indexed. Currently, during retirees’ working years, their future beneﬁts are indexed based on the change in average wages in the United States. Once a worker retires, beneﬁts are indexed based on the change in prices (CPI). Because the increase in wages has outpaced the increase in prices over the long term by approximately one percent, some economists (e.g., Hubbard, 2005) suggest that beneﬁts should be indexed based on the changes in the CPI during a retiree’s working years. President Bush also mentioned this as a possible reform to Social Security during his 2005 State of the Union Message (Bush, 2005). 14. Very few economists, if any, propose a situation similar to the Medicare tax whereby all wages would be subject to the Social Security tax. For example, some economists have proposed revising the method through which the maximum wage base is indexed. Currently, the maximum wage base is indexed based on the percentage increase in average wages in the United States (workers’ beneﬁts are indexed on this same basis during their working years). Diamond and Orszag (2004) propose increasing the index to add on an additional 0.5 percentage point each year from 2005 to 2063. Though beneﬁts for these workers would also increase under this plan, they estimate that this change would reduce the Social Security deﬁcit by one-eighth (Diamond & Orszag, 2004, p. 86). 15. In addition to the two signiﬁcant differences that were discussed in the results section (allowing workers to invest in individual accounts and allowing Social Security surpluses to be invested in debt and equity securities), the two senior groups also were marginally different in their agreement with three additional proposals. These include reducing future retirement beneﬁts by trimming monthly beneﬁts (p ¼ 0.055), reducing future retirement beneﬁts by increasing the retirement age (p ¼ 0.09), and increasing the Social Security tax rate (p ¼ 0.07). Also, the black

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senior group and the black youth group were marginally signiﬁcantly different in their agreement with the proposal to reduce future retirement beneﬁts by increasing the retirement age (p ¼ 0.083). 16. Total accrued liabilities are approximately $14 trillion at the end of 2002. The balance in the Social Security trust fund is approximately $1.4 trillion, thus liabilities are approximately 10 times greater than the system’s current reserves (Jackson, 2004).

ACKNOWLEDGMENTS The authors wish to thank the editor, two anonymous reviewers, as well as Jean Bedard, Diana Falsetta, Carol Fischer, Stacy Wade, and Marty Wartick for helpful comments on previous drafts of the paper.

REFERENCES Aaron, H., & Reischauer, R. (2001). Countdown to reform: The great social security debate. New York: The Century Foundation Press. Auerbach, A., Gokhale, J., & Kotlikoff, L. (1991). Generational accounts: A meaningful alternative to deﬁcit accounting. In: D. Bradford (Ed.), Tax policy and the economy (Vol. 5, pp. 55–110). Cambridge, MA: MIT Press. Auerbach, A., Kotlikoff, L., & Leibfritz, W. (1999). Generational accounting around the world. Chicago, IL: The University of Chicago Press. Baker, D., & Weisbrot, M. (1999). Social security: The phony crisis. Chicago, IL: The University of Chicago Press. Ball, R., & Bethell, T. (1998). Straight talk about social security: An analysis of the issues in the current debate. A Century Foundation/Twentieth Century Fund Report. New York: The Century Foundation Press. Beach, W., & Davis, G. (1998). Social security’s rate of return. Heritage Center for Data Analysis, Report no. 01–98 (January). Bernstein, A. (2005). Social security: Are private accounts a good idea? Business Week, 24(January), 64–70. Brunner, E., & Balsdon, E. (2004). Intergenerational conﬂict and the political economy of school spending. Journal of Urban Economics, 56, 369–388. Bush, G. (2005). State of the union message. http://www.whitehouse.gov/news/releases/2005/02/ 20050202-11.html. Chang, C., Yen, S., & Duh, R. (2002). An empirical examination of competing theories to explain the framing effect in accounting-related decisions. Behavioral Research in Accounting, 14, 35–64. Christensen, A., & Hite, P. (1997). A study of the effect of taxpayer business risk perceptions on ambiguous compliance decisions. The Journal of the American Taxation Association, 19, 1–18. Concord Coalition. (2005). Statement of Robert L. Bixby. The Future of Social Security. Before the Senate Special Committee on Aging (February 3, 2005).

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Crocker, J., Luhtanen, R., Broadnax, S., & Blaine, B. (1999). Belief in U.S. government conspiracies against blacks among black and white college students: Powerlessness or system blame? Personality and Social Psychology Bulletin, 25, 941–953. Diamond, P., & Orszag, P. (2004). Saving social security. Washington, DC: Brookings Institution Press. Federal Reserve Board. (2004). Testimony of Chairman Alan Greenspan. Economic Outlook and Current Fiscal Issues. Before the Committee on the Budget, U.S. House of Representatives (February 25). General Accounting Ofﬁce. (2003). Social security and minorities: Earnings, disability incidence, and mortality are key factors that influence taxes paid and benefits received. (GAO-03-387, April). Gokhale, J., & Kotlikoff, L. (2001). Is war between the generations inevitable? National Center for Policy Analysis, Policy Report No. 246 (November). Gravelle, J. (2002). Stormy weather: The forecast for future tax policy. Tax notes 30th anniversary (pp. 59–63). Falls Church, VA: Tax Analysts. Hendley, A., & Bilimoria, N. (1999). Minorities and social security: An analysis of racial and ethnic differences in the current program. Social Security Bulletin, 62, 59–64. Hite, P., & Roberts, M. (1991). An experimental investigation of taxpayer judgments on rate structure in the individual income tax system. Journal of the American Taxation Association, 13, 47–63. Howell, S., & Fagan, D. (1988). Race and trust in government: Testing the political reality model. Public Opinion Quarterly, 52, 343–350. Hubbard, G. (2005). Social security: Pick the best part of every plan. Business Week, (February 14), 22. Jackson, H. (2004). Accounting for social security and its reform. Harvard Journal on Legislation, 41, 59–159. Kenmitz, A. (2000). Social security, public education, and growth in a representative democracy. Journal of Population Economics, 13, 443–462. Kijakazi, K. (1998). African Americans, Hispanic Americans, and social security: The shortcomings of the heritage foundation reports. Center on Budget and Policy Priorities, (October 8). Kotlikoff, L. (1992). Generational accounting. New York, NY: The Free Press. Kotlikoff, L., & Burns, S. (2004). The coming generational storm. Cambridge, MA: MIT Press. Ladd, H., & Murray, S. (2001). Intergenerational conﬂict reconsidered: County demographic structure and the demand for public education. Economics of Education Review, 20, 343–357. Levin, I., Gaeth, G., & Schneider, J. (1998). All frames are not created equal: A typology and critical analysis of framing effects. Organizational Behavior and Human Decision Processes, 76, 149–188. Levin, I., Gaeth, G., Schneider, J., & Lauriola, M. (2002). A new look at framing effects: Distribution of effect sizes, individual differences and independence of types effects. Organizational Behavior and Human Decision Processes, 88, 411–429. Maroney, J., Rupert, T., & Wartick, M. (2002). The perceived fairness of taxing social security beneﬁts: The effects of explanations based on different dimensions of tax equity. The Journal of the American Taxation Association, 24, 79–92. Pollack, S. (2002). Is there progress in tax policy? Tax notes 30th anniversary (pp. 69–80). Falls Church, VA: Tax Analysts.

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Porter, K., Larin, K., & Primus, W. (1999). Social security and poverty among the elderly: A national and state perspective. Center on Budget and Policy Priorities (April, 1999). Rockeymoore, M. (2001). Social security reform and African-Americans: Debunking the myths. National Urban League, Policy Brief No. 2 (August). Schepanski, A., & Kelsey, D. (1990). Testing for framing effects in taxpayer compliance decisions. The Journal of the American Taxation Association, 12, 60–78. Schieber, S., & Shoven, J. (1999). The real deal. New Haven, CT: Yale University Press. Smith, R., & Seltzer, R. (2000). Contemporary controversies and the American racial divide. Lanham, MD: Rowman & Littleﬁeld Publishers, Inc. Social Security Administration. (2004). African-Americans and social security. http://www.ssa. gov/pressofﬁce/factsheets/africanamer-alt.htm. Social Security and Medicare Board of Trustees. (2005). Status of the social security and medicare programs. http://www.ssa.gov/OACT/TR/TR05/index.html. Steuerle, C. (2005). Alternatives to strengthen social security. Statement before the Committee on Ways and Means, United States House of Representatives (May 12). Steuerle, C., & Bakija, J. (1994). Retooling social security for the 21st century: Right and wrong approaches to reform. Washington, DC: The Urban Institute Press. Tabata, K. (2005). Population aging, the costs of health care for the elderly and growth. Journal of Macroeconomics, 27, 472–493. Tanner, M. (2001). Disparate impact: Social security and African Americans. CATO Institute Brieﬁng Papers No. 61 (February 5). Traub, S. (1999). Framing effects in taxation. Heidelberg: Physica-Verlag. U.S. Assistance Election Commission. (2000). Voter registration and turnout by age, gender & race. U.S. Congressional Budget Ofﬁce. (1995). Who pays and when? An assessment of generational accounting? (November). Wasow, B. (2002). Setting the record straight: Two false claims about African Americans and social security. The Century Foundation (March). http://www.socsec.org/facts/Record_ Straight/African_Americans.pdf.

TAX INCENTIVES FOR ECONOMIC GROWTH: CAPITAL INVESTMENT OR RESEARCH Tracy S. Manly, Deborah W. Thomas and Craig T. Schulman ABSTRACT This paper investigates whether tax incentives can effectively promote capital investment and research spending simultaneously. Tax history provides the experimental setting to compare the influences of these tax initiatives. Analysis shows that firms respond to the research tax incentives by increasing R&D spending but do not significantly react to the policies promoting greater capital investment. More importantly, the results indicate that the tax incentives are negatively related to other types of investment with reduced R&D spending in the presence of incentives for capital investment and capital expenditures decreasing when research is encouraged by tax policy.

