Political Connections, Financial Constraints, and Corporate Taxation

Abstract We find that the effect of political connections on tax planning depends on firms’ financial conditions. After increased political connections, financially unconstrained firms increase tax planning and spending on tax services, as documented in prior studies, whereas constrained firms decrease tax planning and spending on tax services. Moreover, decreases in tax planning are only present for constrained firms that obtain new bank loans and public debt and when the connected politicians serve on banking-related committees. Our results suggest that by facilitating access to external financing, political connections reduce financially constrained firms’ use of tax planning as an internal financing tool.