Utilization of tax allowances and corporate borrowing

Abstract: This thesis consists of three self-contained essays on corporate taxation.Essay I is a descriptive analysis of the utilization of tax allowances by Swedish tax-paying firms. We conclude that firms have systematically failed to take full advantage of the allowances granted by the government. The average utilization level varied between 62 and 86 percent in the years 1979-1993. The Swedish tax-cut cum base-broadening tax reform in 1991 meant that the opportunities for deferring taxes through contributions to untaxed reserves were much reduced. Our results show that the proportion of firms that fully utilize the allowances has increased since `the reform. One interpretation of this is that the importance of the tax system for the incentive to invest has increased, since the user cost of capital is unaffected by the corporate tax if firms have unutilized tax allowances.Essay II explores various explanations as to why firms in a tax-paying position abstain from tax allowances and hence pay more taxes than necessary. The underutilization of tax allowances is specified in terms of a censored regression model. Evidence from panel data is provided which suggests that underutilization of tax allowances is largely due to insufficient profitability. The results also confirm earlier casual observations that underutilization is due to the adherence to uniform reporting. All in all our results suggest that firms' failure to take advantage of tax allowances can to a large extent be explained by institutional constraints.Essay III introduces a new approach to calculate a firm's expected marginal tax rate. When a firm has an excess amount of tax allowances its current marginal tax rate is zero, while the marginal tax rate equals the statutory corporate tax rate when it uses all existing tax allowances. Using firm-level data we estimate the probability of a firm entering a state in which it uses all tax allowances. On the basis these estimates we calculate the firm's expected marginal corporate tax rate. Our results imply that the expected marginal tax rate typically is significantly below the statutory corporate tax rate. We proceed by studying the effect of the expected marginal tax rate on the firm's leverage decision. The expected marginal tax rate is shown to have a significant positive effect on the debt ratio. We conclude that the rivalry between interest-bearing debt and tax allowances makes the firm less prone to issue debt.