INTRODUCTION The American Assembly, a non-partisan group afﬁliated with Columbia University, lists four essential ingredients for sustained and rapid economic growth: ‘‘continued and enhanced investment in plant and equipment, in Advances in Taxation, Volume 17, 95–120 Copyright r 2007 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1058-7497/doi:10.1016/S1058-7497(06)17004-0

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scientiﬁc research and applied technology, in public infrastructure y and y in education and training’’ (American Assembly, 2000, p. 162). This paper focuses on two of these critical areas, capital investment and research spending, by investigating tax incentives designed to promote private investment to enhance economic growth. Tax beneﬁts for research and capital spending have been present in the tax code for decades. Tax history provides the experimental climate for this study. Prior to 1981, the tax laws favored capital investment more than research spending. The Economic Recovery Act (1981) increased tax incentives for both types of investment. In 1986, with the repeal of the Investment Tax Credit (ITC) and modiﬁcation of depreciation allowances, tax incentives for capital investment were reduced relative to those for research spending. These changes in the law provide three time periods for comparison of investment patterns of individual ﬁrms – when capital investment was favored (1976–1980), when research spending was favored (1986–1990), and when both types of investment experienced increased tax incentives (1981–1985). Tax incentives for research and capital investment encourage substantially different investment activities requiring managers to make tradeoff decisions about where to allocate limited funds. Capital investment tax incentives attract additional spending on current technology while the research incentives emphasize creating new technology for future competitiveness. While the tax law allows ﬁrms to use tax incentives for both research and capital concurrently, ﬁrms face resource constraints that limit their ability to pursue all investment options available. Brozen (1961) states that ‘‘[t]o some extent, R&D spending is a substitute for capital spending as a means of increasing productivity.’’ Thus, ﬁrm response to changes in the tax beneﬁts for these investments may not be as strong as predicted or intended due to the overlapping of multiple tax incentives. As policy makers consider tax incentives as a means to increase one investment or the other, the composite effect of both incentives should be considered and not just each separately. A simultaneous regression model for capital and research investment indicates that ﬁrms increase R&D spending when a tax credit for research is enacted, but the presence of capital incentives do not signiﬁcantly increase capital investment, consistent with prior research (Chirinko, Fazzari, & Meyer, 1999; Gravelle, 1993; Clark & Sichel, 1993; Chirinko, 1986; Chirinko & Eisner, 1983). More importantly, the results indicate that the tax incentives negatively impact other types of investment, with reduced R&D spending when capital investment incentives are available and capital expenditures decreasing when research incentives are present.

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Research evaluating the simultaneous inﬂuences of these competing tax incentives is important as government intervention to promote economic growth remains a key element of the tax law. Both the Job Creation and Worker Assistance Act (2002) and the Jobs and Growth Tax Relief Reconciliation Act (2003) were widely acknowledged as economic stimulus packages (Bailey, 2002; Curatola, 2002). In each of these Acts, Congress adopted policies intended to spur capital investment through bonus depreciation. During this time period, Congress has also extended the Research & Experimentation Tax Credit (henceforth, R&E credit). We selected the time period 1976–1990 to capture multiple changes in investment tax incentives similar to the current tax environment for businesses. In describing its revenue estimating procedures, the Joint Committee on Taxation highlights the importance of considering behavioral and indirect effects of tax changes, including shifts in consumption or investment (Joint Committee on Taxation (JCT), 2005). Our results reinforce the continued need for legislators to be aware of possible simultaneous effects of alternative tax policies. One tax incentive should not be considered in isolation, but should be viewed as part of a whole. The negative correlation between research and capital spending in the simultaneous model supports the idea that managers’ investment decisions are interdependent and can be inﬂuenced by alternative tax initiatives.

BACKGROUND AND PRIOR RESEARCH The ITC was ﬁrst enacted in 1962 with the basic objective of promoting economic growth by encouraging modernization and expansion of machinery and equipment (American Enterprise Institution (AEI), 1969).1 Further tax law changes to promote capital investment occurred in 1981 as part of the Economic Recovery Tax Act with the adoption of the Accelerated Cost Recovery System (ACRS) and expansion of the immediate expensing election under Section 179.2 The Tax Reform Act (1986) repealed the ITC and replaced ACRS with the Modiﬁed Cost Recovery System, reducing capital investment incentives.3 The Economic Recovery Tax Act of 1981 also passed the R&E credit4 to enhance the international competitiveness of the U.S. by encouraging businesses to perform more research (General Accounting Ofﬁce (GAO), 1995). Prior to this act, a deduction was allowed for qualifying research expenditures. The deduction is still available but must be reduced by the amount of the credit.

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This study focuses on the period from 1976 to 1990. The relevant tax changes during these years are illustrated in appendix. The response of corporate spending on ﬁxed investment to changes in the tax system has been widely investigated. Chirinko (1986) reviews much of this literature and the methods used by researchers to investigate the relationship. The ﬁndings are generally mixed; however, Chirinko argues that sufﬁcient empirical evidence has not yet been generated to show a connection between capital investment and changes in tax laws. Chirinko et al. (1999) uphold this general argument by ﬁnding a relatively small elasticity of investment with respect to user cost which is reduced through tax beneﬁts. Similarly, Clark and Sichel (1993) focus speciﬁcally on changes to the ITC and ﬁnd that tax stimulus is not a good method for changing the demand for investment in ﬁxed assets. Greater support for ﬁrm response to changes in the marginal costs of investment through tax changes are found by Cummins and Hassett (1992) and Cummins, Hassett, and Hubbard (1996). Speciﬁcally, Cummins and Hassett (1992) demonstrate that although investment spending continued to increase after the 1986 tax reform, the increase was less than would have been expected if the tax incentives for investment had not been diminished. Similarly, numerous studies have examined the response of ﬁrms to the introduction of the R&E tax credit. Several authors (Hall & Reenen, 2000; Leyden & Link, 1993; Cordes, 1989) have reviewed this literature pertaining to the U.S. credit as well as similar incentives in other countries. From their review, Hall and Reenen (2000) conclude that the R&E tax credit produces approximately one additional dollar of R&D spending for each dollar of tax revenue forgone. Further, they suggest that the credit may take several years to reach this elasticity, explaining earlier work that found little or no effect for the credit. Berger (1993) investigates the R&E tax credit and the implicit taxes created for competitive ﬁrms. His research design points out the importance of controlling for the non-tax factors that inﬂuence ﬁrm spending in order to assess the effect of the credit. He ﬁnds that the credit created additional R&D spending. Klassen, Pittman, and Reed (2004) compare R&D tax incentives in both the U.S. and Canada and ﬁnd the U.S. credits to be the more effective in generating additional spending on research activities. Ellis (1994) models the impact of ITCs on R&D spending. He plots the trends for types of spending, expressing concerns that the ITC siphons investment away from other activities. Using a computable general equilibrium model, Russo (2004) simulates the effects of R&D tax incentives, concluding that incremental credits are more effective than comprehensive credits. When ITC is available for capital investment by innovative ﬁrms,

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Russo ﬁnds adjustments to the cost of investments tend to reduce the incentive for increasing research efforts. This study extends prior research by empirically investigating the interaction of tax incentives on corporate investment utilizing a model which estimates these two spending decisions, research and capital, simultaneously. The model incorporates the competing tax incentives as predictors for both research and capital spending. This is an important extension of prior research, which primarily focuses on determining the effectiveness of the tax incentive on the intended type of investment. This paper adds an examination of the unintended, but yet important, inﬂuence of tax incentives on other types of corporate investment.

RESEARCH DESIGN The research design focuses on ﬁrms that actively engage in both research and capital spending whose managers could be forced to make tradeoff decisions about where to invest. Changes in the after-tax cost of these investments could attract more funds than would have been allocated otherwise. Simultaneous equations are used to investigate the relationship between tax credits and investment in capital and research. A three-way ﬁxed effects model controlling for ﬁrm, year and industry effects is estimated using two-stage least squares.5 The ﬁxed effect model assumes that differences across groups can be captured by differences in the constant term (Greene, 1990). Thus, the three-way ﬁxed effects model allows a separate intercept for each ﬁrm, year and industry. The mean research and capital spending for each effect are captured individually and are not creating a bias for the coefﬁcient estimation. Dependent Variables R&D expense (RDX) reported in the annual ﬁnancial statements is used as a proxy for the unobservable research expenditures recorded for tax purposes. The level of annual expense is used instead of a measure of spending intensity, such as R&D scaled by sales. The focus of the tax legislation is to increase research spending beyond a base level and does not require that research grow at a rate faster than sales to qualify for the credit. Total reported capital expenditures (CAPX) are used as a proxy for purchases qualifying for the preferential tax treatment, primarily machinery and equipment. The impact this proxy might have on the analysis depends on whether these components of capital expenditures are complements or

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substitutes. If they are complements, then it is reasonable to assume that by lowering the after-tax cost on equipment, certain projects at the margin which also include purchases for property and plant might be undertaken. Although the property and plant purchases do not receive the tax credit, they were in part induced by the availability of the tax incentive. While the total capital expenditures overstate the qualifying expenditures, the impact of the tax incentive is not overstated. However, if the two types of expenditures were substitutes, then an incentive to spend on equipment would decrease spending on property and plant. In this case, the relationship between the tax incentive and total capital expenditures depends on the magnitude of the substitution. If the substitution of equipment for property and plant is greater than one for one, the tax credit would show a positive, but understated, correlation to total capital expenditures. If the substitution is less than one for one, a negative correlation would exist between the availability of the credit and total capital expenditures. This substitution option would bias against ﬁnding a positive relationship between the credit and capital expenditures. Independent Variables Tax Credit Usability The two dependent variables are regressed on indicator variables (RECRED, ITCRED) that indicate the usability of each of the tax incentives. Each of the tax credits is considered usable during the years enacted when the individual ﬁrm also had positive earnings before taxes for the current and prior years.6 The tax incentives under investigation have a history of being changed frequently by Congress (see Notes 1 and 3). If uncertainty about the consistency of the tax beneﬁts inﬂuenced managers’ spending decisions, then that creates a bias against ﬁnding a relationship between the independent variables and research and capital spending. Control Variables Funds Availability The investment decisions of corporate managers depend on the availability of funds for investment. Prior research documents a positive relationship between internal funds and R&D (Berger, 1993; Shehata, 1991; Grabowski, 1968). However, both internally and externally generated funds can be used for research and capital spending. Thus, both cash from operations (AVGOPCF) and cash from ﬁnancing (AVGFCF) are included. The twoyear averages of these measures are used because the entire amount of cash

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generated in a period may not be expended in that same period. To further capture the funds availability position of the ﬁrm for the current year, the beginning of the year cash balance (CASH) is included. The simultaneous regression model captures the interdependence of these two investment decisions. Funds committed to either research or capital change the level of funds for additional spending on other activities. Therefore, current capital (CAPX) spending is included as a control for R&D spending (RDX) and vice versa. Firm Financial Position In addition to cash considerations, the level of corporate spending depends on the ﬁrm-speciﬁc ﬁnancial position. The reported earnings of the ﬁrm are an important consideration for managers making investment decisions. Barth, Elliott, and Finn (1999) show that the market rewards ﬁrms with a pattern of increasing earnings, providing a powerful motivation for managers to focus on the trend in net income. In addition, Baber, Fairﬁeld, and Haggard (1991) investigate the importance of reported earnings on the decision to invest in R&D. They ﬁnd that managers decrease R&D spending when that spending would create negative income or a decreasing trend. Therefore, the change in earnings per share (CEPS) is included in the model to capture the earnings trend for each ﬁrm-year. Change in earnings per share (CEPS) is excluded from the capital-spending (CAPX) model because these costs are not likely to be used to smooth income since only a portion of the costs through depreciation is recorded in current income. This is consistent with Baber et al. (1991, p. 819), who report that ‘‘managers are more likely to consider current-period income effects when making R&D decisions than when making capital-spending decisions.’’ The current level of earnings of a ﬁrm is also an important consideration for managers in making investment decisions. Horwitz and Kolodny (1980, 1981) and Shehata (1991) show that accounting regulations that required immediate expensing of R&D caused a relative decline in R&D outlays. Thus, the ﬁnancial reporting consequence of investment is not trivial. Current level of earnings before taxes and research spending (EBT) are included to control for the inﬂuence of reported income on investment decisions. The prior year R&D expense (LRDX) and capital spending (LCAPX) affect current spending decisions because projects can span more than one year. Klassen et al. (2004), Berger (1993), and Tillinger (1991) ﬁnd a strong relationship between R&D for the current and previous year. Firm size (SIZE) is also included as a control.7 Klassen et al. (2004) and Shehata (1991) both ﬁnd evidence that R&D spending is proportionate to ﬁrm size.

