Andrew Belnap is an Assistant Professor of Accounting in the McCombs School of Business at the University of Texas at Austin. His research examines tax disclosure and tax enforcement issues, often in collaboration with key regulators, including the Internal Revenue Service and the Texas Comptroller of Public Accounts. His studies have been published in top accounting journals including the Journal of Accounting and Economics and the Review of Accounting Studies.
Are Tax Audits Bad for Business?
As individuals, we go through the annual routine of reviewing our finances for our taxes. That experience may bring up a question: what happens to businesses after they go through audits?
As an accounting researcher, I recently studied what those effects are and how they affect audited companies moving forward.
Alongside my co-authors, I used data from random tax audits of small businesses to examine the real effects of being subject to a tax audit. We discovered that audited companies are more likely to go out of business once the audit is complete. The effect is concentrated in businesses that underreport their taxes, although we found evidence that the administrative costs of an audit also negatively affect company survival more broadly.
Audits are a necessary component of the tax system, but understanding the causal effects of tax audits has been hampered by lack of data in addition to the fact that tax audits typically aren’t randomly assigned.
Among companies that survive, we find evidence that audits have adverse effects on future revenues but no effect on future wages, employment, or investment. Finally, our research team confirmed that tax audits have side benefits, causing businesses to make changes to improve their tax efficiency. These findings have important implications for policymakers.
The inflation Reduction Act was passed in August 2022, providing an additional $80 billion in funding to the IRS. Our research provides some exclusive evidence of the costs tax audits have on U.S. small businesses.