Gross Profit Taxation Versus Distributed Profit Taxation and Firm Performance: Effects of Estonia’s Corporate Income Tax Reform

The University of Tartu Faculty of Economics and Business Administration Working Paper No. 81-2011

33 Pages Posted: 28 Mar 2011

See all articles by Jaan Masso

Jaan Masso

University of Tartu - Faculty of Economics and Business Administration

Jaanika Meriküll

University of Tartu - Faculty of Economics and Business Administration

Priit Vahter

University of Tartu - Faculty of Economics and Business Administration

Date Written: March 23, 2011

Abstract

Systems of profit taxation are undergoing continuous change and are subject to numerous studies. This paper estimates the effect of the corporate tax reform in Estonia in the year 2000, a reform that was unique anywhere. This reform nullified the taxation of retained earnings and retained the corporate income tax only on distributed profits. We estimate the effect of the reform on firms’ capital structure, liquidity, investments and productivity. The effect of the reform is identified by comparing the performance of Estonian firms that were affected with that of firms from Latvia and Lithuania, the two other Baltic states, which are economically fairly similar to Estonia and have correlated business cycles. We use firm-level financial data and the difference in differences and propensity score matching methods for our analysis. The results show that the corporate tax reform has resulted in increased holdings of liquid assets and lower use of debt financing; these results can be seen especially among the smaller companies affected by the liquidity constraints. These developments have contributed positively to firms’ survival during the recent global economic crisis. A positive effect on investment and labour productivity has also been found, especially among companies in the services sector. The results imply that distributed profit taxation schemes may have significant positive effects on economic development and firms’ survival.

Keywords: corporate income tax, capital structure, liquidity, investments, productivity, comparative economic development

JEL Classification: H25, H32, D22, O16

Suggested Citation

Masso, Jaan and Meriküll, Jaanika and Vahter, Priit, Gross Profit Taxation Versus Distributed Profit Taxation and Firm Performance: Effects of Estonia’s Corporate Income Tax Reform (March 23, 2011). The University of Tartu Faculty of Economics and Business Administration Working Paper No. 81-2011, Available at SSRN: https://ssrn.com/abstract=1793143 or http://dx.doi.org/10.2139/ssrn.1793143

Jaan Masso (Contact Author)

University of Tartu - Faculty of Economics and Business Administration ( email )

Narva Road 4-A110
Tartu 51009
Estonia
+ 372 7 375 842 (Phone)

Jaanika Meriküll

University of Tartu - Faculty of Economics and Business Administration ( email )

Narva Rd. 4-A214
Tartu 51009, 51009
Estonia

Priit Vahter

University of Tartu - Faculty of Economics and Business Administration ( email )

Narva Rd. 4-A214
Tartu 51009, 51009
Estonia

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