102

TRACY S. MANLY ET AL.

External Influences Factors outside the ﬁrm also play a role in corporate spending decisions, requiring further control variables in the model. Gross National Product (GNP) accounts for ﬂuctuations in economic health over the sample period. Beyond economic concerns, each ﬁrm’s opportunity costs and expected marginal beneﬁts determine its investment decisions. The q-ratio is a measure of the ﬁrm’s marginal beneﬁt compared to the marginal cost of an additional unit of new investment. Tillinger (1991) examines ﬁrm response to the R&E tax credit through classifying ﬁrms by q-ratios. The positive inﬂuence of the credit declines the further the ratio is from a value of one. Firms with a q-ratio close to one are most inﬂuenced by the credit. The q-ratio is unobservable, thus the ratio of the book value of assets compared to the market value of assets is incorporated as a proxy. Also, Sougiannis (1994) and Lev and Sougiannis (1996) both demonstrate that R&D spending is related to the market value of the ﬁrm. Their research shows that the market value of research ﬁrms is adjusted to include an asset value for a portion of R&D expense determined to have future beneﬁt for the ﬁrm. As previously stated, a three-way ﬁxed effects model incorporating ﬁrm, time and industry8 effects is used to estimate the two investment equations simultaneously. Model: RDX ¼ a1 þ b11 RECRED þ b21 ITCRED þ b31 AVGOPCF þ b41 AVGFCF þ b51 CASH þ b61 CAPX þ b71 CEPS þ b81 EBT þ b91 LRDX þ b101 SIZE þ b111 GNP þ b121 B=M þ

ð1Þ

CAPX ¼ a2 þ b12 RECRED þ b22 ITCRED þ b32 AVGOPCF þ b42 AVGFCF þ b52 CASH þ b62 RDX þ b72 EBT þ b82 LCAPX þ b92 SIZE þ b102 GNP þ b112 B=M þ

ð2Þ

where: RDX

¼

CAPX

¼

All costs incurred during the year that relate to the development of new products or services. Cash outﬂow for additions to the company’s property, plant and equipment.

Tax Incentives for Economic Growth

RECRED

¼

ITCRED

¼

AVGOPCF

¼

AVGFCF

¼

CASH CEPS

¼ ¼

EBT LRDX

¼ ¼

LCAPX SIZE GNP B/M

¼ ¼ ¼ ¼

103

1 for observations from years in which the R&E credit was enacted and the company has earnings before taxes that were positive for the current and prior year, 0 otherwise. 1 for observations from years in which the ITC was enacted and the company had earnings before taxes that were positive for the current and prior year, 0 otherwise. Two-year average of cash from operations for the current and prior year. Cash from operations is computed as the sum of income before extraordinary items, depreciation and amortization, deferred taxes, equity in earnings of unconsolidated subsidiaries, discontinued operations, minority interest income and R&D expense.9 Two-year average of cash from ﬁnancing activities for the current and prior year. Cash from ﬁnancing is estimated by the sum of the change in long-term debt and the change in stockholders’ equity less the change in retained earnings. Beginning of the year cash balance. Change in earnings per share from prior to current year. Earnings per share is computed as operating income plus research and development expense divided by the number of common shares used to compute primary earnings per share. Earnings before taxes and research spending. Research and development expense for the prior year. Capital expenditures for the prior year. Total sales Gross National Product. Beginning of the year book-to-market ratio. Book value is measured as total common equity. Market value is the closing price multiplied by the number of common shares outstanding.

The coefﬁcients on RECRED and ITCRED address the research question. These variables capture the inﬂuence that the usability of the tax

104

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beneﬁts has on corporate spending decisions. A positive (negative) relationship indicates the beneﬁt is related to higher (lower) levels of spending. Therefore, if the R&E tax credit effectively stimulates research spending by lowering the after-tax cost, a positive coefﬁcient for RECRED is expected in Eq. (1). Similarly, a positive coefﬁcient for ITCRED is expected in Eq. (2). Both the tax credit variables are included in Eqs. (1) and (2) in order to investigate the inﬂuence of the opposing incentive on spending. If the ITC detracts from research spending, then a negative relationship exists between ITCRED and RDX in Eq. (1). In the same way, a negative relationship is expected between RECRED and CAPX in Eq. (2).

SAMPLE SELECTION Observations for the sample are selected from the Compustat database from the years 1976–1990. Fifteen years of data are collected that represent a balanced panel of ﬁve experimental years when both credits are present (1981–1985), ﬁve years when only the ITC was in effect (1976–1980) and ﬁve years when only the R&E credit was enacted (1986–1990).10 Each ﬁrm was required to have spending on both capital and research in the current year to be included. The sample selection yields 13,162 ﬁrm-year observations from 2,023 companies for the estimation procedure.11 Tables 1 and 2 show summary information for research and capital spending by both industries and years. Although the industry ﬁxed effect in the simultaneous regression model is based on two-digit SIC codes, for reporting purposes industries are divided into one-digit SIC codes. Regulated industries are omitted from the sample. The distribution of observations across industries is largely consistent with that of the Compustat population of ﬁrms except that manufacturing industries (3000–3999) are over-represented in the sample. Sensitivity analysis, as reported later, shows that this difference between the sample and the population does not signiﬁcantly drive the primary results of the empirical tests. Descriptive statistics for the variables are shown in Table 3. Means and standard deviations are shown separately for the observations when the tax credits were available and those when the credits were unavailable. Results are shown from the univariate comparisons made between each of the variables between the two categories for both RECRED and ITCRED. As expected, R&D spending is signiﬁcantly higher for the ﬁrms that could take advantage of the R&E tax credit. These observations also related to higher cash ﬂows, earnings, capital spending and size. Interestingly, these ﬁrms that

Industry SIC Codes 0–0999 (Agriculture) 1000–1999 (Mining, construction) 2000–2999 (Food, apparel, lumber, paper, chemicals) 3000–3999 (Rubber, leather, metal, machinery, equipment) 4000–4999 (Transportation, communications) 5000–5999 (Wholesalers, retailers) 7000–7999 (Services) 8000–8999 (Health, education)

Total

Descriptive Statistics – R&D Expense (Mean, in millions (standard deviation) sample size). 1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

6.66 (12.06) 5 8.32 (21.05) 13 20.68 (74.92) 169

10.26 (17.28) 4 12.22 (23.14) 11 19.74 (73.09) 166

1987

1988

1989

1990

Total

2.60 (3.70) 3 7.34 (11.30) 13 7.27 (22.80) 139

3.84 (4.26) 3 6.52 (9.91) 20 10.12 (30.42) 174

4.36 (4.98) 3 7.12 (11.86) 22 9.93 (29.05) 179

4.06 (4.34) 4 4.47 (10.36) 16 15.16 (48.24) 168

3.90 (5.72) 4 4.86 (11.68) 18 18.23 (59.06) 168

3.74 (6.14) 5 5.95 (12.97) 17 23.02 (73.15) 165

4.77 (8.01) 5 7.70 (20.50) 15 23.09 (80.45) 159

5.67 (10.29) 5 7.58 (19.02) 14 19.77 (70.34) 159

1.70 0.94 (0.65) – 3 1 14.53 10.98 (21.59) (17.85) 9 12 27.62 31.27 (87.74) (104.39) 159 169

0 0 – – – – 9.86 16.00 (26.70) (36.89) 9 8 35.88 39.72 (124.46) (132.32) 170 139

0 – – 19.15 (41.97) 7 54.04 (185.89) 130

4.79 (7.96) 45 8.43 (18.55) 204 23.15 (88.09) 2413

11.13 (70.54) 448

13.33 (78.18) 539

16.75 (92.34) 563

15.03 (79.31) 526

14.46 (65.81) 531

15.19 (70.78) 531

17.14 (84.99) 616

17.15 19.77 23.17 26.58 30.21 (84.01) (112.42) (140.89) (162.15) (194.51) 629 682 682 658 664

22.32 29.25 (138.50) (190.35) 652 576

34.84 (232.76) 510

20.71 (131.73) 8838

21.2 (41.55) 4 1.33 (2.48) 27 6.51 (21.52) 28 0.80 (0.92) 7

43.86 (94.27) 9 2.09 (3.35) 30 7.34 (23.55) 30 1.0315 (1.18) 15

20.34 (47.25) 7 1.98 (3.02) 33 7.51 (24.81) 37 1.39 (1.53) 14

0.82 (1.02) 9 3.60 (4.67) 15 5.35 (11.70) 85 1.69 (1.77) 16

0.82 (1.06) 7 3.96 (5.52) 15 8.72 (24.10) 75 1.61 (1.93) 16

58.72 (168.72) 126 1.96 (3.39) 367 6.37 (18.35) 939 1.47 (2.08) 230

9.58 (58.94) 669

11.93 (65.88) 820

13.85 (76.37) 858

23.20 27.17 (127.94) (166.08) 973 848

33.78 (206.06) 760

19.40 (115.85) 13162

47.13 61.72 74.36 111.79 121.88 46.74 57.33 66.99 65.17 93.54 (127.25) (157.52) (166.29) (223.52) (281.65) (136.65) (167.94) (189.51) (214.34) (278.70) 8 7 10 8 10 9 9 9 11 9 2.05 2.14 1.96 1.56 1.08 1.30 1.86 1.97 2.14 2.25 (3.46) (4.17) (3.26) (2.82) (1.72) (2.20) (3.37) (3.64) (4.03) (3.99) 25 24 21 28 29 29 27 24 21 19 3.65 4.80 3.53 7.37 6.92 5.33 5.60 5.14 6.094 9.44 (9.50) (11.49) (5.25) (30.19) (18.54) (11.44) (12.65) (12.18) (15.48) (26.70) 35 41 35 54 62 82 93 91 94 97 2.02 1.59 0.99 1.10 1.32 1.43 1.56 1.24 1.73 2.09 (2.62) (2.58) (1.06) (1.14) (1.37) (2.02) (2.20) (2.34) (2.76) (3.48) 13 16 14 15 15 17 19 18 18 17 13.99 (69.45) 795

14.28 (61.59) 809

16.14 (69.49) 829

17.47 (81.45) 900

17.08 (81.23) 923

17.93 20.15 23.85 27.12 (98.52) (120.65) (139.49) (166.74) 1006 1011 971 990

Tax Incentives for Economic Growth

Table 1.

