DEMOCRACY AND TAX AVOIDANCE

Abstract

The paper examines the impact of home country democracy on corporate tax avoidance. Specifically, it investigates how two aspects of democracy (political freedom and electoral democracy) are associated with corporate tax avoidance respectively. Political freedom reduces tax avoidance, as public scrutiny increases financial transparency risk of tax avoidance. Electoral democracy increases tax avoidance, as election increases campaign contribution which in turn increases tax avoidance. Further, the study finds that corruption control and social stability strengthen the negative association between political freedom and tax avoidance. Corporate tax complexity as percentage of overall tax complexity strengthens the positive association between electoral democracy and tax avoidance. Additional tests show shareholder protection and being a common law country weaken the negative association between political freedom and tax avoidance, and strengthen the positive association between electoral democracy and tax avoidance. Robustness checks using colony history as instrumental variable confirm the results.