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Leverage and Dividend Irrelevancy Under Corporate and Personal Taxation
Author(s) -
DeANGELO HARRY,
MASULIS RONALD W.
Publication year - 1980
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/j.1540-6261.1980.tb02176.x
Subject(s) - commission , leverage (statistics) , dividend , citation , economics , political science , management , library science , actuarial science , law and economics , law , computer science , artificial intelligence
IN "DEBT AND TAXES," Merton Miller argues that the marginal personal tax disadvantage of debt combined with supply-side adjustments by firms will override the corporate tax advantage of debt and drive market prices to an equilibrium impying leverage irrelevancy to individual firms. Miller's seminal work has significantly enhanced our understanding of the effects of personal taxes on corporate financial decisions and has already stimulated a substantial body of research (e.g., see Kim-Lewellen-McConnell (1979) and Miller-Scholes (1979)). In this paper, we generalize Miller's work in a number of dimensions and conclude that: 1. There are two key properties of the demand-supply interactions of investors and firms which lead to firm level leverage irrelevancy in market equilibrium (section 2). 2. The key demand-side property reveals that the leverage irrelevancy theorem is robust to alternative assumptions about the personal tax code. Moreover, no single security ownership clientele effect is uniquely associated with the theorem. Many different (simple or complex) personal tax codes lead to the theorem and are associated with different (simple and complex) ownership patterns (section 3). 3. In market equilibrium, leverage is irrelevant for firms which issue risky debt even though part of the corporate debt tax shelter is lost in default and recapture is not allowed (section 4).