Impact of firms’ Internal Information Environment on Tax Avoidance

This research paper focuses on the impact of firms’ internal information environment on tax avoidance. It discusses the importance of good accounting management system, coordination between different departments, and the need to reduce tax risk and uncertainty. The paper also highlights the negative relation between tax smoothing for income purposes and tax avoidance. The research aims to ascertain the importance of internal information for tax avoidance and the role it plays in tax planning.

BAAFM PT8 – Independent Study for Accountants
Contents Page
Index 1
Declaration 2
Rationale for Study 3
Research Objectives 3
Research Questions 3 – 4
Literature review 5
Reference List 6
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Declaration
I declare that all materials included in this essay/report/project/dissertation is the end result of
my own work and that due acknowledgement have been given in the bibliography and
references to all sources be they printed, electronic or personal.
____________________
Name: Chai Yong Fuei
Student ID: UP837727
Date: 21.07.2017
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Impact of firms’ Internal Information Environment on Tax Avoidance
Rationale
Taxation is one of the most important concepts in case of economy of any country and affects
the revenue of the government considerably. Calculation of the correct amount of taxes and
paying of the same is one of the responsibilities of the citizens towards the government of a
country. Taxes are the only source of income that the government has. There are various
social and economic rules that the government has formed in this regard to make sure there is
seamless transfer of tax and people are not able to avoid paying of these taxes. In every
country tax plays an important apparatus that judges the flow of economy to the government
therefore the norms for tax collection and tax recovery have become very strict. Tax
avoidance and tax evasion are the two ways that firms employ to reduce their tax payments.
Tax evasion is an illegal way by which firms cover off their income to avoid paying the tax
and tax avoidance is a method by which the firm uses the gap in the law to avoid paying of
the taxes legally. Both are heavily practiced in today’s time, and therefore the government is
looking out for ways it can stop the acceleration of the same which is affecting the overall
financial growth of the economy (Gartland, 2017). Tax avoidance programs are legal in
nature and include smart moves by the firms to not pay the taxes legally. To practice effective
tax avoidance it is important that companies must have good knowledge about the various
taxation practices and laws and should be able to use the available information about the
company in that way, so that firms have to pay the least amount of tax. Taxation cost can
heavily reduce the overall income of any company and thus they follow such practices that
help in reducing their overall taxable income and thus accordingly they have to pay of fewer
taxes. This is how this concept flows, and is one of the major topics of debate because firms
are following legally ethical ways to avoid their tax implications but that is causing the
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government its overall flow of income. Thus the government needs
to think whether such practices of tax avoidance are allowed (Kohtamäki, 2017).
The internal information of the firms play a major role in tax planning and that plays a major
role in tax avoidance. If there is no adequate information that is available then companies
might end up losing tax cuts. It is difficult to coordinate the different department of the firm
for the sake of tax planning and sometimes the tax documentation might be so much that the
tax authorities will nullify the same. It is thus important that awareness must be there and all
departments must be coordinated to make sure that effective tax planning is done (Mayntz,
2017). However strangely in today’s time the presence of evidences states that the importance
of the internal information of the firm might end up affecting its tax avoidance capabilities.
Research Objectives
In this research paper we will try to understand how the internal information of any company
might affect its overall tax avoidance and what role does it play in it. The report will follow
the flow of information towards the concept of tax planning and that might end up affecting
its prospects of tax avoidance. Tax avoidance is legally practiced but there is a very thin line
between tax avoidance and tax evasion. Often while planning ethically people end up hiding
their income by unlawful means thus that must be avoided. We will also study the overall
role of the internal information in tax avoidance and judge the various aspects of the
information that is available on the basis of various parameters like availability, accessibility,
quality, importance to the firm in regard to the overall financials of the company. If the firm
employs high quality accounting information system it will be able to use the same to extract
high quality information accordingly (Minnis & Sutherland, 2017). The various aspects of
internal information have still been neglected in terms of tax planning but slowly its
importance is being established. If good information is not available, tax planning might not
be up to the mark, and that might affect the overall flow of data. It is difficult to establish
effective coordination of tax planning across business or geographical segments. There is
huge risk involved in the same as the firm documentation might not be able to prove the same
and hence that will bring the firm in worse position. It is thus important that internal
information must be properly regulated to avoid any kind of flow of such data from one
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source to another without regulation. For example Bayer has
suggested in its reports that it might take several years for it to provide Research and
development documentation and that has affected the overall tax standing of the company.
