Auditor-provided tax services and 'last-chance' earnings management: The importance of audit committees

Date of Completion

January 2008


Business Administration, Accounting




At present, regulators do not prohibit auditors from providing tax services to their public audit clients, provided that these services are pre-approved by clients' audit committees. This paper examines whether the association between auditor-provided tax services and 'last-chance' earnings management (i.e., earnings management in tax expense to avoid falling short of analyst forecasts) varies with audit committee effectiveness. I develop a composite proxy for audit committee effectiveness by combining six audit committee characteristics: committee size, meeting frequency, whether the committee chair is an accounting expert, the proportion of members with financial experience, the average number of other boards committee members sit on, and the average board tenure of committee members. My findings suggest that auditor-provided tax services are negatively (positively) associated with 'last-chance' earnings management when audit committees are more (less) effective. These results are consistent with the knowledge spillover effect of auditor-provided tax services dominating (being dominated by) the independence impairment effect when audit committees are more (less) effective. ^