Dividend Taxes and Implied Cost of Equity Capital

Posted: 5 Jul 2005

See all articles by Dan S. Dhaliwal

Dan S. Dhaliwal

University of Arizona - Department of Accounting

Linda K. Krull

University of Oregon

Oliver Zhen Li

National University of Singapore (NUS)

William J. Moser

Miami University

Abstract

We estimate firm level implied cost of equity capital based on recent advances in accounting and finance research and examine the effect of dividend taxes on the cost of equity capital. We investigate whether dividend taxes affect firms' cost of capital by testing the relation between the implied cost of equity capital and a measure of the tax-penalized portion of dividend yield, which we define as the product of dividend yield and the dividend tax penalty. The results generally support the dividend tax capitalization hypothesis. We find a positive relation between the implied cost of equity capital and the tax-penalized portion of dividend yield that is decreasing in aggregate institutional ownership, our proxy for tax advantaged investors. The evidence in this study adds to the understanding of the effect of investor-level taxes on equity value.

JEL Classification: G12, G35, H34, H25, G23

Suggested Citation

Dhaliwal, Dan S. and Krull, Linda K. and Li, Oliver Zhen and Moser, William J., Dividend Taxes and Implied Cost of Equity Capital. Journal of Accounting Research, December 2005. Available at SSRN: https://ssrn.com/abstract=752944

Dan S. Dhaliwal

University of Arizona - Department of Accounting ( email )

McClelland Hall
PO Box 210108
Tucson, AZ 85721
United States

Linda K. Krull

University of Oregon ( email )

1208 University of Oregon
Eugene, OR 97403-1208
United States
541-346-3252 (Phone)

Oliver Zhen Li (Contact Author)

National University of Singapore (NUS) ( email )

Bukit Timah Road 469 G
Singapore, 117591
Singapore

William J. Moser

Miami University ( email )

2027 Farmer School of Business
800 East High Street
Oxford, OH 45056
United States
513-529-8284 (Phone)

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