Abstract

http://ssrn.com/abstract=2024200
 
 

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As Certain as Debt and Taxes: Estimating the Tax Sensitivity of Leverage from State Tax Changes


Florian Heider


European Central Bank (ECB)

Alexander Ljungqvist


New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); Research Institute of Industrial Economics (IFN)

April 1, 2014

AFA 2013 San Diego Meetings Paper

Abstract:     
We use a natural experiment in the form of 121 staggered changes in corporate income tax rates across U.S. states to show that tax considerations are a first-order determinant of firms’ capital structure choices. Over the period 1990-2011, firms increase long-term leverage by 104 basis points on average (or $32.5 million in extra debt) in response to an average tax increase of 131 basis points. Contrary to static trade-off theory, the tax sensitivity of leverage is asymmetric: firms do not reduce leverage in response to tax cuts. Using treatment reversals, we find this to be true even within-firm: tax increases that are later reversed nonetheless lead to permanent increases in a firm’s leverage – an unexpected and novel form of hysteresis. Our findings are robust to various confounds such as unobserved variation in local business conditions, union power, or unemployment risk. Treatment effects are heterogeneous and confirm the tax channel: tax sensitivity is greater among profitable and investment-grade firms which respectively have a greater marginal tax benefit and lower marginal cost of issuing debt.

Number of Pages in PDF File: 75

Keywords: Capital structure, debt policy, leverage, leverage dynamics, taxes, trade-off theory, dynamic capital structure models, natural experiments

JEL Classification: G32

working papers series


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Date posted: March 18, 2012 ; Last revised: April 9, 2014

Suggested Citation

Heider, Florian and Ljungqvist, Alexander, As Certain as Debt and Taxes: Estimating the Tax Sensitivity of Leverage from State Tax Changes (April 1, 2014). AFA 2013 San Diego Meetings Paper. Available at SSRN: http://ssrn.com/abstract=2024200 or http://dx.doi.org/10.2139/ssrn.2024200

Contact Information

Florian Heider
European Central Bank (ECB) ( email )
Kaiserstrasse 29
Frankfurt am Main, D-60311
Germany
Alexander Ljungqvist (Contact Author)
New York University (NYU) - Department of Finance ( email )
Stern School of Business
44 West 4th Street, Suite 9-160
New York, NY 10012-1126
United States
212-998-0304 (Phone)
212-995-4220 (Fax)
HOME PAGE: http://pages.stern.nyu.edu/~aljungqv
National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
European Corporate Governance Institute (ECGI)
c/o ECARES ULB CP 114
B-1050 Brussels
Belgium
Research Institute of Industrial Economics (IFN) ( email )
Box 55665
Grevgatan 34, 2nd floor
Stockholm, SE-102 15
Sweden
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