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Taxation of risky investment and paradoxical investor behavior

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  • Gries, Thomas
  • Prior, Ulrich
  • Sureth, Caren

Abstract

Under uncertainty and irreversibility, real option-based models are widely accepted for assessing investment projects. So far the existing post-tax analyses do not provide a general analytical description of investor reactions towards profit tax rate changes. This paper sets out to fill part of the void. We implement a simple tax system and focus on risky capital market investment and an option to wait. Taxes affect risk-free and risky capital market investment asymmetrically and hence cause distortions. We analytically identify a set of neutral tax rates (tax regimes) that preserve the critical post-tax investment threshold in case of tax rate changes as well as general normal and paradoxical settings. Unlike for other tax paradoxa neither depreciation rules nor loss offset restrictions are responsible for the observed paradoxical reaction. Identifying normal and paradoxical tax regimes can be regarded as a first step to a generalized description of tax effects under uncertainty, both for individual project evaluation as well as for understanding tax effects on an aggregate level. --

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Bibliographic Info

Paper provided by arqus - Arbeitskreis Quantitative Steuerlehre in its series arqus Discussion Papers in Quantitative Tax Research with number 26.

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Date of creation: 2007
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Handle: RePEc:zbw:arqudp:26

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Related research

Keywords: investment decision; real options; tax paradox; uncertainty;

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References

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  1. Douglas A. Shackelford, 2002. "Intertemporal Tax Discontinuities," Journal of Accounting Research, Wiley Blackwell, Wiley Blackwell, vol. 40(1), pages 205-222, 03.
  2. Louis Kaplow & Steven Shavell, 1999. "Economic Analysis of Law," NBER Working Papers 6960, National Bureau of Economic Research, Inc.
  3. Paolo M. Panteghini, 2001. "Dual income taxation : the choice of the imputed rate of return," Finnish Economic Papers, Finnish Economic Association, Finnish Economic Association, vol. 14(1), pages 5-13, Spring.
  4. Kelly D. Edmiston, 2001. "Tax Uncertainty and Investment: A Cross-Country Empirical Investigation," International Center for Public Policy Working Paper Series, at AYSPS, GSU, International Center for Public Policy, Andrew Young School of Policy Studies, Georgia State University paper0105, International Center for Public Policy, Andrew Young School of Policy Studies, Georgia State University.
  5. Andrea Gamba & Gordon A. Sick & Carmen Aranda León, 2008. "Investment under Uncertainty, Debt and Taxes," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 37(1), pages 31-58, 02.
  6. Agliardi, Elettra, 2001. "Taxation and Investment Decisions: A Real Options Approach," Australian Economic Papers, Wiley Blackwell, Wiley Blackwell, vol. 40(1), pages 44-55, March.
  7. Hammond,Peter, 1988. "Theoretical progress in public economics: A provocative assessment," Discussion Paper Serie A 171, University of Bonn, Germany.
  8. Sumru Altug & Michel Demers, 2001. "The Impact of Tax Risk and Persistence on Investment Decisions," Economics Bulletin, AccessEcon, vol. 5(1), pages 1-5.
  9. Jennifer L. Blouin & Jana Smith Raedy & Douglas A. Shackelford, 2003. "Capital Gains Taxes and Equity Trading: Empirical Evidence," Journal of Accounting Research, Wiley Blackwell, Wiley Blackwell, vol. 41(4), pages 611-651, 09.
  10. Nick Bloom & Stephen Bond & John Van Reenen, 2006. "Uncertainty and Investment Dynamics," CEP Discussion Papers dp0739, Centre for Economic Performance, LSE.
  11. Pennings, Enrico, 2000. "Taxes and stimuli of investment under uncertainty," European Economic Review, Elsevier, Elsevier, vol. 44(2), pages 383-391, February.
  12. Paolo M. Panteghini, 2004. "Wide versus Narrow Tax Bases under Optimal Investment Timing," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, Mohr Siebeck, Tübingen, vol. 60(4), pages 482-, December.
  13. Lang, Mark H. & Shackelford, Douglas A., 2000. "Capitalization of capital gains taxes: evidence from stock price reactions to the 1997 rate reduction," Journal of Public Economics, Elsevier, Elsevier, vol. 76(1), pages 69-85, April.
  14. Paolo M. Panteghini & Carlo Scarpa, 2003. "Irreversible Investments and Regulatory Risk," CESifo Working Paper Series 934, CESifo Group Munich.
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Cited by:
  1. Schneider, Georg & Sureth, Caren, 2010. "The impact of profit taxation on capitalized investment with options to delay and divest," arqus Discussion Papers in Quantitative Tax Research 97, arqus - Arbeitskreis Quantitative Steuerlehre.
  2. Niemann, Rainer & Sureth, Caren, 2008. "Steuern und Risiko als substitutionale oder komplementäre Determinanten unternehmerischer Investitionspolitik?," arqus Discussion Papers in Quantitative Tax Research 51, arqus - Arbeitskreis Quantitative Steuerlehre.
  3. Meißner, Fabian & Schneider, Georg & Sureth, Caren, 2013. "The impact of corporate taxes and flexibility on entrepreneurial decisions with moral hazard and simultaneous firm and personal level taxation," arqus Discussion Papers in Quantitative Tax Research 141, arqus - Arbeitskreis Quantitative Steuerlehre.
  4. Niemann, Rainer & Sureth, Caren, 2009. "Investment effects of capital gains taxation under simultaneous investment and abandonment flexibility," arqus Discussion Papers in Quantitative Tax Research 77, arqus - Arbeitskreis Quantitative Steuerlehre.

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