Sharing Risk with the Government: How Taxes Affect Corporate Risk Taking

72 Pages Posted: 4 Jan 2016 Last revised: 5 Feb 2016

See all articles by Alexander Ljungqvist

Alexander Ljungqvist

New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); Research Institute of Industrial Economics (IFN)

Liandong Zhang

Singapore Management University - School of Accountancy

Luo Zuo

Cornell University - Samuel Curtis Johnson Graduate School of Management

Multiple version iconThere are 4 versions of this paper

Date Written: December 2015

Abstract

Using 113 staggered changes in corporate income tax rates across U.S. states, we provide evidence on how taxes affect corporate risk-taking decisions. Higher taxes reduce expected profits more for risky projects than for safe ones, as the government shares in a firm’s upside but not in its downside. Consistent with this prediction, we find that risk taking is sensitive to taxes, albeit asymmetrically: the average firm reduces risk in response to a tax increase (primarily by changing its operating cycle and reducing R&D risk) but does not respond to a tax cut. We trace the asymmetry back to constraints on risk taking imposed by creditors. Finally, tax loss-offset rules moderate firms’ sensitivity to taxes by allowing firms to partly share downside risk with the government.

Suggested Citation

Ljungqvist, Alexander and Zhang, Liandong and Zuo, Luo, Sharing Risk with the Government: How Taxes Affect Corporate Risk Taking (December 2015). NBER Working Paper No. w21834. Available at SSRN: https://ssrn.com/abstract=2710466

Alexander Ljungqvist (Contact Author)

New York University (NYU) - Department of Finance ( email )

Stern School of Business
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HOME PAGE: http://pages.stern.nyu.edu/~aljungqv

National Bureau of Economic Research (NBER) ( email )

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Centre for Economic Policy Research (CEPR)

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European Corporate Governance Institute (ECGI)

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Research Institute of Industrial Economics (IFN) ( email )

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Liandong Zhang

Singapore Management University - School of Accountancy ( email )

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HOME PAGE: http://accountancy.smu.edu.sg/faculty/profile/150531/Liandong-ZHANG

Luo Zuo

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

349 Sage Hall
Ithaca, NY 14853
United States
607-255-4002 (Phone)

HOME PAGE: http://www.johnson.cornell.edu/Faculty-And-Research/Profile/id/lz352

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