Taxing Risky Investment

21 Pages Posted: 31 Oct 2003

See all articles by Michael P. Devereux

Michael P. Devereux

Centre for Business Taxation, Oxford University; CESifo (Center for Economic Studies and Ifo Institute); Institute for Fiscal Studies (IFS); Centre for Economic Policy Research (CEPR); University of Oxford - Said Business School; University of Oxford - Said Business School

Date Written: September 2003

Abstract

This Paper re-examines the impact of capital income taxes on the incentive to invest in the presence of risk. Specifically, it challenges a well-known claim in the literature that such a tax can leave incentives 'basically unaffected' because the tax liability is offset by a reduction in the post-tax risk of the investment. The Paper argues that this claim is based on a misinterpretation of the cost of capital, and that in general the cost of capital is not helpful in assessing investment incentives in the presence of risk. Instead it proposes an alternative measure, based on the market value of the pre-tax stochastic cash flows. This measure indicates that the disincentive effect of capital income taxes can be substantial.

Keywords: Capital income tax, investment

JEL Classification: E22, H25, H32

Suggested Citation

Devereux, Michael P., Taxing Risky Investment (September 2003). CEPR Discussion Paper No. 4053. Available at SSRN: https://ssrn.com/abstract=463700

Michael P. Devereux (Contact Author)

Centre for Business Taxation, Oxford University ( email )

Said Business School
Park End Street
Oxford, OX1 1HP
United Kingdom
+44 1865 288507 (Phone)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Institute for Fiscal Studies (IFS) ( email )

7 Ridgmount Street
London, WC1E 7AE
United Kingdom

Centre for Economic Policy Research (CEPR)

London
United Kingdom

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain

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