Three essays on taxation and corporate finance: evidence from Japan
We address three topics on the relationship between taxation and corporate decision-making. A feature of our study is that we use natural experiments in Japan for identification as well as unique data sets of Japanese corporations. This research framework allows us to provide new evidence for several research questions that are difficult to be studied under the tax systems or with data sets in other countries such as in the U.S. The first chapter examine the relationship between corporate tax asymmetries and high-risk investments. Economic theory dating to Domar and Musgrave (1944) suggests that the tax treatment of gains and losses can affect firms’ incentives to undertake high-risk investments. We take advantages of a 2002 tax reform in Japan as a natural experiment to test the theory. This tax reform introduced a consolidated taxation system (CTS). The CTS allows business groups to offset gains with losses across firms in the business groups. Thus, the CTS can mitigate disincentives in high-risk investments. We construct measures of investment risk using information on R&D. We estimate dynamic investment models with unique panel data of Japanese firms between 1994 and 2012. For identification, we use an IV strategy in a difference-in-differences framework or in a triple-differences framework. We provide evidence that the CTS increases R&D in line with Domar and Musgrave (1944). This finding suggests that mitigating tax asymmetries is an effective way to help encourage risk-taking. We also find evidence that the CTS encourages risk-sharing in business groups. These findings suggest that the asymmetries in the tax code have particularly important implications in countries where business groups are the prevailing organizational structures, because mitigating the tax asymmetries help encourage both risk-taking and risk-sharing. The second chapter examines the relationship between stock market listing and corporate tax aggressiveness. Recent literature argues that agency conflicts between shareholders and managers reduce corporate tax aggressiveness. Although stock market listing is a fundamental source of the agency costs, a dearth of widely available data prevents researchers from investigating how monitoring from stock markets affects tax aggressiveness. We use unique panel data that cover both publicly-traded (listed) companies and privately-held (unlisted) companies in Japan. To mitigate endogeneity concerns about the choice to list stocks on public equity markets, we use legal reforms in squeeze out as a quasi-natural experiment. We provide evidence that stock market listing decreases tax aggressiveness among companies whose ownership is concentrated. This result suggests that minority shareholders’ option to sell stocks in public markets reduces managers’ incentives to be tax aggressive. Our findings link a function of capital markets with public finance by demonstrating that financial developments can contribute to the effective collection of tax revenues. The third chapter examines the relationship between dividend taxation and stock selling as well as payout policy. A 2011 tax reform in Japan raised the top marginal tax rates on dividend income from 10% to 43.6% among individual investors whose ownership ratio is in between 3% to 5%. This tax reform creates an incentive for these investors to sell stocks to restrict their ownership stakes below 3%. We find clear evidence of such ownership adjustments. 51.9% of these investors sell stocks on average. The percentage is 86.1% when the ownership ratio is in between 3% to 3.1%. We further exploit this tax reform to examine whether investors’ tax preferences affect payout policy. In particular, those individual investors who retain stakes of at least 3% after the tax reform have an incentive to encourage firms to pay fewer dividends because dividends are less valuable for them. We find statistical evidence for this prediction. However, the impacts of taxes on dividend policy are not economically large.
University of Illinois - Urbana-Champaign
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University of Illinois at Urbana-Champaign