The Financial Reporting Consequences of Last Chance Earnings Management

ABSTRACT Given its opacity and the timing of its closure, the tax expense represents a theoretically and intuitively plausible mechanism for managers to manipulate earnings to achieve performance benchmarks (i.e., last chance earnings management or LCEM). Although empirical analyses of effective tax rates are consistent with the existence of this behavior, its consequences are unclear. We investigate whether LCEM is associated with lower financial reporting quality. Contrary to our expectations, we fail to find evidence that LCEM is associated with tax‐related misstatements, tax‐related comment letters, or tax accrual quality with scaled confidence intervals reliably near zero. In cross‐sectional tests, we also fail to find a consistent association in subsamples where LCEM is more likely to represent impaired financial reporting quality. Collectively, our results should caution researchers using LCEM as a proxy for impaired financial reporting quality.