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Capital Gains Tax Overhang and Price Pressure

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  • LI JIN
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    Abstract

    I study whether the capital gains tax is an impediment to selling by some investors and if so, to what degree associated delayed selling affects stock prices. I find that selling decisions by institutions serving tax-sensitive clients are sensitive to cumulative capital gains, a pattern not observed for institutions with predominantly tax-exempt clients. Moreover, tax-related underselling impacts stock prices during large earnings surprises for stocks held primarily by tax-sensitive investors. The corresponding price reactions are less negative (more positive) with higher cumulative capital gains. This price pressure pattern is more severe when arbitrage is more costly. Copyright 2006 by The American Finance Association.

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    File URL: http://www.blackwell-synergy.com/doi/abs/10.1111/j.1540-6261.2006.00876.x
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    Bibliographic Info

    Article provided by American Finance Association in its journal The Journal of Finance.

    Volume (Year): 61 (2006)
    Issue (Month): 3 (06)
    Pages: 1399-1431

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    Handle: RePEc:bla:jfinan:v:61:y:2006:i:3:p:1399-1431

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    Cited by:
    1. JOhnny Kang & Tapio Pekkala & Christopher Polk & Ruy Ribeiro, 2011. "Stock prices under pressure; How tax and interest rates drive returns at the turn of the tax year," FMG Discussion Papers dp671, Financial Markets Group.
    2. Harry Huizinga & Johannes Voget & Wolf Wagner, 2012. "Capital Gains Taxation and the Cost of Capital: Evidence from Unanticipated Cross-Border Transfers of Tax Bases," Tinbergen Institute Discussion Papers 12-100/IV/DSF39, Tinbergen Institute.
    3. Andrew Ellul & Chotibhak Jotikasthira & Christian T. Lundblad & Yihui Wang, 2012. "Is Historical Cost Accounting a Panacea? Market Stress, Incentive Distortions, and Gains Trading," FMG Discussion Papers dp701, Financial Markets Group.
    4. Fong, Kingsley Y.L. & Gallagher, David R. & Lau, Sarah S.W. & Swan, Peter L., 2009. "Do active fund managers care about capital gains tax efficiency?," Pacific-Basin Finance Journal, Elsevier, vol. 17(2), pages 257-270, April.
    5. Hanlon, Michelle & Heitzman, Shane, 2010. "A review of tax research," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 127-178, December.
    6. Wu, Yuliang & Li, Youwei, 2011. "Long-term return reversals--Value and growth or tax? UK evidence," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 21(3), pages 347-368, July.
    7. Clemens Sialm, 2009. "Tax Changes and Asset Pricing," American Economic Review, American Economic Association, vol. 99(4), pages 1356-83, September.
    8. Claudio A. Agostini & Mariel C. Siravegna, 2010. "Efectos de la Exención Tributaria a las Ganancias de Capital en el Precio de las Acciones en Chile," Serie de Documentos de Trabajo 07, Superintendencia de Valores y Seguros.
    9. Chongyang Chen & Zhonglan Dai & Douglas Shackelford & Harold Zhang, 2011. "Does Financial Constraint Affect Shareholder Taxes and the Cost of Equity Capital?," NBER Working Papers 17169, National Bureau of Economic Research, Inc.
    10. Jacob, Martin, 2008. "Welche privaten Veräußerungsgewinne sollten besteuert werden?," arqus Discussion Papers in Quantitative Tax Research 49, arqus - Arbeitskreis Quantitative Steuerlehre.
    11. Zhonglan Dai & Edward Maydew & Douglas A. Shackelford & Harold H. Zhang, 2006. "Capital Gains Taxes and Asset Prices: Capitalization or Lock-In?," NBER Working Papers 12342, National Bureau of Economic Research, Inc.
    12. Korkeamaki, Timo & Liljeblom, Eva & Pasternack, Daniel, 2010. "Tax reform and payout policy: Do shareholder clienteles or payout policy adjust?," Journal of Corporate Finance, Elsevier, vol. 16(4), pages 572-587, September.
    13. Jin, Li & Kothari, S.P., 2008. "Effect of personal taxes on managers' decisions to sell their stock," Journal of Accounting and Economics, Elsevier, vol. 46(1), pages 23-46, September.
    14. Efthymiou, Vassilis A. & Leledakis, George N., 2011. "The price impact of the disposition effect on the ex-dividend day of NYSE and AMEX common stocks," MPRA Paper 28791, University Library of Munich, Germany.
    15. Clemens Sialm & Laura Starks, 2009. "Mutual Fund Tax Clienteles," NBER Working Papers 15327, National Bureau of Economic Research, Inc.
    16. John Maher & Robert Brown & Raman Kumar, 2008. "Firm valuation, abnormal earnings, and mutual funds flow," Review of Quantitative Finance and Accounting, Springer, vol. 31(2), pages 167-189, August.
    17. Chongyang Chen & Zhonglan Dai & Douglas A. Shackelford & Harold H. Zhang, 2012. "Does Financial Constraint Affect Shareholder Taxes and the Cost of Equity Capital?," Working Papers 1202, Oxford University Centre for Business Taxation.

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