Moreover companies around the globe are facing issues in managing their transfer pricing
data, only 49 percent of all the countries globally flow their transfer pricing data through
automated systems rest all are still struggling with the same. So that is affecting their overall
standing in terms of tax prospects, if they don’t have proper documentation they will not be
able to prove their stand in front of the tax authorities. Thus the importance of effective
documentation and the use of proper accounting system to maintain the same are very vital
for any firm (Pape, 2017). The managerial decisions also pay an important role in case of the
same. Thus as much as it is important to identify the correct information that will help in tax
avoidance that must important it is to make sure that firms take necessary steps in
maintenance and documentation of the same. Even if the firms are able to do practice
effective tax planning that reduces their tax liability considerably, if they are not able to prove
the same in front of the taxation authorities through proper documentation it will increase
more risk for the firm. In this research paper the need and importance of the same will be
explained with support of examples and theories (Rodriguez & Kaczmarek, 2016).
• To ascertain the importance of the internal information of the firm for the prospects of
tax avoidance.
• To ascertain the need for good accounting management system that will help in
maintenance of the documentation related to the internal information system and will also
help in the flow of data from one department to others.
• The resilience that the firms put on tax avoidance to make sure that they end up
paying less taxes and how the government is effected by the same.
• The steps that the government has taken in recent times to reduce the tax evasion and
tax avoidance and the importance that it stress on documentation will be explained briefly.
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Research Questions:
The research questions forms the basis that decides the flow of the research paper. In this
assignment we will focus on certain aspects of tax avoidance and internal information
importance will be highlighted in the same. The basic questions will cover – coordination
requirements between the different departments of the organization. Most of the departments
practices decentralization in today’s world, as per which the information is not accumulated
and stored at a single place but is widespread across various locations on a rational basis. But
this information is not available to the managers and they often fails to locate the flow of the
same thus affect the tax planning that is done by the company (Werner, 2017). In case of
active businesses the level of interaction is very high but when it comes to businesses that
have been operating from many years and in which some departments ceases to exist, it
becomes difficult to trace the flow of information and document the same in that regard. Thus
decentralization of information on a rational basis and ascertaining that flow of data happens
accordingly is very important from the prospects of tax planning (Visinescu, Jones, &
Sidorova, 2017). And thus same will be discussed in this research paper, as on how the
companies can employ good accounting software that can help them in managing their data
effectively.
In case of tax planning there is presence of huge uncertainty as the tax rules and guidelines
are changing continuously, the government is always looking for rules and ways by which it
can prevent companies from avoiding their tax avoidance. It is thus important that while
planning for the tax elements the companies must see to it that the managers and the people
who are given this responsibility must have proper knowledge in that regard that will help
them in reducing the issues that they face with the tax department in terms of wrong tax rules
or lack of effective documentation (Trieu, 2017). Thus the research question can be on how
the managers can make sure that the level of uncertainty is reduced to acceptable level and
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they should make sure that they are employing experts who have
good knowledge of this field of study. Thus that will help in reducing the tax issues.
The tax avoidance planning also consists of tax risk. Tax risk occurs in case the management
is not able to prove their tax calculation on the basis of the taxable income that they have
shown; it might affect their business very badly and can cause them huge penalty. It is always
preferable that level of risk must be comprehended beforehand, and then tax planning must
be done. If there are two companies that have employed tax avoidance methods that have
reduced their liability to a certain level then out of the two company the company that have
better documentation and will be able to prove the department will have better chances of not
facing any issues (Maynard, 2017). Thus there is a significant level of risk that must be
avoided. And the research question will be formed on that regard ascertaining the ways by
which the company can avoid their risk elements.
Thus the research questions can be stated in the following ways-
What is the need of decentralization in case of tax avoidance and maintenance of the quality
of internal information of the company?
What are the ways in which the company can avoid the risk that is involved with tax planning
and management?
What are the methods that the company must follow if they want to reduce the high level of
uncertainty that is involved with tax planning?
How important it is for the companies to maintain quality internal information to satisfy the
needs of the department and what role it will play in tax avoidance is the most important
question that will be covered in this research paper.
