Separating Auditor Provided Tax Compliance and Tax Planning Services: Audit Quality Implications

Motivated by the concerns legislators and regulators have expressed about recent growth in tax planning non-audit services (NAS) and its implications for investor protection, this study uses a unique hand-collected dataset that separates tax NAS into tax planning and tax compliance NAS to examine how audit quality is affected by these two types of tax NAS. We document that audit quality is unaffected by tax planning NAS, but find a positive relation between tax compliance NAS and audit quality. These findings are robust to a battery of sensitivity tests including accounting for decisions to purchase and disclose the breakdown of tax NAS. Overall, our findings are consistent with notion of engagement-level tax planning NAS not degrading audit quality, but suggest that the source of positive associations and knowledge spillovers between audit engagement-level tax NAS and audit quality documented in prior studies is attributable to tax compliance NAS. In additional tests, we find evidence that higher levels of tax planning NAS measured at both the audit office and national levels associated with reduced audit quality, while higher levels of tax compliance NAS are associated with higher audit quality. The former finding should be of interest to policy makers seeking to limit the provision of tax planning NAS to audit clients.