Pouring Oil on Fire: Interest Deductibility and Corporate Debt
43 Pages Posted: 14 Jan 2019
Date Written: December 2018
This paper investigates the role of tax incentives towards debt finance in the buildup of leverage in the nonfinancial corporate (NFC) sector, using a large firm-level dataset. We find that so-called debt bias is a significant driver of leverage, for both small and medium-sized enterprises and larger firms, with its effect accounting for about a quarter of leverage. The strength of this effect differs with firm size, the availability of collateral, income and income volatility, cash flow, and capital intensity. We conclude that leveling the playing field between debt and equity finance through tax policy reform would decrease NFC leverage, reducing economic risks posited by leverage.
Keywords: Tax incentives, Tax policy, Corporate debt, Corporate income taxes, Leverage, Debt Bias, Corporate Income Tax, SMEs, Micro data, Business Taxes and Subsidies, Incidence, Firm Behavior: Empirical Analysis
JEL Classification: H25, H22, D22, G32, H32
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