Optimal Corporate Taxation Under Financial Frictions

Eduardo Davila and Benjamin Hebert

The Review of Economic Studies, 2023, vol. 90, issue 4, 1893-1933

Abstract: This article studies the optimal design of corporate taxes when firms have private information about future investment opportunities and face financial constraints. A government whose goal is to efficiently raise a given amount of revenue from its corporate sector should attempt to tax unconstrained firms, which value resources inside the firm less than financially constrained firms. We show that a corporate payout tax (a tax on dividends and share repurchases) can both separate constrained and unconstrained firms and raise revenue and is therefore optimal. Our quantitative analysis implies that a revenue-neutral switch from profit taxation to payout taxation would increase the overall value of existing firms and new entrants by $7\%$. This switch could be implemented in the current US tax system by making retained earnings fully deductible.

Keywords: Corporate taxation; Payout taxes; Dividend taxes; Financial frictions; G38; H21; H25 (search for similar items in EconPapers)
Date: 2023
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Related works:
Working Paper: Optimal Corporate Taxation Under Financial Frictions (2019)
Working Paper: Optimal Corporate Taxation Under Financial Frictions (2019)
Working Paper: Optimal Corporate Taxation under Financial Frictions (2017)
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Persistent link: https://EconPapers.repec.org/RePEc:oup:restud:v:90:y:2023:i:4:p:1893-1933.

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