Communicating Information Beyond the Tax Footnote: Effective Tax Rate Forecasts in the MD&A

I investigate management’s decision to voluntarily provide an effective tax rate (ETR) forecast in the Management Discussion and Analysis (MD&A) section of form 10-K. I find that managers are more likely to initiate and continue providing tax rate guidance in the MD&A when the firm has (1) greater foreign operations, (2) prior period M&A activity, and/or (3) larger special items. These results hold after controlling for a firm’s level of tax aggressiveness, which prior studies show is associated with the voluntary disclosure of tax-related information. These results are consistent with managers providing additional information in the MD&A when there is more demand from financial statement users for such information. In addition, although I find that managers’ MD&A ETR estimates are conservative, I find that they are more accurate in predicting the subsequent year’s ETR than forecasts generated using information from current and prior year ETRs. Accordingly, these results lead to a better understanding of firms’ use of the MD&A to communicate tax-related information incremental to the income tax footnote