Dividend Taxes and Implied Cost of Equity Capital

34 Pages Posted: 8 May 2006

See all articles by Linda K. Krull

Linda K. Krull

University of Oregon

Oliver Zhen Li

National University of Singapore (NUS)

Date Written: 2005-05-23

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.

Suggested Citation

Krull, Linda K. and Li, Oliver Zhen, Dividend Taxes and Implied Cost of Equity Capital (2005-05-23). Journal of Accounting Research, Vol. 43, pp. 675-708, December 2005. Available at SSRN: https://ssrn.com/abstract=876685 or http://dx.doi.org/10.1111/j.1475-679X.2005.00186.x

Linda K. Krull

University of Oregon ( email )

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

Oliver Zhen Li

National University of Singapore (NUS) ( email )

Bukit Timah Road 469 G
Singapore, 117591
Singapore

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