Abstract

The purpose of this paper is to evaluate the association between tax lawsuits and credit rating. Further by comparing the firms engaging in aggressive tax avoidance with those not, we test whether the degree of tax avoidance has different effect on the association between tax lawsuits and corporate credit rating. Credit rating, provided by a credit rating agency, represents the agency’s opinion on the future credit risk of a debt or financial obligation using a ranking system. The credit rating provided by the rating agencies are utilized by market participants as an indicator for assessing firm’s current and future financial stability. Therefore we feel that it would be interesting to understand the association between the tax avoidance activity and the corporate credit rating. We approach the tax lawsuits as one of the corporate tax decisions. If tax lawsuit is used a method of tax avoidance, it may decrease the quality of earnings and deteriorate the transparency of the financial statements. Given that debt holders have strong interest in the fixed claimants, their interest to the result of tax lawsuit would be more on the risk aspect rather than cash savings effect. Therefore, tax litigation may act negatively to credit ratings. For this paper, our test use collected sample of nearly 191 firm year of Korea publicly traded firms in the period 2001－2014. We find that tax lawsuit and credit rating have negative association with significance. Further, we have tested whether the magnitude of the tax avoidance has different effect on the association between tax lawsuits and credit rating. The result shows that firms that engage in tax aggressiveness display a stronger negative association on the credit rating.

Keywords

• Tax lawsuit
• Tax avoidance
• Credit score
• Credit rating10

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