Book-Tax Conformity and Earnings Management: Insights from European One- and Two-Book Systems

ABTRACT

There is an ongoing debate in the U.S. about the effect of book-tax conformity on earnings management in consolidated statements. Although both one- and two-book systems are present in Europe, European data have not been used to contribute to this debate. In this study, we examine the influence of one- and two-book systems on earnings management using consolidated statements and single financial statements of European firm-years from 2004 to 2011. A one-book system is defined as a situation in which financial accounting income and taxable income are highly conformed, whereas a two-book system is characterized by differences between consolidated financial income and taxable income. We find that firms in one-book systems show significantly more (downward) earnings management in their consolidated statements than do firms in two-book systems. With these findings, we contribute to the U.S. policy debate on book-tax conformity and earnings management.

Keywords:  one-book system, two-book system, book-tax conformity, earnings management

Article Citation:

Christoph Watrin, Nadine Ebert, and Martin Thomsen (2014) Book-Tax Conformity and Earnings Management: Insights from European One- and Two-Book Systems. The Journal of the American Taxation Association: Fall 2014, Vol. 36, No. 2, pp. 55-89.