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Curbing Corporate Debt Bias

Ruud de Mooij and Shafik Hebous

No 2017/022, IMF Working Papers from International Monetary Fund

Abstract: Tax provisions favoring corporate debt over equity finance (“debt bias”) are widely recognized as a risk to financial stability. This paper explores whether and how thin-capitalization rules, which restrict interest deductibility beyond a certain amount, affect corporate debt ratios and mitigate financial stability risk. We find that rules targeted at related party borrowing (the majority of today’s rules) have no significant impact on debt bias—which relates to third-party borrowing. Also, these rules have no effect on broader indicators of firm financial distress. Rules applying to all debt, in contrast, turn out to be effective: the presence of such a rule reduces the debt-asset ratio in an average company by 5 percentage points; and they reduce the probability for a firm to be in financial distress by 5 percent. Debt ratios are found to be more responsive to thin capitalization rules in industries characterized by a high share of tangible assets.

Keywords: WP; dependent variable; TCR rule; Corporate tax; capital structure; debt bias; thin capitalization rule; interest deductibility; TCR variable; so-called thin capitalization rules; EBITDFA percentage; debt-asset ratio; tcrs in industry; uniform tcrs; TCR type; Corporate income tax; Thin capitalization rules; Financial statistics; Global (search for similar items in EconPapers)
Pages: 20
Date: 2017-01-30
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Citations: View citations in EconPapers (5)

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