Southern University College of Business E-Journal


The advent of SFAS 142 and IAS 36 regarding handling of asset impairment has spawned research into how these standards influence whether an impairment loss is recorded. Deferred tax items in China have three major components: temporary tax and financial reporting differences in depreciation; impairment losses; and previous losses, which can be carried forward for five years for tax purposes. While the temporary differences in depreciation typically defer taxes and create deferred tax liabilities, impairment losses and previous losses create deferred tax assets because they are not deductible in the current period for tax purposes. A deferred tax asset is created when a firm has overpaid its taxes and is due some form of tax relief sometime in the future when the previously non-deductible loss becomes deductible for tax purposes. A deferred tax asset is viewed as less desirable than a deferred tax liability since deferred tax liabilities result in lower taxable income in the current period, whereas deferred tax assets result in higher taxable income and higher taxes due in the current period. It is in general more desirable to delay paying taxes. In our previous research (Wang et al., 2016), we documented that publicly listed Chinese companies’ median GAAP effective income tax rate is 13% while the median cash effective income tax rate is 26%. This is less than optimal from a cash flow management standpoint. Many factors contribute to this result. In this research, we investigate the incentives of companies reporting impairment loss, and thus creating deferred tax assets, which lower accounting net income but typically do not lower taxable income. The goal of this study is to analyze how compensation and insider equity holdings affect impairment loss taking. Our process will include examination of many variables that could impact impairment loss decisions, including firm market value and size, compensation of and ownership percentages of various management groups, Board of Director and Board of Supervisor size and composition, asset mix, leverage and industry. We include all companies listed on the Shenzhen and Shanghai stock exchanges for the period 2011-2016. Chinese Accounting Standard No. 8 (CAS No. 8) prohibits the reversal of long-lived asset impairments to constrain managerial opportunism with respect to previously recognized impairment loss reversal. CAS No. 8 forbids the reversal of long-lived asset impairment losses only, while allowing the reversal of short-term asset impairment losses. Our analysis shows the influence of this differential treatment on firm impairment loss taking behavior.