Does Corporate Tax Aggressiveness Influence Audit Pricing?

Abstract

We evaluate whether, and under what circumstances, corporate tax aggressiveness influences audit pricing. Using a compound measure of two long-run effective tax rates, we find that tax-aggressive firms pay higher fees for external audit services after controlling for factors related to earnings management. The fee premium increases with management’s uncertainty about the sustainability of tax positions if audited by tax authorities (i.e., disclosed tax reserves). Further, the provision of auditor-provided tax services may create knowledge spillovers that alleviate the fee premium for tax aggressiveness, unless tax uncertainty is high. Finally, an accounting firm’s industry expertise in auditing is associated with higher audit fees independent of tax aggressiveness, whereas industry expertise in taxation leads to a fee premium only for tax-aggressive clients. Overall, the evidence implies firms’ aggressive tax behavior, tax services provider, and auditor expertise interact to influence the pricing of audit engagements.

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