105

106

Table 2. Industry SIC Codes 0–0999 (Agriculture)

Descriptive Statistics-Capital Expenditures (Mean, in millions (standard deviation) sample size). 1976 6.82 (5.99) 3 109.96 (169.59) 13 45.48 (187.39) 139

1977

1978

9.18 7.34 (11.75) (8.10) 3 3 91.14 109.84 (159.09) (190.33) 20 22 67.24 52.45 (316.92) (195.32) 174 179

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

9.76 14.62 17.51 25.44 18.47 22.07 30.53 13.76 1.21 0 0 (8.68) (8.63) (19.84) (26.05) (16.45) (21.43) (23.42) (11.32) – – – 4 4 5 5 5 5 4 3 1 – – 91.61 54.54 60.58 51.30 28.26 34.19 177.54 139.68 86.14 31.41 56.34 (168.26) (102.46) (125.79) (124.15) (65.63) (73.59) (300.72) (257.40) (171.29) (58.16) (69.72) 16 18 17 15 14 13 11 9 12 9 8 110.46 139.30 167.62 163.07 154.66 157.47 170.80 147.12 150.23 168.93 139 (522.15) (655.44) (837.72) (873.63) (780.99) (811.88) (900.40) (666.21) (692.35) (778.09) (173.97) 168 168 165 159 159 169 166 159 169 170 139

Total

30.72 (153.57) 669

54.21 42.61 (455.51) (206.00) 820 858

70.98 73.02 81.75 71.09 62.64 51.49 56.15 49.74 50.94 50.89 59.60 (643.50) (676.77) (734.82) (672.19) (569.77) (373.21) (412.94) (317.12) (336.86) (361.49) (402.82) 795 809 829 900 923 1006 1011 971 990 973 848

Total

0 – – 81.71 (120.11) 7 233.26 (888.83) 130

16.66 (16.89) 45 79.93 (156.60) 204 138.63 (692.19) 2413

43.30 (360.09) 510

32.52 (206.86) 8838

1.84 (1.45) 7 6.04 (8.16) 15 4.97 (19.50) 75 1.82 (3.69) 16

893.08 (3322.5) 126 16.85 (62.70) 367 9.60 (36.05) 939 3.34 (5.70) 230

70.37 (476.51) 760

58.31 (480.16) 13162

TRACY S. MANLY ET AL.

1000–1999 (Mining, construction) 2000–2999 (Food, apparel, lumber, paper, chemicals) 3000–3999 24.58 31.46 39.44 36.45 31.12 33.02 28.79 26.06 31.88 33.77 30.16 30.12 25.65 44.13 (Rubber, leather, (144.45) (179.69) (221.29) (275.39) (127.10) (149.75) (134.84) (131.34) (189.62) (214.91) (176.86) (183.81) (141.69) (330.27) metal, 448 539 563 526 531 562 616 629 682 682 658 664 652 576 machinery, equipment) 4000–4999 271.37 1408.33 160.09 2019.92 2459.76 1954.84 2255.74 1524.54 184.51 206.44 246.46 240.75 332.57 4.25 (Transportation, (504.73) (3834.6) (371.63) (5494.9) (6424.9) (5588.6) (5767.2) (4320.4) (489.26) (573.94) (658.76) (776.77) (987.34) (6.95) communications) 4 9 7 8 7 10 8 10 9 9 9 11 9 9 5000–5999 8.91 21.71 16.83 11.55 10.24 10.07 9.12 13.92 17.72 25.38 37.62 41.08 7.15 9.40 (Wholesalers, (24.90) (42.64) (32.89) (23.00) (21.72) (20.66) (24.52) (62.11) (77.99) (89.45) (140.05) (124.13) (9.80) (13.64) retailers) 27 30 33 25 24 21 28 29 29 27 24 21 19 15 7000–7999 14.29 18.16 20.42 19.07 13.15 17.59 19.35 10.64 8.01 7.97 6.71 5.13 6.43 3.53 (Services) (50.07) (49.85) (65.16) (55.35) (27.43) (43.54) (87.73) (34.55) (24.96) (25.51) (16.12) (13.29) (18.43) (10.30) 28 30 37 35 41 35 54 62 82 93 91 94 97 85 8000–8999 4.55 5.16 7.34 6.34 6.42 4.20 4.75 2.18 3.26 1.01 1.77 1.21 2.03 0.95 (Health, education) (5.56) (5.96) (9.13) (7.04) (10.47) (6.30) (8.11) (2.80) (4.26) (1.22) (3.20) (1.24) (2.97) (1.08) 7 15 14 13 16 14 15 15 17 19 18 18 17 16

1990

Tax Incentives for Economic Growth

107

Table 3. Descriptive Statistics (Mean, in millions (standard deviation)).

RDX R&D expense CAPX Capital expenditures AVGOPCF Average operating cash ﬂows AVGFCF Average ﬁnancing cash ﬂows CASH Cash balance, beginning of year CEPS Change in earnings per share EBT Earnings before tax and R&D LRDX Lagged R&D expense LCAPX Lagged capital expenditures SIZE Total sales B/M Ratio of book value to market value

RECRED Not Usable (0) (n ¼ 7213)

RECRED Usable (1) (n ¼ 5949)

ITCRED Not Usable (0) (n ¼ 6387)

ITCRED Usable (1) (n ¼ 6775)

Total (13162)

8.85 (51.39) 33.66 (360.39)

32.17 (161.86) 88.20 (592.47)

19.92 (136.57) 41.93 (319.78)

18.91 (92.15) 73.75 (592.49)

19.40 (115.85) 58.31 (480.16)

46.05 (390.01)

141.66 (808.99)

70.30 (507.92)

107.15 (705.08)

89.27 (617.57)

6.91 (101.98)

21.77 (328.03)

15.05 (287.77)

12.28 (166.11)

13.63 (233.21)

30.02 (220.16)

85.11 (472.44)

49.45 (377.55)

60.07 (338.55)

54.92 (358.03)

0.25 (69.36)

0.52 (66.26)

0.50 (76.22)

0.26 (59.16)

0.38 (67.97)

36.77 (365.25)

129.06 (676.32)

59.57 (448.24)

96.31 (598.08)

78.48 (530.98)

7.97 (45.85)

28.06 (142.18)

17.56 (119.78)

16.56 (81.59)

17.05 (101.92)

30.63 (316.79)

83.69 (594.41)

39.96 (309.28)

68.44 (572.60)

54.62 (464.08)

42.33 (2733.9) 0.94 (0.77)

1111.97 (5994.01) 0.69 (0.51)

589.51 (4135.17) 0.74 (0.67)

870.29 (4855.39) 0.91 (0.68)

734.04 (4522.26) 0.83 (0.68)

Notes: T-tests were performed for each variable between the two RECRED groups and the two ITCRED groups. Means that are statistically different (po0.05) are shown in bold italics. RECRED, R&E tax credit usability. This indicator variable equals 1 for observations from years in which the R&E credit was enacted and the company has earnings before taxes that were positive, 0 otherwise; ITCRED, ITC usability. This indicator variable equals 1 for observations from years in which the ITC was enacted and the company had earnings before taxes that were positive, 0 otherwise.

108

TRACY S. MANLY ET AL.

spend more on research have a signiﬁcantly lower average book-to-market ratio. This most likely represents the fact that the intangible assets created from the research are not capitalized in the ﬁnancial statements. The average capital spending is also larger when ﬁrms can utilize the capital incentives including the ITC. Usability of capital investment incentives is related to higher operating cash ﬂows, earnings and size, but it is related to slightly lower, but insigniﬁcant, levels of research spending. A correlation matrix of the variables is presented in Table 4.

RESULTS The results from the simultaneous regression equation are shown in Table 5. The variables of interest are the two tax credit usability variables, RECRED and ITCRED. In Eq. (1) for research spending (RDX), the coefﬁcient for the RECRED is both positive and signiﬁcant. This ﬁnding supports prior research that reports the credit is related to increased research spending. In addition, the coefﬁcient for ITCRED is negative and signiﬁcant in Eq. (1). Thus, the presence of the tax beneﬁts for capital is related to lower amounts of spending on research. The Eq. (2) results for capital spending (CAPX) show that the ITCRED is not signiﬁcantly related to the dependent variable. Thus, the ITC cannot be clearly associated with increased capital spending by ﬁrms that engage in both types of investment. However, the coefﬁcient for RECRED in Eq. (2) is negative and signiﬁcant, suggesting that this alternative tax incentive serves to decrease the level of capital spending. These ﬁndings illustrate that corporate spending decisions incorporate a number of factors including the presence of alternative tax incentives. Each of these tax initiatives inﬂuences investment decisions beyond those targeted by legislators. Of the funds availability variables, operating cash ﬂows (AVGOPCF) are positively related to R&D expenses while ﬁnancing cash ﬂows (AVGFCF) are positively related to capital outlays. These results support prior arguments that R&D funds are generated internally because external funding may be difﬁcult and expensive for these types of projects (Grabowski, 1968; Kamien & Schwartz, 1978). On the other hand, ﬁnancing appears to be more readily available for capital expenditures that can be used as collateral. The beginning of the year cash balance (CASH) is negatively related to both research and capital spending. It appears that keeping larger amounts of cash on hand does not lead to increased investment by ﬁrms. The CAPX and RDX control variables are each signiﬁcantly negative in the simultaneous equation model, reinforcing the conclusion that these decisions are

RDX CAPX 0.506 RECRED 0.100 ITCRED 0.004 AVGOPCF 0.634 AVGFCF 0.405 CASH 0.719 CEPS 0.001 EBT 0.623 LRDX 0.973 LCAPX 0.471 SIZE 0.364 GNP 0.051 B/M 0.003

CAPX RECRED ITCRED AVGOPCF AVGFCF CASH

CEPS

EBT LRDX LCAPX

0.056 0.033 0.961 0.432 0.612 0.001 0.872 0.500 0.979 0.309 0.002 0.020

0.002 0.001 0.001 0.006 0.002 0.007

0.613 0.842 0.365 0.017 0.005

0.064 0.077 0.031 0.077 0.002 0.087 0.098 0.057 0.174 0.417 0.184

0.030 0.006 0.015 0.002 0.035 0.005 0.031 0.244 0.691 0.129

0.414 0.724 0.001 0.930 0.635 0.954 0.361 0.013 0.016

0.299 0.003 0.315 0.399 0.406 0.124 0.016 0.001

0.001 0.773 0.726 0.588 0.367 0.022 0.002

0.482 0.373 0.050 0.004

0.308 0.001 0.025

SIZE

GNP

Tax Incentives for Economic Growth

Table 4. Correlation Matrix.

