Do Tax Holidays Increase Expectations of Future Tax Holidays: An Examination of Debt Issuances Pre- and Post-AJCA

34 Pages Posted: 6 Oct 2016

See all articles by Tripp Petzel

Tripp Petzel

Virginia Polytechnic Institute & State University - Pamplin College of Business

Debra Salbador

Virginia Polytechnic Institute & State University - Department of Accounting and Information Systems

Date Written: October 3, 2016

Abstract

We examine the relation between a firm’s level of permanently reinvested earnings and its likelihood to issue debt to fund its investments and operations. Pecking order theory predicts that firms will use internal funds over external funds, if internal funds are present. Permanently reinvested earnings are a subset of a firm’s internal funds. Financial accounting rules allow firms to include these foreign earnings on their financial statements as earned without recognizing the associated tax expense. Thus, firms may be inclined to accept the risk associated with debt rather than repatriate funds and bear financial reporting costs.

Using the repatriation holiday created under the 2004 American Jobs Creation Act as a partitioning event, we find that a firm’s likelihood to issue debt is significantly influenced by its level of permanently reinvested earnings, but only in the post-AJCA tax holiday period. These results suggest that (1) firms consider tax and financial reporting costs when deciding whether to issue debt or repatriate funds and (2) there is an expectation for future tax holidays on repatriations. Furthermore, the results suggest the predictions of pecking order theory may not strictly hold when financial reporting and tax rules are taken into account.

Keywords: American Jobs Creation Act, permanently reinvested earnings, taxes, pecking order theory

Suggested Citation

Petzel, Tripp and Salbador, Debra, Do Tax Holidays Increase Expectations of Future Tax Holidays: An Examination of Debt Issuances Pre- and Post-AJCA (October 3, 2016). Available at SSRN: https://ssrn.com/abstract=2847242 or http://dx.doi.org/10.2139/ssrn.2847242

Tripp Petzel (Contact Author)

Virginia Polytechnic Institute & State University - Pamplin College of Business ( email )

1016 Pamplin Hall
Blacksburg, VA 24061
United States

Debra Salbador

Virginia Polytechnic Institute & State University - Department of Accounting and Information Systems ( email )

Pamplin College of Business
Blacksburg, VA 24061
United States

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