Real Effects of Tax Uncertainty: Evidence from Firm Capital Investments

Abstract

This paper examines whether tax uncertainty can alter investment decisions, focusing primarily on the timing of large capital investments. Empirically, we exploit the staggered implementation of Schedule UTP, a discrete policy change expected to increase tax uncertainty, finding that, on average, firms responded by delaying large capital investments. This effect is stronger among firms where the policy treatment is particularly germane, for firms with more material UTBs or with low to moderate quality public accounting information. We also test the underlying mechanism, finding that managers buffer against higher tax uncertainty with cheaper sources of financing (cash), and that the investment effect is concentrated among financially constrained firms. The results show that Schedule UTP also reduces the sensitivity of investment to growth opportunities (investment-Q sensitivity) in line with a higher hurdle rate for firms facing higher tax uncertainty.

Keywords: capital investment, large investment, tax uncertainty, financial constraints, Schedule UTP, FIN 48

JEL Classification: D81, G11, H25