A new study finds that publicly-traded companies that disclose more numbers related to what they pay in taxes improve their transparency, allowing the market to make more informed investing decisions. The finding highlights an exception to previous work that suggested including more numbers – not just tax numbers – in financial statements can create a muddled picture for investors.

“Previous work found that when a company includes more numbers in its annual report financial statement, the statement becomes so complex that investors find it difficult to process,” says Carly Burd, author of the study and an assistant professor of accounting in North Carolina State University’s Poole College of Management. “For this study, I wanted to focus specifically on numbers related to the wide variety of transactions a company engages in that can affect tax outcomes. And when I looked solely at those tax numbers, I found that the numbers actually contribute to clarity for investors.

“However, we found that there are tradeoffs when a company chooses to provide an in-depth view of the numbers.”

For the study, Burd made use of eXtensible Business Reporting Language (XBRL) – a machine-readable language that tags numeric items in financial statements in a standardized way that makes it possible to conduct analyses across multiple companies and statements. Specifically, Burd used XBRL to assess tax numbers in financial statements from 7,944 annual reports, spanning 2,099 companies, from 2012-2019.

An analysis of XBRL definitions allowed Burd to determine which tags were associated with transactions that affect a company’s tax position and related outcomes. By focusing on those tags, she was able to calculate the volume of tax-related numbers in each of the 7,944 financial statements. Burd then used a regression analysis to determine what might be driving the differences in reported tax-related numbers across companies.

“One key finding was that the more tax numbers there were in a financial statement, the more transparent the firm was,” says Burd. “That transparency, in turn, allowed analysts to more accurately forecast a company’s effective tax rate.

“Interestingly, the analysis shows that most of the tax numbers that contribute to transparency were included in footnotes, rather than in the main body text of the financial statements.”

Burd also examined the use of narrative in financial statements, in which companies used descriptive language rather than numbers to convey information about transactions that affected tax outcomes.

“The use of narrative information did not decrease transparency, but it didn’t improve transparency either – it essentially had no effect at all,” Burd says.

But while the use of tax numbers did boost transparency, there was a tradeoff.

“I found that the more tax numbers included in a financial statement, the more attention the statement drew from the IRS,” says Burd. “Specifically, statements containing more tax numbers were more likely to be downloaded by IRS employees.

“The big take-away here is that incorporating standardized, comparable numbers related to a company’s tax position can be very valuable for providing transparency that has real value for investors,” says Burd. “This is an important nuance given the previous work that found including too many numbers – beyond tax numbers – contributed to complexity and investor confusion.”

The paper, “Tax Numbers and ETR Forecasting,” is published open access in the journal Review of Accounting Studies.