Ethical concerns of insider trading litigation: Evidence from corporate tax avoidance

This study investigates whether firms headquartered within the jurisdiction of the US Second Circuit engage in more or less tax avoidance following the change in insider trading litigation risk resulting from the decision in United States v. Newman (773F.3d 438, 2014) (Newman). This decision affected both the potential liability of and the deemed personal benefit accruing to insider securities traders and represents one of the more significant shocks to insider trading law over the past three decades. For a sample of 25,853 firm-year observations from 2009 to 2019, we find that firms headquartered in Circuit Two in the United States exhibit significantly higher levels of tax avoidance following the outcome of the Newman case. These findings are consistent across a series of robustness tests that include two placebo tests, propensity score matching and models that use alternative periods and measures of tax avoidance. The Newman case appeared to exacerbate agency effects by facilitating the managerial pursuit of tax avoidance arrangements. Hence, we expand our understanding of the agency effects around information asymmetry and opportunistic managerial behaviour on the propensity of firms to engage in tax avoidance. JEL Classification : G30, H20