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Nonlinear Dividend Tax and the Dynamics of the Firm

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  • Seppo Kari
  • Jussi Laitila

Abstract

We analyze the implications of a nonlinear tax scheme for dividends using a life-cycle model of a firm. In this model new firms first enter markets; then grow internally, financing from retained earnings; and finally distribute their profits in the steady state. We find that under a nonlinear tax the owners prefer a smooth flow of dividends, which encourages firms to begin distributions right from the start. This early-distribution incentive (EDI) slows down investments and leads to delayed growth. Our calculations indeed confirm that a revenue-neutral switch from a linear to a progressive tax exacerbates production losses. We further demonstrate that this distortion can be reduced by carrying forward unused tax allowances with interest, as proposed e.g. by Mirrlees et al. (2011).

Suggested Citation

  • Seppo Kari & Jussi Laitila, 2015. "Nonlinear Dividend Tax and the Dynamics of the Firm," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, vol. 71(2), pages 153-177, June.
    • Handle: RePEc:mhr:finarc:urn:sici:0015-2218(201506)71:2_153:ndtatd_2.0.tx_2-
    DOI: 10.1628/001522108X142951441925
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    More about this item

    Keywords

    dividend tax; progressive tax; investment; firm behavior; early-distribution incentive;
    All these keywords.

    JEL classification:

    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy
    • H24 - Public Economics - - Taxation, Subsidies, and Revenue - - - Personal Income and Other Nonbusiness Taxes and Subsidies
    • H32 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Firm

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