Literature review:
A wide and elaborated research was conducted by Jafari Amine Isfahani (2014) that focused
on the corporate social responsibility of the companies around the globe to practice tax
avoidance. For his research he studied at least 92 firms and drew up a report on how effective
were these companies in suing their internal information for avoiding their taxes
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considerably. The results of his research stated that social
responsibility had on effect on tax avoidance. There was no connection between tax
avoidance and social responsibility (Trieu, 2017). It was important for the firms to make sure
that they were avoiding the taxes on ethical basis and this in no way made them non ethical
towards the government. Tax evasion was illegal but same cannot be said for tax avoidance.
But what was the responsibility of the government was to make sure that they were practicing
tax avoidance activities in such a way that they had proof for the same for the department. It
is thus important that they must have proper documentation in that regard. If they are not able
to proof the context on the basis of which they were avoiding the taxes that will become
unethical. Even if they have no social responsibility they were responsible to avoid the tax
disputes that might occur in case they practice wrong tax practices. That forms the basis of
the research that was done by Jafari.
Literature Review
Relation between Taxable income and Planning of Tax
A simple study was carried out a study to study the relation between the taxable
income and planning of tax avoidance based on the same and ascertaining the sensitiveness of
the information in that regard. This research was conducted to ascertain the smoothing effect
of tax avoidance on the overall profitability of the company. He also made investigation on
92 firms that were paying taxes and the main basis was the rate on which the taxes were paid
by the company. It was reflected that there was a negative relation between the tax smoothing
for income purposes and tax avoidance by applying different laws and principles. It was
stated in this regard that smoothing for tax purposes the income might end up lacking the
certainty for future tax advantages and provides the firm with abilities to implement better
taxation practices. It also stated that exists a negative relative between the smoothing of
information and the related information in that regard. It was highlighted that smoothing the
tax included income might end up reducing its overall information content that is related to it.
In this research, the author made a note on the various aspects of the information that is
related to the overall smoothing of information and taking necessary decisions in that regards.
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It highlights the issue that is associated with information related to
smoothing of information for the purposes of tax.
The managerial accounting research has struggled from previous ages on the lack of proper
information for tax purposes. Effective management accounting is important for managing
the level of internal information that is made available for the companies for tax purposes.
The basic issues that relate to the internal information like uncertainty, lack of proper source,
lack of proper acceleration might cause deviations in the overall tax planning for the
company. This effect the tax avoidance practices a lot and might cause overstatement or
understatement of income. There are few public proxies in this regard that deals with the
overall quality of the internal information that is available for the managers of the company.
Each of these proxies are discussed below in detail (Hanlon, 2010).
Use of Accounting Information System
Jennings 2012, states the importance of using sophisticated system of accounting for
maintaining the internal information and recording the same through accounting information
software. It paid resilience on coordination of the information and that helps in solving many
issues like increasing the accuracy, removing manual intervention, streamlining reporting of
information from time to time. Previously manual method of data collection and analysis was
followed but now with advent of technology the same has changed a lot and automatic
method of data retrieval has taken place. The companies must appoint experts to make
sure that there is no loss of data from such system, proper security is maintained. The data
must be entered into such system from regulated sources and then analysis of the same must
be done. There are not much issues while using such automatic system the major issue is with
security and training must be provided to employees to avoid the same. Else it is very fast and
very effective method that might help in collecting the data from various departments,
analyzing the same and converting them into such forms that they can be easily used by the
managers or the people who deal with the same (Jennings, Stoumbos, & Tanul, 2012)
Importance of management forecasts
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Second there was Williams 1996, which stated on the
importance of the management forecast accuracy. It is important that the managers trace the
sources of data on which the forecast is based. Management forecast is an important aspect of
tax avoidance and an important source of data also. There must be a positive correlation
between the information provided and the management forecasts. In this way, the managers
will be applied to rely on the information that has been provided from various sources if they
streamline the same to specific sources. This is how management forecasts helps in
maintaining the quality of the internal information available for tax purposes. It is important
that good quality information must be circulated so that while tax planning is done that
information must be taken into place. Thus it is important that the source form and method of
circulation of data must be traced so that in future there are no complications because of the
same. It is important that past data must be studied before making any future forecasts and
care must be taken in that regard. The managers of the company must be trained to study the
flow of information and take important decisions based on the same y (William, 1996).
Material weakness in Internal Information
Third article will involve Feng et al. (2009), that stated that if there any material
weakness in the internal control system that might affect the internal information very badly.
