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Taxation and the Early Exercise of Call Options

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  • Karen Alpert

Abstract

Prior studies of call option early exercise either ignore personal taxes or simplify the impact of taxation. When making an early exercise decision, the option holder should compare the after‐tax cash flows from exercise with the after‐tax cash flows from selling the option. Due to the differential taxation of option and share transactions, it is possible for exercise to be wealth‐maximizing after tax even when it would not be the rational decision on a before‐tax basis. By incorporating personal taxes on the option, underlying share and dividend this paper shows that tax can potentially explain a large portion of early exercise events classified as ‘irrational’ in previous studies.

Suggested Citation

  • Karen Alpert, 2010. "Taxation and the Early Exercise of Call Options," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 37(5‐6), pages 715-736, June.
    • Handle: RePEc:bla:jbfnac:v:37:y:2010:i:5-6:p:715-736
    DOI: 10.1111/j.1468-5957.2010.02183.x
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    References listed on IDEAS

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    Cited by:

    1. Grace Phang & Rob Brown, 2011. "Rational early exercise of call options: Australian evidence," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 51(3), pages 732-744, September.
    2. 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.
    3. Fahr, René & Janssen, Elmar & Sureth, Caren, 2014. "Can tax rate increases foster investment under entry and exit flexibility? Insights from an economic experiment," arqus Discussion Papers in Quantitative Tax Research 166, arqus - Arbeitskreis Quantitative Steuerlehre.

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