0.150 0.183 0.268

Note: Bold and italicized if Pearson Correlation is signiﬁcant at the 5% level. RDX, R&D expense; CAPX, Capital expenditures; RECRED, Indicator for R&E tax credit; ITCRED, Indicator for investment tax credit; AVGOPCF, Average operating cash ﬂows; AVGFCF, Average ﬁnancing cash ﬂows; CASH, Cash balance, beginning of year; CEPS, Change in earnings per share; EBT, Earnings before tax and R&D expense; LRDX, Lagged R&D expense; LCAPX, Lagged capital expenditures; SIZE, Log of total sales; GNP, Gross National Product; B/M, Book/Market.

109

110

TRACY S. MANLY ET AL.

Table 5. Simultaneous Regression Model (Observations: 13162). RDX Model (1) Adj. R2 0.82

CAPX Model (2) Adj. R2 0.92

Expected sign

Expected sign

Intercept RECRED Indicator for R&E credit ITCRED Indicator for investment tax credit AVGOPCF Average operating cash ﬂows AVGFCF Average ﬁnancing cash ﬂows CASH Cash balance, beginning of year RDX R&D expense CAPX Capital expenditures CEPS Change in earnings per share EBT Earnings before taxes and R&D expense LRDX Lagged R&D expense LCAPX Lagged capital expenditures SIZE Total sales GNP Gross National Product B/M Ratio of book value to market value

+ –

Coefﬁcient (p-value) 8.70 (o0.01) 2.24 (o0.01) 3.63 (o0.01) 0.033 (0.03) 0.019 (0.12) 0.026 (0.08)

0.110 (o0.01) 0.002 (0.03) 0.024 (0.06)

– +

Coefﬁcient (p-value) 16.51 (0.05) 3.13 (0.02) 1.05 (0.34) 0.050 (0.70) 0.066 (o0.01) 0.048 (0.05) 0.314 (0.02)

0.145 (0.08)

0.880 (o0.01) 0.557 0.007 (o0.01) 0.0003 (0.05) 1.52 (0.07)

0.025(.03) 0.0005 (0.26) 6.34 (o0.01)

Notes: Tests on the coefﬁcients are one-tail for RECRED and ITCRED. All other tests are twotail. p-values are reported using White’s corrected standard errors. GNP is positively related to CAPX when transportation ﬁrms are omitted from the sample (see explanation beginning on p. 16).

interdependent. The funds committed to one area of spending are dependent on spending decisions elsewhere. CAPX is negatively related to R&D spending, which suggests that investments in property, plant and equipment detract from funds for research. Similarly, RDX is negatively correlated

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with capital spending. Therefore, higher levels of research spending must also detract from additional investment in capital.12 The change in earnings per share (CEPS) is positively related to R&D expense. This supports the line of reasoning that suggests managers are more likely to make additional research investments when earnings are increasing. This allows them to continue the investment while still showing a smooth stream of income. The level of current earnings (EBT) is positively related to both current R&D and capital spending. Together, these two variables indicate that managers consider ﬁnancial reporting results as well as the availability of funds in making investment decisions (Table 5). In each equation the lagged dependent variable (LRDX, LCAPX) is positive and highly signiﬁcant. This is consistent with the idea that these projects extend over more than one time period and that ﬁrms make current investment decisions with consideration of prior spending. Firm size (SIZE) is directly related to both R&D and capital spending. Therefore, relatively larger ﬁrms tend to be the leaders in investment. These results support the positive relation found between R&D and size by Klassen, et al. (2004). The external inﬂuence variable for general economic well-being (GNP) is negatively related to research spending. Thus, ﬁrms look to additional innovation in times of economic downturn. However, GNP is not related to capital spending. As an alternative measurement of economic health, we incorporated the change in GNP in both real and constant terms. The results for this variable and the independent variables of interest were not changed. Further investigation shows that the insigniﬁcant result for this control variable is driven by the extensive capital spending by the transportation industry during the economic downturn of the early 1980s. When the transportation industry observations are removed from the sample, GNP is positively related to CAPX. The book-to-market ratio is negatively related to both the dependent variables. For ﬁrms in this sample, higher level of investment coincides with expectations for growing and expanding ﬁrms. These ﬁrms are most likely to have market values that well exceed their book values and produce a lower q-ratio. Sensitivity Analysis Manufacturing Industries The manufacturing ﬁrms (SIC 3000–3999) make up a substantial portion of the sample. Even though industry effects are controlled for by the ﬁxed

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effects in the original model, an additional test was performed to investigate whether ﬁrms from this industry group signiﬁcantly inﬂuenced the results. The observations from the manufacturing industries were separated from the other observations and the simultaneous regression was estimated on the two groups. First, the estimation for the non-manufacturing ﬁrms shows the same general pattern of results for the independent variables (RECRED, ITCRED). The one exception is that although the RECRED variable remains negative in the capital-spending model, it is no longer signiﬁcant at conventional levels. The inferences from the control variables are the same as those from the original model, although the level of signiﬁcance changes for a few variables. Second, the estimation of the regression for only the manufacturing ﬁrms also resembles the results for the full sample, with one exception. The RECRED variable is no longer signiﬁcantly related to RDX. Thus, the research tax incentives appear to have a stronger inﬂuence for ﬁrms outside the manufacturing industries. Although some differences do exist, when taken together, the inﬂuence of the credits on spending patterns is similar between manufacturing and non-manufacturing ﬁrms. Transition Years The R&E credit began in 1981; however, the legislation was enacted in the third quarter of the year and applied retroactively to the start of the year. The statistical tests include 1981 as a year that the R&E credit was available. Since the incentive was not as strong in that year, the tests are repeated removing observations from 1981.13 The primary conclusions are unchanged as the variables of interest retain similar coefﬁcients and signiﬁcance. For the RDX equation, the RECRED variable is positive and signiﬁcant and the ITCRED variable is negative and signiﬁcant. For the CAPX equation, the RECRED variable is negative and signiﬁcant and the ITCRED variable is not signiﬁcant. Similar to the transition in 1981, the repeal of the ITC was passed late in 1986 and was made retroactive to the beginning of the year. The model treats the variable ITCRED as being unavailable in the year 1986, but this is known only with the beneﬁt of hindsight. It is possible that ﬁrms could have been undertaking capital expenditures in the early months of 1986 with the expectation of receiving tax beneﬁts. The model is estimated without the observations from 1986. Again, the pattern of ﬁndings on the variables of interest remains constant. The RECRED variable is signiﬁcant and positively related to research spending while marginally signiﬁcant and negatively related to capital spending. The ITCRED variable is negatively related to the dependent variable RDX and unrelated to the dependent

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variable CAPX. Finally, both the transition years were removed jointly and the model was tested. The results showed the same pattern of sign and signiﬁcance for the coefﬁcients of the tax credit variables as the previous model excluding only 1986. The main inferences from the control variables remain constant throughout the tests, although the level of signiﬁcance changes on some of the control variables. Tradeoff Effects for Investment Leaders The original model and sample selection address the impact of the two tax incentives on a cross-section of ﬁrms engaged in both capital and research spending to test the overall impact of the policies. However, there is another closely related question that addresses how the presence of both credits inﬂuences the decisions of ﬁrms that invest heavily in both types of spending. The median level of R&D and capital spending was identiﬁed for each year included in the sample. Observations were retained if the level of ﬁrm investment in research and capital exceeded the median spending in both the categories for the year. This subset of the original sample contains 5,066 observations, and the results of the estimation of the research model are shown in Table 6. The sign and signiﬁcance of the independent variables are the same as that of the original estimation. Thus, the above inferences hold for the smaller group of ﬁrms that are the investment leaders in each category. The sign and signiﬁcance of the control variables are also similar to the original estimation with one exception. The cash variable is no longer signiﬁcantly related to R&D spending. As might be expected, this group of ﬁrms is signiﬁcantly larger (as measured by sales and assets) than the sample of ﬁrms included in the primary analysis. This shows that the larger ﬁrms also face tradeoff decisions that can be inﬂuenced by changes in the after-tax costs of investments. One might expect that larger ﬁrms would be less inﬂuenced because of their increased ability to generate ﬁnancing, but this does not seem to be the case.

LIMITATIONS When investigating the effects of tax law changes, researchers are constrained by the practice of Congress to pass many provisions as a part of one tax act. In addition to the repeal of the ITC and the adoption of the R&E Tax Credit, the tax reform packages enacted from 1976 to 1990 contained other provisions targeting corporate investment, summarized in appendix. The direct effects of the tax credit changes in 1981 and 1986 cannot be isolated. Our

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Table 6. Simultaneous Regression Model Above Median Spending on R&D and Capital Expenditures (Observations: 5066). RDX Model (1) Adj. R2 0.88

CAPX Model (2) Adj. R2 0.93

Expected sign

Expected sign

Intercept RECRED Indicator for R&E credit ITCRED Indicator for investment tax credit AVGOPCF Average operating cash ﬂows AVGFCF Average ﬁnancing cash ﬂows CASH Cash balance, beginning of year RDX R&D expense CAPX Capital expenditures CEPS Change in earnings per share EBT Earnings before taxes and R&D expense LRDX Lagged R&D expense LCAPX Lagged capital expenditures SIZE Total sales GNP Gross National Product Book/Market

+ –

Coefﬁcient (p-value) 23.8 (o0.01) 3.59 (o0.01) 7.41 (o0.01) 0.035 (o0.01) 0.012 (0.29) 0.012 (0.34)

0.067 (o0.01) 0.002 (o0.01) 0.014 (0.09)

– +

Coefﬁcient (p-value) 58.04 (0.04) 10.38 (0.03) 5.14 (0.28) 0.104 (0.44) 0.070 (o0.01) 0.041 (0.10) 0.315 (o0.01)

0.137 (0.14)

0.949 (o0.01)

0.02 (0.08) 0.0009 (0.01) 3.90 (0.15)

0.636 (o0.01) 0.014 (0.03) 0.002 (0.21) 20.02 (o0.01)

Notes: Tests on the coefﬁcients are one-tail for RECRED and ITCRED. All other tests are twotail. p-values are reported using White’s corrected standard errors.

results compound the effects of both the changes to depreciation and the ITC, and should be considered in light of this limitation. However, note that during the time periods of interest, Congressional policy was consistent in each act – incentives for capital and research either both increased or decreased, which would bias against our ﬁnding signiﬁcant results.