Material weakness might lead to error in the internal information that the organization is
using for the prospect of taxation purpose. Thus, care must be taken to remove all such
internal weakness from the system. Weakness might also lead to untimely weekly
information and the information might become stale. Information from different departments
might not be reported to the headquarters on time and then that might not be considered for
tax avoidance. Therefore, it is very important that proper audit of various control elements
must be done in the organization. It has also been stated that firms that are using good quality
ERP system will not be able to identify the material weakness very easily, thus it is important
that companies must take necessary steps to reduce the same. If there are huge material
weakness then that will lead to huge loss of investment that will be reflected in the overall tax
penalty of the company. Thus, we see how sensitivity of the internal information are related
to the position of the company and the actions of the management that are taken to maintain
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effective flow of the same. Other proxies that will be applied in this
case will consist of better environment analyst and better market analyst that will be a great
indicator of an effective external environment in which the company will operate (Root,
2011). It can thus be said that there is a strong connection between the internal and the
external environment in which the company is operating if one does not function the other
will also be affected. It is thus important that the overall quality of information that the
internal environment is having must be in synced with the information that the external
environment possess. This is how the organization can make sure that there are no issues in
the internal environment by making sure that it is in sync with the external environment and
based on the market research that has been done in that regard. A higher level of internal
information is a pre-requisite for error free external information that the analyst offers after
conducting the required level of research and development. These two are the most important
variable while designing the research study and effective analysis of the same on that regards
(Feng & Koch, 2010).
Conclusion and Recommendation
Thus, based on the above analysis it can be said that effective internal information
plays a very important role in maintaining the level of data that is used for the prospects of
tax avoidance. Companies while dealing with the same must keep some important point in
mind like maintaining the data accessibility and viability and it must be available from
secured sources. Timely audit must be done to make sure that there are no loopholes in the
internal management system which could lead to adulteration of the data. Effective tax
planning by taking necessary steps for maintain the quality of internal information can be
done by various methods that includes a) Resolving the uncertainty of the information
through better information acquisition b) coordination through various information
dissemination tools c) Reducing the overall risk that might be involved in taxation process.
The various theories and proxies that have been stated in the assignment can be used
accordingly to find the solutions to the issues that the company faces about maintaining the
quality of information. The focus of this paper is on tax avoidance and the companies should
see on how they can practice the same ethically. That will help in proofing the same in front
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of the departments and help them in proving their stand. The main
research objectives have been fulfilled stressing on important points related to the overall
flow of information, flow of data, assimilation of results and taking decisions accordingly
based on the same (Rezai, 2013). The basic recommendations that can be provided to employ
better and new methods that might help in keeping the data safe, securing the flow of data
from one source to another. Managers can be trained to use the data effectively that the
receive and make sure that it matches to their external environment in which the company
might be operating. Thus, based on all this we can say that better future prospects will be
there fueled by better decisions and that will help in keeping the information flowing and
maintain the authenticity of the information that will help the company in practicing better
taxation avoidance practices. This will help the company in paying of taxes ethically without
any malpractices in that regard.
Few other sections that are relevant to this research will help in ascertaining the
importance of taxation policies about the tax avoidance practices. It is very important that
companies must follow various accounting policies and accounting practices that will help
them in tax planning in an innovative way. Tax planning is a very wide field and the
companies must employ experts that can help them in this regard. The importance of the
internal information of the companies has been stated clearly in this research paper and all the
companies must pay heed to the same. The above discussed issues must be taken care of and
then the company will be in a good position economically and will be able to avoid the level
of taxes that the company must pay to the government. Thus, various taxation provisions
must be studied in detail, the rules of the government in that regard must be studied and then
the managers must go forward with making better analysis and better forecasts and making
the tax avoidance planning based on the same (Blessings, 2010). The most conclusive thing
from this research paper is how the companies can go forward and take necessary steps in
that regard that will help them in maintain the effectiveness of their information and make
sure to use it economically.
This research is good in ways as it highlights the major issues that the companies are
facing with respect to tax avoidance and sometimes fails to identify the thin line between tax
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avoidance and tax evasion (Mullineus, 2014). This research
highlights the basic issues that company faces with respect to maintaining the quality of the
information that the internal environment must offer, and make sure that the external
environment is in sync with the same. The research consists of various articles with respect to
the same, that supports the stand of the company in that respect. The uniqueness is there in
the points highlighted and the support documents in respect to the same.
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