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Taxes, Capital Structure and Corporate Risk Tolerance

Author

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  • Lindgren, Ragnar

    (Dept. of Finance, Stockholm School of Economics)

Abstract

The effect of tax discrimination of equity capital on the simultaneous choice of financial structure and operational risk is studied in a model with symmetrical information, risk neutral investors, bankruptcy costs and small open economy assumptions. Taxes are either proportional to the amount of equity capital or to the realized return on equity capital. It is shown that the optimal debt ration is always increasing in the tax rate. The optimal operational risk is decreasing in the tax rate for low and moderate tax rates but increasing for high tax rates (implicating high default probabilities). These high tax rates tend to be above the Laffer curve maximum. The probability of default is usually increasing in the tax rate.

Suggested Citation

  • Lindgren, Ragnar, 1994. "Taxes, Capital Structure and Corporate Risk Tolerance," SSE/EFI Working Paper Series in Economics and Finance 10, Stockholm School of Economics.
    • Handle: RePEc:hhs:hastef:0010
    as

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    More about this item

    Keywords

    Corporate taxation; capital structure; operational risk;
    All these keywords.

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • H32 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Firm

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