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The Effects of Dividend Taxes on Equity Prices: A Re-examination of the 1997 UK Tax Reform

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Author Info

  • Stephen R Bond

    (Nuffield College, Oxford and Institute for Fiscal Studies)

  • Michael P Devereux

    (Oxford University Centre for Business Taxation and IFS)

  • Alexander Klemm

    (Institute for Fiscal Studies and University College London)

Abstract

We re-examine the extent to which personal taxes on dividends are capitalised into the equity prices of domestic firms, using data from around the time of the 1997 UK dividend tax reform, which removed a significant tax credit for an important group of investors: UK pension funds. The tax-adjusted CAPM suggests that the impact should depend on an average of dividend tax rates across all investors, and that UK pension funds should reduce their holdings of the previously tax-favoured asset: UK equities. Given that UK pension funds are small relative to the total size of the world capital market, a small open economy-type argument implies that the main effect of the reform would be to reduce UK pension funds’ ownership of UK equities, with little impact on the price of UK equities. We present evidence which is consistent with these hypotheses. We discuss why previous research (Bell and Jenkinson, 2002) reached the different conclusion that this tax reform had a large negative impact on UK share prices.

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Bibliographic Info

Paper provided by Oxford University Centre for Business Taxation in its series Working Papers with number 0701.

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Date of creation: 2007
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Handle: RePEc:btx:wpaper:0701

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Cited by:
  1. Södersten, Jan & Lindhe, Tobias, 2010. "The Norwegian Shareholder Tax Reconsidered," Working Paper Series, Center for Fiscal Studies 2010:4, Uppsala University, Department of Economics.
  2. Seppo Kari & Jussi Laitila, 2012. "Non-linear dividend tax and dynamics of the firm," Working Papers 41, Government Institute for Economic Research Finland (VATT).
  3. Michael P Devereux, 2008. "Taxation of Outbound Direct Investment: Economic Principles and Tax Policy Considerations," Working Papers 0824, Oxford University Centre for Business Taxation.

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