Capital Gains Taxes and Risk with a Fixed Supply of Risky Assets

17 Pages Posted: 11 Jul 2014

See all articles by David A. Guenther

David A. Guenther

University of Oregon - Department of Accounting

Brian Williams

Indiana University - Kelley School of Business - Department of Accounting

Date Written: July 8, 2014

Abstract

Economic theory has long argued that when risk-averse investors are price-takers, a tax on risky returns (with full tax benefit for losses) will cause investments in risky assets to increase because the tax reduces after-tax risk. We extend this result to a setting with a fixed supply of risky assets, so that the increased demand due to lower after-tax risk leads to an increase in price and a decrease in pre-tax returns. In this setting the tax-induced increase in demand for risky assets is mitigated by the lower pre-tax returns, and the increase is much smaller than predicted by previous models. Our results have important implications for understanding how taxes affect investor behavior and for studies in accounting that examine the effect of taxes on investments in risky assets.

Keywords: Risky assets; capital gains taxes; taxes and risk

Suggested Citation

Guenther, David A. and Williams, Brian, Capital Gains Taxes and Risk with a Fixed Supply of Risky Assets (July 8, 2014). Available at SSRN: https://ssrn.com/abstract=2464267 or http://dx.doi.org/10.2139/ssrn.2464267

David A. Guenther

University of Oregon - Department of Accounting ( email )

Lundquist College of Business
1208 University of Oregon
Eugene, OR 97403
United States
541-346-5384 (Phone)

Brian Williams (Contact Author)

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States

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