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CONCLUSION Our research provides support to prior research that tax incentives can induce ﬁrms to increase R&D spending (Hall & Reenen, 2000), but are not as effective in encouraging capital investment (Gravelle, 1993; Chirinko, 1986). Investment in plant and equipment would likely occur without tax incentives. Not only may tax incentives for capital investment be ineffective, but they may also be counterproductive by reducing beneﬁcial research spending. Our research indicates that when an ITC is available, ﬁrms reduce their investment in research. While both research spending and capital investment contribute to economic growth, it is more important that governments provide support for research. Absent government intervention, it is expected that businesses will invest less than the desirable amount in research because they are not able to fully capture all the beneﬁts due to spillover effects. Governments can remedy this problem by providing protection for research beneﬁts (e.g., patents, copyrights), awarding grants for speciﬁc R&D projects, and by reducing the cost of the research through tax incentives (Guinet & Kamata, 1996). The use of tax incentives involves less government interference and allows market signals to play a greater role in the research performed. Even though our research indicates that R&E tax credits may cause a reduction in capital spending, these tax incentives play an important role in the economy. In recent years, policy makers have relied on deductions rather than credits to promote capital spending. The Job Creation and Worker Assistance Act (2002) provided for an additional 30 percent ﬁrst-year depreciation for new capital investment. The Jobs and Growth Tax Relief Reconciliation Act (2003) increased this enhanced deduction to 50 percent for ﬁrst-year depreciation. This additional expense deduction was temporary, ending in 2005. The JGTRR also increased the amount of the Section 179 expense election to $100,000 annually, indexed through 2007 and scheduled to fall back to $25,000 in 2008. The current R&E credit is also temporary but Congress has routinely renewed it as it expires, most recently as a part of the Working Families Tax Relief Act of 2004, which extended the credit through 2005. As Congress considers readopting tax incentives for capital investment and research spending, legislators should be aware that the amount ﬁrms invest in research is sensitive to tax incentives for capital investment. An emphasis on investment in current technology may cause a reduction in the creation of new technology for competitiveness.

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NOTES 1. The credit required an eight-year useful life for the full cost of the equipment to qualify. Eligible property included primarily tangible property used for manufacturing, production or extraction. The credit equaled seven percent of qualiﬁed investments although yearly limits applied. In 1966, President Johnson suspended the ITC due to excessive demands for funds, but then reinstated it ﬁve months later in 1967. In 1969, the ITC was repealed. After two years, the credit was reenacted in 1971. The ITC remained in effect until its ﬁnal repeal in 1986 although adjustments were made in 1975, 1976, 1981 and 1982. 2. See Appendix. The 1981 legislation enacting Section 179 provided the expense election for property placed in service after 1981. Hence, the effective date of Section 179 expensing was January 1, 1982. The later effective date was a mistake and once found, Congress decided not to revisit the issue. Therefore, some investment in 1981 was likely made with the assumption that the expensing election would be available. 3. The 1986 Act also expanded the expense election under Section 179, phasing out the deduction for businesses with total capital investments of over $200,000. This change beneﬁted small businesses investing in plant and equipment. Taken together, however, the provisions of the 1986 Act reduced the incentives for capital investment, particularly for most of the ﬁrms included in this study, which are relatively large in size. This and other changes are summarized in appendix. 4. The original provisions allowed ﬁrms a tax credit of 25 percent of R&D spending above a certain base amount of spending, the average of the previous three years’ eligible spending. Eligible activities included R&D performed in ‘‘carrying on’’ the ﬁrm’s existing trade or business. Purchases of R&D plant and equipment do not apply. The credit was initially designed to terminate in 1986 but has been extended eight times. In 1986, the credit rate dropped to 20 percent. The rules for computing the base amount of R&D changed in 1986, 1990 and 1996. Throughout its life, the credit has remained an incremental credit designed to encourage private R&D spending beyond a base level that would occur without incentives. 5. Two-stage least squares corrects for correlated error terms between the two equations by introducing instrumental variables for research and capital spending when incorporated as predictors. 6. The requirement of positive earnings in the current and prior years identiﬁes companies most likely to be in a tax-paying position and to beneﬁt from the incentives being investigated. Firms with losses in either the current or prior years are labeled as unable to use the credit. Given the provision of NOL carryforwards and carrybackwards, some ﬁrms may be misclassiﬁed. To the extent this occurs, they should be labeled as being able to use the credit when, in fact, they were not. This misclassiﬁcation would bias against ﬁnding a signiﬁcant relationship between the independent and dependent variables. Sensitivity analysis was performed which redeﬁned RECRED by requiring positive earnings in the current and prior two years. The results were not qualitatively different than those reported in the paper. 7. Following the recommendation of Barth and Kallapur (1996), size is added as a control variable and White’s correction for standard errors is used. They ﬁnd that ‘‘deﬂation has unpredictable effects on coefﬁcient bias, heteroscedasticity, and

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estimation efﬁciency.’’ Subsequent tests do not indicate a problem with heteroscedasticity that inﬂuences the ﬁnal results. 8. Industries are deﬁned by two-digit SIC codes. 9. For the later years in the sample period, the cash ﬂow variables (AVGOPCF, AVGFCF) could be collected directly from the cash ﬂow statement. When the analysis is performed using this data, substantially more observations are available for years after 1988. However, the results for the test variables (RECRED, ITCRED) remain unchanged. Thus, the computed cash ﬂow variables are used for the entire sample to maintain consistency. These results are shown. 10. Restricting the sample to only those ﬁrms with complete data for the 15-year estimation period would impart considerable survivorship bias into the sample selection. The intent and theoretical impact of the credits is to stimulate the level of the targeted activity throughout the economy, not just among those ﬁrms that are particularly long-lived. Therefore, each ﬁrm must have complete data for only a minimum of three years to be included in the sample. 11. The Compustat population yielded 17,069 observations over the sample period based on the requirement that each ﬁrm engage in both research and capital spending. Insufﬁcient data for all the research variables reduced the sample to 15,380. The ﬁnal sample was reduced to 13,162 by the requirement that each ﬁrm have a minimum of three observation years so that the ﬁxed effect by ﬁrm could be estimated. 12. The two dependent variables (RDX and CAPX) are modeled as endogenous to the system. Empirical tests show this assumption to be correct. The null of exogeneity is rejected for both CAPX in the RDX model (p-valueo0.01) and RDX in the CAPX model (p-valueo0.01). 13. Section 179 expensing, also enacted in the 1981 legislation, was not retroactive and became effective for property placed in service beginning in 1982 (see Note 2).

ACKNOWLEDGMENTS We would like to thank Karen Pincus and Robert Walsh for comments on an earlier version of this paper, as well as workshop participants at the University of Arkansas, Louisiana State University, University of Tulsa and the American Accounting Association annual meeting.

REFERENCES American Assembly. (2000). Final Report of the Ninety-Fifth American Assembly. Reprinted in Penner, R. G, Sawhill, I. V., & Taylor, T. (2000). Updating America’s social contract: Economic growth and opportunity in the new century. New York: W.W. Norton & Company. American Enterprise Institute (AEI) for Public Policy Research. (1969). The investment tax credit: Should it be repealed? Washington, DC: AEI.

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Baber, W. R., Fairﬁeld, P. M., & Haggard, J. A. (1991). The effect of concern about reported income on discretionary spending decisions: The case of research and development. The Accounting Review, 66(October), 818–829. Bailey, J. (2002). Stimulus plan offers some ﬁrms tax windfall. The Wall Street Journal, 219(April 9), B6. Barth, M., & Kallapur, S. (1996). The effects of cross-sectional scale differences on regressions results in empirical accounting research. Contemporary Accounting Research, 13(Fall), 527–567. Barth, M. E., Elliott, J. A., & Finn, M. W. (1999). Market rewards associated with patterns of increasing earnings. Journal of Accounting Research, 37, 387–413. Berger, P. G. (1993). Explicit and implicit tax effects of the R&D tax credit. Journal of Accounting Research, 31(Autumn), 131–171. Brozen, Y. (1961). The future of industrial research. Journal of Business, 34(October), 434–441. Chirinko, R. S. (1986). Business investment and tax policy: A perspective on existing models and empirical results. National Tax Journal, 39, 137–155. Chirinko, R. S., & Eisner, R. (1983). Tax policy and investment in major U.S. macroeconomic econometric models. Journal of Public Economics, 2(March), 138–167. Chirinko, R. S., Fazzari, S. M., & Meyer, A. P. (1999). How responsive is business capital formation to its user cost? An exploration with micro data. Journal of Public Economics, 74(October), 53–80. Clark, P. K., & Sichel, D. E. (1993). Tax incentives and equipment investment. Brookings Papers on Economic Activity, 1, 317–340. Cordes, J. J. (1989). Tax incentives and R&D spending: A review of the evidence. Research Policy, 18, 119–133. Cummins, J. G., & Hassett, K. A. (1992). The effects of taxation on investment: New evidence from ﬁrm level panel data. National Tax Journal, 45, 243–251. Cummins, J. G., Hassett, K. A., & Hubbard, R. G. (1996). Tax reforms and investment: A cross-country comparison. Journal of Public Economics, 62, 237–273. Curatola, A. P. (2002). Economic stimulus bill. Strategic Finance, 83(May), 17–18. Economic Recovery Act. (1981). Public Law 97-34 (August 13). Ellis, L. W. (1994). The effect of an investment tax credit on R&D spending. IEEE Transactions on Engineering Management, 41(May), 208–210. General Accounting Ofﬁce (GAO). (1995). Tax policy: Additional information on the research tax credit, (May), Doc. No. T-GGD-95-161: Washington, DC. Grabowski, H. (1968). The determinants of industrial research and development: A study of the chemical, drug, and petroleum industries. Journal of Political Economy, 82(November/ December), 1119–1143. Gravelle, J. G. (1993). What can private investment accomplish? The case of the investment tax credit. National Tax Journal, 46(September), 276–291. Greene, W. H. (1990). Econometric analysis. New York: Macmillan Publishing Company. Guinet, J., & Kamata, H. (1996). Do tax incentives promote innovation? The OECD Observer, 202(Oct/Nov), 22–25. Hall, B., & Reenen, J. V. (2000). How effective are the ﬁscal incentives for R&D? A review of the evidence. Research Policy, 29, 449–469. Horwitz, B., & Kolodny, R. (1981). The FASB, the SEC and R&D. Bell Journal of Economics, 12(Spring), 249–262.

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Horwitz, B. N., & Kolodny, R. (1980). The economic effects of involuntary uniformity in the ﬁnancial reporting of R&D expenditures. Journal of Accounting Research, 18, 38–74. Job Creation and Worker Assistance Act. (2002). Public Law 107-147 (March 8). Jobs and Growth Tax Relief Reconciliation Act. (2003). Public Law 108-27 (May 23). Joint Committee on Taxation (JCT). (2005). Overview of revenue estimating procedures and methodologies used by the staff of the Joint Committee on Taxation, (February 2). Kamien, M., & Schwartz, N. (1978). Self-ﬁnancing of an R&D project. American Economic Review, 68(June), 252–261. Klassen, K. J., Pittman, J. A., & Reed, M. P. (2004). A cross-national comparison of R&D expenditure decisions: Tax incentives and ﬁnancial constraints. Contemporary Accounting Research, 21(Fall), 639–680. Lev, B., & Sougiannis, T. (1996). The capitalization, amortization and value-relevance of R&D. Journal of Accounting and Economics, 21(February), 107–138. Leyden, D. P., & Link, A. N. (1993). Tax policies affecting R&D: An international comparison. Technovation, 13, 17–25. Russo, B. (2004). A cots-beneﬁt analysis of R&D tax incentives. Canadian Journal of Economics, 37(May), 313–335. Shehata, M. (1991). Self-selection bias and the economic consequences of accounting regulation: An application of two-stage switching regression to SFAS No. 2. The Accounting Review, 66(October), 768–787. Sougiannis, T. (1994). The accounting based valuation of R&D. The Accounting Review, 69(January), 44–68. Tax Reform Act. (1986). Public Law 94-455 (October 4). Tillinger, J. W. (1991). An analysis of the effectiveness of the research and experimentation tax credit in a q model of valuation. Journal of the American Taxation Association, 13(Fall), 1–29.

