Book-tax conformity, earnings persistence and the association between earnings and future cash flows
Calls for eliminating differences between accounting earnings and taxable income in the US have been debated extensively. Proponents of increased book-tax conformity argue that tax compliance will increase and earnings quality will improve. Opponents argue that earnings quality will decline. We examine whether the level of required book-tax conformity affects earnings persistence and the association between earnings and future cash flows. We develop a comprehensive book-tax conformity measure and find that earnings have lower persistence and a lower association with future cash flows when conformity is higher. Our evidence suggests that increased book-tax conformity may reduce earnings quality.
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