Earnings manipulation: cost of capital versus tax. A commentary

The paper by Eilifsen, Knivsfla and Saettem, in this issue of the journal, provides some interesting research results in the field of accounting and taxation. Contrary to most European research in this area, Eilifsen, Knivsflå and Saettem apply a theoretical, deductive, model-based approach in the positive accounting tradition, and reach the somewhat provocative conclusion that linking taxable income to accounting income reduces managers' incentives to manipulate (overstate) earnings. Their theoretical results, supporting a view of the link between taxable income and accounting income as an automatic safeguard against overstatements of earnings, is a meritorious contribution to the current debate. For example, their results should be of interest for legislators and other authorities who consider a change to less dependence between accounting and taxation. However, from my perspective, the paper by Eilifsen, Knivsflå and Saettem also gives rise to some criticism related to (i) the use of a model-based approach, and (ii) the applicability of the earnings manipulation approach.