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APPENDIX. TAXES AND INVESTMENT INCENTIVES: A SUMMARY OF SIGNIFICANT TAX CHANGES Climate

Years

Capital investment favored

1976–1980

Tax changes favorable to both capital and research spending

1981

1982–1985 1986–1990

Investment tax credit (ITC) available for purchases of tangible personal property Various methods of depreciation were allowed 20% bonus depreciation allowed Accelerated Cost Recovery System (ACRS) adopted Bonus depreciation disallowed Section 179 expense election of up to $5,000 ITC repealed ACRS replaced with modiﬁed ACRS Section 179 expensing increased to $10,000, phased out for total expenditures of over $200,000

Research Spending Research deduction allowed

Research and Experimentation (R&E) credit enacted R&E credit rate reduced

Notes: For both types of expenditures an election is required. Any amount taken as a credit is not available as a deduction.

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Research investment favored

Capital Spending

SELF-EFFICACY AND TAX RESEARCH PERFORMANCE Dennis Schmidt and Rex Karsten ABSTRACT This study investigates the influence of tax research self-efficacy on tax research performance for a group of novice tax accountants. Tax research self-efficacy is a judgment of one’s ability to perform the specific tasks necessary to solve tax problems. Theory predicts that self-efficacy will be positively associated with task performance and people’s ability to cope with task difficulty. We tested this notion using a computer-based experimental approach to determine if novices with different levels of tax research selfefficacy perform differently when conducting a series of tax research tasks under difficult conditions. Our results, after controlling for certain performance-influencing factors, indicate that tax research self-efficacy is a significant predictor of tax research performance for novice tax accountants. This finding provides evidence of the construct validity of the tax research selfefficacy scale developed by Schmidt and Karsten (2000) and adds to our understanding of the factors that influence tax research performance.

INTRODUCTION Studies from accountants in both practice and academia advocate a major restructuring of accounting education, away from a content-driven focus and toward a skill-based curriculum (e.g., AECC, 1990; AICPA, 1999a, b; Advances in Taxation, Volume 17, 121–140 Copyright r 2007 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1058-7497/doi:10.1016/S1058-7497(06)17005-2

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Albrect & Sack, 2000). These studies often stress the importance of developing novice accountants’ research skills. For example, the AICPA lists having strong research skills as a core functional competency for individuals entering the accounting profession (AICPA, 1999a), and it emphasizes the importance of research skills in its Model Tax Curriculum (AICPA, 1999b). Under the new computer-based CPA exam (see www.cpa-exam.org), candidates must do online searches of professional literature databases for some of the simulation testlets. For the Regulation section of the exam, candidates are expected to know how to solve simulation problems by searching the Internal Revenue Code and IRS Publication 17, with more databases (e.g., Treasury regulations) possibly to be added in the future. To be successful in practice, individuals must develop tax research skills that will enable them to deal with the complexity of the tax law. They must learn how to search efﬁciently through the morass of statutory, administrative, and judicial sources that make up the body of tax law, and must be able to evaluate this information critically. Because of the emphasis placed on novice accountants’ research skills by various accounting profession stakeholders, it is important to investigate factors that may inﬂuence novices’ tax research performance. This study investigates the inﬂuence of tax research self-efﬁcacy on tax research performance for a group of novice accountants. Self-efﬁcacy, a key element in social cognitive theory, is deﬁned as a comprehensive appraisal of one’s perceived capability to perform a speciﬁc task (Bandura, 1997). Correspondingly, tax research self-efﬁcacy is a judgment of one’s ability to perform the speciﬁc tasks necessary to solve tax problems. This investigation is an extension of a study by Schmidt and Karsten (2000), who developed a reliable, 32-item, tax research self-efﬁcacy scale (see Exhibit 1). In the earlier study, the authors demonstrated the usefulness of a self-efﬁcacy scale for training and outcomes assessment, but they did not test the scale’s predictive ability. The current study assesses the tax research self-efﬁcacy scale’s predictive ability and concludes that it serves as a strong predictor of performance. This result provides evidence of the scale’s construct validity and makes a positive contribution to both the self-efﬁcacy and tax research task literature. This paper is organized in the following fashion. We ﬁrst review several empirical studies that have investigated the tax research task. The next section describes the self-efﬁcacy construct and its link to performance. We then discuss tax research self-efﬁcacy and state our hypothesis. The following two sections describe the research methods and discuss the results. In the ﬁnal section of the paper, we state our conclusions, discuss implications and limitations, and make suggestions for future research.

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Exhibit 1. Tax Research Self-Efﬁcacy Scale (Scale Items are Arranged by Skill Category). Establish Facts and Identify Issues I can identify all tax issues related to a set of facts I can identify which facts are necessary to resolve a tax issue I can distinguish between relevant facts and irrelevant facts when researching a tax issue I can determine if additional facts are necessary to resolve a tax issue Locate Relevant Authority I can locate Internal Revenue Code provisions that are relevant to a tax issue I can locate congressional committee reports that relate to statutory tax law I can locate regulations, rulings, and other administrative pronouncements that are relevant to a tax issue I can locate court cases that are relevant to a tax issue I can locate secondary tax authority that is relevant to a tax issue I can locate relevant tax authority using the index or table of contents of a commercial tax service I can locate relevant tax authority using the electronic search function of a commercial tax service Evaluate Authority I can evaluate the authoritative weight of Internal Revenue Code provisions I can evaluate the authoritative weight of congressional committee reports I can evaluate the authoritative weight of regulations, rulings, and other administrative pronouncements I can evaluate the authoritative weight of tax-related court cases I can evaluate the authoritative weight of secondary tax authority I can use a citator to ensure the reliability of tax-related court cases and revenue rulings Develop Conclusions and Recommendations I can develop defensible conclusions after researching a tax issue I can make appropriate recommendations after researching a tax issue Communicate Research Results I can communicate tax research results to a client I can communicate tax research results in a legal memorandum I can communicate tax research results in a protest letter to the IRS Demonstrate Knowledge of Tax Law Structure I can identify the sources of federal tax law I can distinguish between primary and secondary tax authority I can describe how statutory tax law is created I can distinguish between proposed, temporary, and ﬁnal tax regulations I can describe the structure of the federal court system as it relates to tax cases I can describe how the Internal Revenue Code is organized I can trace the history of changes to the Internal Revenue Code Cite Authority I can provide the proper citation for Internal Revenue Code provisions I can provide the proper citation for regulations, rulings, and other administrative pronouncements I can provide the proper citation for tax-related court cases

Source: Schmidt and Karsten (2000).

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PRIOR TAX RESEARCH TASK STUDIES Tax research is the process of ﬁnding and communicating answers to speciﬁc tax issues by applying relevant tax authorities to a set of facts. Several prior studies have investigated the tax research task, each using a computer-based experimental approach. Cloyd (1995) examined the effects of prior knowledge on the information search and evaluation behaviors of tax professionals performing a complex tax research task. He found that prior knowledge affected the information search strategies used, the amount of relevant information located, and the ability to discriminate between relevant and nonrelevant information. Spilker (1995) investigated how time pressure and knowledge affect tax researchers’ ability to locate relevant key words from a commercial tax service’s index. He found that knowledge enhanced tax researchers’ ability to select relevant key words in a time-restricted task. Subjects with procedural knowledge responded more positively to time pressure than subjects without such knowledge. Cloyd (1997) investigated the joint effects of prior knowledge and accountability on performance in the information search phase of a tax research task. His results indicated that increases in effort duration improved search effectiveness regardless of prior knowledge. He also found that accountability had a positive inﬂuence on search effectiveness for the more knowledgeable subjects. Barrick (2001) examined the effect of Internal Revenue Code knowledge on tax research performance. His results indicated that experienced subjects were better able to use Code section knowledge in tax research than inexperienced subjects. He also found that subjects using a Code section search method (vis-a`-vis a topical method) retrieved more relevant authority than other subject groups. Roberts and Ashton (2003) demonstrated that tax research performance could be improved by exposure to declarative knowledge alone rather than via procedural knowledge acquired from practice and feedback. Subjects improved both their efﬁciency and effectiveness in tax research tasks following simple declarative knowledge intervention. The current study is consistent with the above studies in that it utilizes a computer-interactive experimental approach to investigate tax research performance. It extends prior research by investigating the inﬂuence of self-efﬁcacy on tax research performance. This is the ﬁrst study to explore the self-efﬁcacy/performance link within the tax research domain. As such, it makes a positive contribution to both the self-efﬁcacy and tax research task literature.

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SELF-EFFICACY AND PERFORMANCE Self-efﬁcacy refers to the belief one has of the capability to perform speciﬁc tasks (Bandura, 1997). It is a well-researched and oft-validated construct with its origins in Social Cognitive Theory (Bandura, 1986). Self-efﬁcacy is similar to self-conﬁdence. Both constructs relate to the belief one has of one’s abilities. Self-efﬁcacy is more situational in nature than self-conﬁdence and could be described as task-speciﬁc self-conﬁdence. Self-efﬁcacy is a domain-speciﬁc, dynamic construct that changes over time as people acquire new information and experiences (Gist & Mitchell, 1992). It involves people’s belief in their capability to mobilize the motivation, cognitive resources, and courses of action needed to orchestrate performance on speciﬁc tasks (Wood & Bandura, 1989). Self-efﬁcacy inﬂuences the choices people make, the effort they put forth, how long they persist, and how they feel (Pajares, 2004). Research indicates that self-efﬁcacy is positively associated with people’s willingness to participate in tasks, expectations of success in such tasks, and persistence or effective coping behaviors when faced with task-related difﬁculties (Bandura, 1997). Social cognitive theorists and researchers have identiﬁed four sources of information that inﬂuence self-efﬁcacy (see Bandura, 1997, for more extensive discussion and support). The cognitive appraisal and integration of the data provided by these information cues ultimately determines self-efﬁcacy (Bandura, 1997; Gist, 1987). In decreasing order of value these include enactive mastery, vicarious experience, persuasion, and emotional or physical reactions. Enactive mastery is deﬁned as repeated performance accomplishments. An individual’s own performances are the most reliable guides for assessing selfefﬁcacy and have been shown to inﬂuence self-efﬁcacy more than other information cues. In general, successes raise self-efﬁcacy, and failures lower it. Vicarious experience (i.e., observational learning) is also beneﬁcial, though slightly less inﬂuential, than actual performance. Individuals frequently acquire efﬁcacy information by observing the performances of others. People who are similar (e.g., peers) offer the best basis for comparison (Schunk, 1987). Individuals who observe similar persons perform a task are likely to believe that they are capable of accomplishing it as well. Persuasion can also inﬂuence efﬁcacy perceptions in some situations, though it is viewed as less effective than enactive mastery or observing others. For example, individuals often receive encouraging information from parents, teachers, and peers that they are capable of performing a task.

