THE IMPACT OF STOCK OPTION DEDUCTIONS ON THE TIMLINESS OF TAXABLE INCOME

Abstract

I investigate the impact of stock option deductions on the timelines of taxable income. Specifically, I examine how stock option deductions impact conservatism in taxable income, where “conservatism” refers to conditional and unconditional conservatism per Basu (1997). By using hand-collected option data from Graham, Lang and Shackelford (2004), I find that stock option deductions (a) do not impact the conditional conservatism of taxable income, (b) lead to greater unconditional conservatism in taxable income and (c) cause a negative relation between contemporaneous economic gains and taxable income. These findings suggest that actual taxable income, which includes stock option deductions, is a lower quality earnings measure than taxable income estimated solely from Compustat data, which excludes the impact of stock option deductions.