48 Pages Posted: 25 Oct 2007 Last revised: 24 Oct 2010
Date Written: October 1, 2010
In this paper we examine the impact of major dividend tax changes in the U.S. since 1980 on corporate investment. We find that dividend taxation has a significant effect on firm-level investment, and the effect crucially depends on the firm's cash-richness. A dividend tax cut tends to stimulate cash-poor firms' investment. But such stimulating effect weakens for firms that are cash-rich. The most cash-rich firms can even decrease their investment following a dividend tax cut, which may be due to their incentive for inter-temporal tax arbitrage in anticipation of tax changes. Our study suggests that future policy making on dividend taxation and the empirical assessment of the policy impact should take into serious consideration the heterogeneity in firms' cash positions. Dividend tax increases may generate little impact on aggregate investment in the short run. But it may have negative impact on the long-run economic growth by disproportionately harming startup firms and fast-growing young firms that are likely to be cash-poor.
Keywords: corporate investment, dividend taxation, personal income tax, financing margin, marginal source of fund, cash
JEL Classification: G31, G32, H24
Suggested Citation: Suggested Citation
Frank, Murray Z. and Singh, Rajdeep and Wang, Tracy Yue, Personal Income Taxes and Corporate Investment (October 1, 2010). AFA 2010 Atlanta Meetings Paper; 5th Annual Conference on Empirical Legal Studies Paper. Available at SSRN: https://ssrn.com/abstract=1024530 or http://dx.doi.org/10.2139/ssrn.1024530