Tax Policy, Capital Structure and Income Trusts

Abstract

This article analyzes the economic benefits and costs of the income trust vehicle for entrepreneurs organizing their business affairs. In doing so it examines the precise nature of the relationships between capital structure, income taxes and income trusts, reaching the conclusion that neither tax advantages nor corporate finance efficiencies alone are able to explain the market's recent enthusiastic response to income trusts. The article proceeds as follows. Abstracting from the role of taxation, Part II outlines the economic incentives entrepreneurs have for using debt financing in their capital structures. Part III focuses on the role of taxation in motivating entrepreneurs to choose debt financing. Part IV explains why entrepreneurs are motivated to select the most efficient organizational and capital structure for their businesses. Part V applies the foregoing analysis relating to economic efficiencies and tax advantages to the income trust phenomenon, in the process showingthat the tax advantages associated with income trusts cannot be understood without understanding the underlying economic efficiencies associated with debt financing, and that other economic efficiencies cannot be fully understood without contemplating the tax considerations associated with debt financing. Part VI concludes.