As covered today in the WSJ and NYT, tax reform is back on the table. This time, the reform isn’t just a small technical correction or a tweak to the personal rates. This time, tax reform is being presented as a sweeping proposal affecting both personal and corporate tax policy. There is a lot of thunder in the press, and a lot of claims of a “once in a generation opportunity”. But this isn’t tax reform’s first rodeo. A deeper concern than rhetoric about corporate tax burdens is how much companies really care about taxation. How have companies historically been affected by tax reform?
Luckily, we have a unique window into this question. Companies that meet the registration requirements of the Securities and Exchange Commission must file annual reports – so-called ‘10-Ks’ – that provide information on performance and status, including current and foreseeable risks and material factors. Critically, unlike executive surveys or pundits on the news, the statements in these 10-Ks are certified and attested to by both company officers and independent auditors under threat of criminal prosecution and civil litigation. Furthermore, while the law encourages disclosure, the incentives for firms are not one-sided. Through their annual reports, companies compete for capital by presenting themselves as a better investment opportunity than their competitors. They therefore strike a balance between presenting a pessimistic future full of potential risks, and an optimistic future absent any. Given these observations, we believe that 10-K annual reports provide comprehensive and realistic descriptions of firm and environment factors.
In recent research, we built a database of over 4.5 million regulatory references in 10-Ks and showed how we can use these references to track overall trends in the corporate environment. Over the past 20 years, we can see how many times registered companies have referenced tax-related acts. We can also look at how these references have been broken down between more comprehensive “reform” acts, like the 1986 Act, versus more specific or technical tax acts, like the Katrina Emergency Tax Relief Act or Oil Industry Tax Break Repeal Acts.
Figure 1 presents exactly this – the total number of references to tax-related acts, by type, over the last 20 years. The trend at first appears clear, with a sharp increase beginning for FY 2010 reports. These references largely represent the anticipation and aftermath of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, the American Taxpayer Relief Act of 2012, and the Protecting Americans from Tax Hikes Act of 2015.
But taxation is not the only consideration companies face. Our research showed that in 1995 firms were exposed to an average of 2.9 different regulating Acts per year. By 2015, this number had jumped to 7.5 unique Acts per firm per year. Taking this increase in overall regulatory exposure into account, we might instead ask “as a percentage of all regulatory reference, how much attention does tax get?”
Figure 2 presents this – the percentage of total regulatory references per year that are tax-related. It results in a much more nuanced answer to this question. Unlike the raw number of references shown in Figure 1, Figure 2 shows that the rate of tax references actually decreased during most of the 00’s. This largely reflects the increase of other regulatory activity, such as Gramm-Leach-Bliley, Sarbanes-Oxley, and the PATRIOT Acts. Then, beginning in 2010, the rate of reference to tax-related acts began to increase once more. This rate continued to increase through 2016, when nearly 1 out of every 100 regulatory references focused on taxation.
So, do companies really care about taxation? Taxation has been an increasingly important issue for registered companies over the last five years, even when adjusting for the baseline increase in disclosure across all types of regulation. Armed with this data, it’s easy to see that corporate attention toward taxes has steadily increased. This could mean that 2017 just might be the year tax reform really happens.