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Irreversible Investment, Financing Choice and Asymmetric Corporate Taxes

  • Miquel Faig
  • Pauline Shum

This paper provides a discrete-time framework for analyzing a firm's investment and financial choices under uncertainty. The investment decision is incremental and subject to a parameterized degree of irreversibility. Corporate taxes are asymmetric, but we allow imperfect carry-forward or carry-back of losses. Personal taxes are also levied. The paper focusses on the impact of various tax rules and corporate borrowing constraints on the firm's choices particularly the desired capital stock. The paper also highlights the effects of depreciation, interest rates, and personal taxes. Numerical simulations complement the analytical results to illustrate when taxes and borrowing constraints matter the most.

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File URL: http://www.economics.utoronto.ca/public/workingPapers/UT-ECIPA-FAIG-96-01.ps
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Paper provided by University of Toronto, Department of Economics in its series Working Papers with number faig-96-01.

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Length: 44 pages
Date of creation: 11 May 1996
Date of revision:
Handle: RePEc:tor:tecipa:faig-96-01
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  1. Andrew B. Abel & Janice C. Eberly, 1993. "A Unified Model of Investment Under Uncertainty," NBER Working Papers 4296, National Bureau of Economic Research, Inc.
  2. DeAngelo, Harry & Masulis, Ronald W., 1980. "Optimal capital structure under corporate and personal taxation," Journal of Financial Economics, Elsevier, vol. 8(1), pages 3-29, March.
  3. Paul A. Samuelson, 1964. "Tax Deductibility of Economic Depreciation to Insure Invariant Valuations," Journal of Political Economy, University of Chicago Press, vol. 72, pages 604.
  4. Fane, G., 1987. "Neutral taxation under uncertainty," Journal of Public Economics, Elsevier, vol. 33(1), pages 95-105, June.
  5. Shum, Pauline M, 1994. "Tax Asymmetry and Investment Horizon," Public Finance = Finances publiques, , vol. 49(3), pages 427-39.
  6. Green, Richard C & Talmor, Eli, 1985. " The Structure and Incentive Effects of Corporate Tax Liabilities," Journal of Finance, American Finance Association, vol. 40(4), pages 1095-114, September.
  7. Mayer, Colin, 1986. "Corporation Tax, Finance and the Cost of Capital," Review of Economic Studies, Wiley Blackwell, vol. 53(1), pages 93-112, January.
  8. Jason G. Cummins & Kevin A. Hassett & R. Glenn Hubbard, 1995. "Tax Reforms and Investment: A Cross-Country Comparison," NBER Working Papers 5232, National Bureau of Economic Research, Inc.
  9. Devereux, Michael P. & Keen, Michael & Schiantarelli, Fabio, 1994. "Corporation tax asymmetries and investment : Evidence from U.K. panel data," Journal of Public Economics, Elsevier, vol. 53(3), pages 395-418, March.
  10. McKenzie, K.J., 1992. "The Implications of Risk and Irreversibility for the Measurement of Marginal Effective Tax Rates of Capital," Papers 137, Calgary - Department of Economics.
  11. Mackie-Mason, Jeffrey K., 1990. "Some nonlinear tax effects on asset values and investment decisions under uncertainty," Journal of Public Economics, Elsevier, vol. 42(3), pages 301-327, August.
  12. Mauer, David C & Triantis, Alexander J, 1994. " Interactions of Corporate Financing and Investment Decisions: A Dynamic Framework," Journal of Finance, American Finance Association, vol. 49(4), pages 1253-77, September.
  13. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-75, May.
  14. Dammon, Robert M & Senbet, Lemma W, 1988. " The Effect of Taxes and Depreciation on Corporate Investment and Financial Leverage," Journal of Finance, American Finance Association, vol. 43(2), pages 357-73, June.
  15. Keen, Michael & Shiantarelli, Fabio, 1991. "Corporation Tax Asymmetries and Optimal Financial Policy," Oxford Economic Papers, Oxford University Press, vol. 43(2), pages 280-91, April.
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