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Corporate taxes, strategic default, and the cost of debt

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  • Nejadmalayeri, Ali
  • Singh, Manohar
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    Abstract

    The current US tax code’s loss carry provisions provide implicit tax subsidies to financially troubled firms. Since shareholders ultimately decide when to announce bankruptcy, such tax subsidies can incentivize them to strategically postpone default. Therefore, corporate taxation can influence corporate cost of debt. Using a large panel of corporate bonds, we find supporting evidence: credit spreads become smaller as tax loss carries grow larger. In contrast, tax shields such as depreciation, which limit loss carry gains, lead to wider spreads. Interestingly, when stockholders hold greater bargaining power – due to large managerial ownership – larger corporate tax shields lead to even narrower credit spreads.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Banking & Finance.

    Volume (Year): 36 (2012)
    Issue (Month): 11 ()
    Pages: 2900-2916

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    Handle: RePEc:eee:jbfina:v:36:y:2012:i:11:p:2900-2916

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    Web page: http://www.elsevier.com/locate/jbf

    Related research

    Keywords: Corporate tax; Credit spreads; Endogenous bankruptcy; Strategic default;

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    Cited by:
    1. Nejadmalayeri, Ali & Nishikawa, Takeshi & Rao, Ramesh P., 2013. "Sarbanes-Oxley Act and corporate credit spreads," Journal of Banking & Finance, Elsevier, vol. 37(8), pages 2991-3006.

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