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How Prevalent is Tax Arbitrage? Evidence from the Market for Municipal Bonds

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  • Merle Erickson
  • Austan Goolsbee
  • Edward Maydew

Abstract

Although tax arbitrage is central to the literatures on tax capitalization, implicit taxes, and even capital structure, there is little empirical evidence of the extent to which firms actually engage in tax arbitrage. This paper provides some evidence on the topic by focusing on a simple and observable corporate arbitrage strategy in the market for municipal bonds. It poses a puzzle for the literature, however, in that we find little evidence of municipal bond tax arbitrage by non-financial corporations. The overwhelming majority of firms are not engaging in the arbitrage at all and even among those engaged in arbitrage, many firms do less than a safe-harbor amount allowed by the tax authorities. Such a pattern is consistent with the presence of both fixed and marginal (i.e., that depend on size of the position) costs of arbitrage, though we cannot observe what those costs are.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9105.

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Date of creation: Aug 2002
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Handle: RePEc:nbr:nberwo:9105

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  1. Poterba, J.M., 1989. "Tax Reform And The Market For Tax-Exempt Debt," Working papers 514, Massachusetts Institute of Technology (MIT), Department of Economics.
  2. Joel Slemrod & Timothy Greimel, 1998. "Did Steve Forbes Scare the Municipal Bond Market?," NBER Working Papers 6583, National Bureau of Economic Research, Inc.
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Cited by:
  1. Stuart Landon, 2009. "The capitalization of taxes in bond prices: Evidence from the market for Government of Canada bonds," EERI Research Paper Series EERI_RP_2009_20, Economics and Econometrics Research Institute (EERI), Brussels.
  2. Andrea Mattozzi, 2010. "Policy Uncertainty, Electoral Securities, And Redistribution," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 51(1), pages 45-71, 02.
  3. James M. Poterba & Arturo Ramirez Verdugo, 2008. "Portfolio Substitution and the Revenue Cost of Exempting State and Local Government Interest Payments from Federal Income Tax," NBER Working Papers 14439, National Bureau of Economic Research, Inc.

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