Taxes and Valuation: Evidence from Dividend Change Announcements

55 Pages Posted: 28 Jul 2005

See all articles by Oliver Zhen Li

Oliver Zhen Li

National University of Singapore (NUS)

Multiple version iconThere are 2 versions of this paper

Date Written: July 2005


I test whether and how shareholder income taxes affect the market response to dividend surprises. Under the US tax system, dividends are historically taxed at a higher rate than capital gains and thus receive a tax-related penalty. I provide evidence that the dividend tax penalty partially offsets the positive signaling and agency cost effects of dividends, and that the presence of tax advantaged institutional investors, proxied for by institutional ownership and the frequency of institutional trading, mitigates the negative dividend tax effect. My results support the notion that taxes impact valuation. I contribute to the literature by separating dividends' negative tax effect from their positive signaling and agency cost effects. My analysis also suggests that in event study settings, the frequency of institutional trading may be a more reliable proxy for investor tax attributes than institutional ownership.

Keywords: Tax, Dividend tax capitalization, Institutional investors, Tax regime change

JEL Classification: H24, G35, G12, G34

Suggested Citation

Li, Oliver Zhen, Taxes and Valuation: Evidence from Dividend Change Announcements (July 2005). Available at SSRN: or

Oliver Zhen Li (Contact Author)

National University of Singapore (NUS) ( email )

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Singapore, 119228

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