Working Paper: NBER ID: w25520
Authors: Eduardo Dvila; Benjamin M. Hbert
Abstract: This paper studies the optimal design of corporate taxes when firms have private information about future investment opportunities and face financial constraints. A government whose goal is to efficiently raise a given amount of revenue from its corporate sector should attempt to tax unconstrained firms, which value resources inside the firm less than financially constrained firms. We show that a corporate payout tax (a tax on dividends and share repurchases) can both separate constrained and unconstrained firms and raise revenue, and is therefore optimal. Our quantitative analysis implies that a revenue-neutral switch from profit taxation to payout taxation would increase the overall value of existing firms and new entrants by 7%. This switch could be implemented in the current U.S. tax system by making retained earnings fully deductible.
Keywords: corporate taxation; financial frictions; payout tax; optimal tax design
JEL Codes: G38; H21; H25
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| corporate payout tax (G35) | separate constrained and unconstrained firms (D22) |
| payout tax (G35) | optimize tax revenue (H21) |
| payout tax (G35) | firm investment decisions (G32) |
| constrained firms (D22) | delay payouts until unconstrained (G35) |
| unconstrained firms (D22) | indifferent to timing of payouts (G35) |
| profit taxation (H24) | limits investment by financially constrained firms (D25) |
| payout taxation (G35) | achieves constrained efficiency in production (D20) |