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Positive persuasive information raises self-efﬁcacy, although this increase will be temporary if individuals subsequently perform poorly. Finally, individual perceptions of emotional or physiological reactions may also be used to assess performance capability. Strong emotional reaction to a task may provide information about anticipated success or failure. For example, high anxiety may reﬂect anticipated failure, while low anxiety may be interpreted as a sign of anticipated success. Individuals weigh, integrate, and evaluate information about their capabilities and then regulate their behavior accordingly (Gist, 1987). Previous studies have demonstrated a strong positive link between self-efﬁcacy and performance – people with high self-efﬁcacy for speciﬁc tasks typically outperform those with low self-efﬁcacy (e.g., Wood & Bandura, 1989). In fact, numerous meta-analyses have found self-efﬁcacy to be a powerful construct for predicting behavior ‘‘across diverse spheres of functioning’’ (Bandura & Locke, 2003, p. 87). For example, self-efﬁcacy has been found to be a signiﬁcant predictor of work-related performance (Stajkovic & Luthans, 1998; Sadri & Robertson, 1993), academic performance and persistence (Robbins, Lauver, Le, & Davis, 2004; Multon, Brown, & Lent, 1991), and athletic performance (Moritz, Feltz, Fahrbach, & Mack, 2000). In their discussion of self-efﬁcacy and causality, Bandura and Locke (2003, p. 87) state that ‘‘[t]he evidence from these meta-analyses is consistent in showing that efﬁcacy beliefs contribute signiﬁcantly to the level of motivation and performance.’’ In their response to the contention that selfefﬁcacy is merely a reﬂection of prior performance, Bandura and Locke (2003, p. 89) note that ‘‘[t]his claim has long lost its credibility by evidence from countless studies demonstrating that perceived self-efﬁcacy contributes independently to subsequent performance after controlling for prior performance and indices of ability.’’ In summary, the research studies cited above make a strong case that self-efﬁcacy has a causal impact on performance. Although prior studies have demonstrated that the positive relationship between self-efﬁcacy and performance is robust, certain variables may moderate this relationship. For example, Stajkovic and Luthans (1998), in a meta-analysis of 114 studies, demonstrated that task complexity moderated the relationship – the higher the task complexity, the weaker the relationship between self-efﬁcacy and performance. Tax research is a complex, multifaceted process. Therefore, it is important to investigate if the positive link between self-efﬁcacy and performance applies to the tax research domain. No previous study has addressed this issue. In addition, Bandura (2001) notes that self-efﬁcacy scales must be targeted to factors that have impact on

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the domain of functioning in order to yield a predictive relationship. Thus, it is also important to investigate whether the multidimensional tax research self-efﬁcacy scale developed by Schmidt and Karsten (2000) has predictive ability.

TAX RESEARCH SELF-EFFICACY Tax research self-efﬁcacy is a judgment of one’s ability to perform the speciﬁc tasks necessary to solve tax problems. The tax research process involves establishing facts and identifying issues, locating relevant authority, evaluating authority, developing conclusions and recommendations, and communicating research results (Karlin, 2003; Raabe, Whittenburg, Sanders, & Bost, 2003). To be effective, tax researchers must also understand the complex structure of tax law and know how to cite authority properly. These are the skills that are captured in the 32-item tax research self-efﬁcacy scale developed by Schmidt and Karsten (2000). This scale appears in Exhibit 1, with the 32 items arranged by skill category. In their study, Schmidt and Karsten (2000) advocated using a tax research self-efﬁcacy scale as a tool for both training diagnostics and outcomes assessment. They administered the instrument to two groups of students in their second undergraduate tax course, once at the beginning of the semester (pretest) and again six weeks later (posttest). The treatment group received additional training in tax law structure and completed two tax research exercises during the six-week test period. The control group received no additional tax research training and did not conduct any tax research exercises during the test period. All but one of the subjects had completed a tax research project in the ﬁrst tax course. Mean pretest self-efﬁcacy scores, as expected, were moderate for both groups with no signiﬁcant difference between the groups. For training diagnostic purposes, the 32 items of the tax research self-efﬁcacy scale were rank ordered based on their relative pretest means. The treatment group instructor used this ranking to determine what topics to highlight in a brief training session and to design some of the questions for the tax research exercises. To assess the outcomes of the treatment intervention, the mean posttest self-efﬁcacy score was compared to the mean pretest score for each group. The posttest score increased signiﬁcantly for the treatment group, while it decreased insigniﬁcantly for the control group. The authors concluded that the scale proved useful in identifying training needs and in assessing the outcomes of the treatment intervention.

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HYPOTHESIS Schmidt and Karsten (2000) demonstrated that their tax research selfefﬁcacy scale had a high reliability coefﬁcient (Cronbach’s a ¼ 94). Factor analysis also indicated that the scale captured the multiple dimensions of the tax research process. They did not, however, directly measure their subjects’ tax research performance. Thus, their study did not test the scale’s predictive ability. Bandura (1997, 2001) stresses that a self-efﬁcacy scale should demonstrate construct validity. He states that construct validation is a process of hypothesis testing, and that substantiation of predicted effects provides evidence of a scale’s construct validity. He further asserts that people with high self-efﬁcacy should differ from those with low self-efﬁcacy in distinct ways. For example, a high (low) level of domain-speciﬁc self-efﬁcacy should be associated with a high (low) level of domain-speciﬁc task performance. Bandura and Locke (2003, p. 89) underscore the fact that self-efﬁcacy contributes independently to subsequent performance after controlling for prior performance and ability. This principle assumes that a valid and reliable scale is used when measuring domain-speciﬁc self-efﬁcacy. The interitem reliability of a scale can be assessed statistically using Cronbach’s a or a similar procedure. The ability of a scale to predict behavior or performance provides evidence of its validity. As noted earlier, researchers have demonstrated that self-efﬁcacy is a signiﬁcant predictor of performance in a variety of domains (e.g., Robbins et al., 2004; Moritz et al., 2000; Stajkovic & Luthans, 1998; Sadri & Robertson, 1993; Multon et al., 1991). However, no one prior to this study has investigated the predictive ability of self-efﬁcacy within the tax research arena. Heeding Bandura’s call for hypothesis testing of predicted effects and based on prior research in other domains, we experimentally tested the following hypothesis: Hypothesis. Tax research self-efﬁcacy is a signiﬁcant predictor of tax research performance for novice tax accountants, after controlling for other performance-inﬂuencing factors.

RESEARCH METHOD Subjects The subjects for the experiment were 41 seniors and graduate accounting students at a mid-size state university. All 41 subjects had completed an

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introductory income tax course and conducted a tax research project in that course using the Web-based RIA Checkpoint commercial tax service. These students were novice tax accountants with similar course-related tax research experience and little or no professional work experience.1 Twenty-six subjects were enrolled in a Volunteer Income Tax Assistance (VITA) course. The remaining 15 subjects were enrolled in a tax research and planning course. Both courses were held in a computer laboratory, which facilitated the experiment. Participation in the experiment for the VITA students was voluntary, and each volunteer received $5 cash compensation. The students in the tax research and planning course participated in the experiment on the ﬁrst day of class as an in-class exercise and received points equivalent to a homework assignment. The VITA and tax research and planning students were very comparable. T-tests indicated no signiﬁcant differences between them on their mean tax research performance measure, self-efﬁcacy score, grade in the introductory tax course, overall GPA, or gender makeup. Self-Efficacy Measure The experiment took place in a computer laboratory. The subjects ﬁrst completed a questionnaire that contained the 32 items of the tax research self-efﬁcacy scale and some demographic and background questions. Unlike the scale in Exhibit 1, the items appeared in random order on the questionnaire with no headings. The questionnaire instructed the subjects to indicate the extent to which they believed they could perform each of the speciﬁed tasks using a 0–10 scale for each task. A graph illustrated the 11-point scale with endpoints of 0 (‘‘cannot do’’) and 10 (‘‘certain can do’’) and a midpoint of 5 (‘‘moderately certain can do’’). This 11-point response scale is consistent with Bandura’s (2001) scale-construction guidelines. The entire questionnaire took most subjects about six minutes to complete. A portion of the selfefﬁcacy measure section of the questionnaire appears in Exhibit 2. Overall, the 32-item self-efﬁcacy scale exhibited a high reliability coefﬁcient (Cronbach’s a ¼ 0.95). Individual scale items ranged from a low of 2.95 (evaluating committee reports) to a high of 6.71 (locating regulations and rulings). For hypothesis testing purposes, we used the mean response across all 32 items of the scale to measure the tax research self-efﬁcacy score for each subject. Thus, self-efﬁcacy scores could have ranged anywhere from 0 to 10. Because of their prior, though limited, experience with the tax research process, we expected the subjects to possess at least moderate levels of tax research self-efﬁcacy. As indicated in Table 1, self-efﬁcacy scores ranged from a low of 2.91 to a high of 8.63 with a (moderate) mean of 5.18.

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Exhibit 2. Tax Research Self-Efﬁcacy Measure. For each of the 32 statements below, indicate the extent to which you believe you can perform the speciﬁed task. Use the following 0–10 scale: 0 m Cannot do

1

2

3

4

5 6 m Moderately certain can do

7

8

9

10 m Certain can do

The following statements relate to your ability to conduct tax research: 1. ___I can describe how the Internal Revenue Code is organized 2. ___I can locate secondary tax authority that is relevant to a tax issue 3. ___I can evaluate the authoritative weight of congressional committee reports >>>>>>>>>>(skip to end of statements) 30. ___I can identify all tax issues related to a set of facts 31. ___I can communicate tax research results in a legal memorandum 32. ___I can provide the proper citation for tax-related court cases

DENNIS SCHMIDT AND REX KARSTEN

For example, if you believe you cannot do the speciﬁed task, record a response of 0. If you are 100% certain you can do the speciﬁed task, record a response of 10. If your belief is somewhere in-between, record a response of 1–9 based on the strength of your belief. Please indicate your responses on the blank line next to each statement.

Self-Efficacy and Tax Research Performance

Table 1. Variable Continuous Variables Tax research performancea Tax research self-efﬁcacyb