Do Personal Taxes Affect Corporate Financing Decisions?

The traditional view is that interest deductibility encourages firms to use debt financing; however, some argue that the personal tax disadvantage to interest offsets the corporate tax advantage. This paper investigates the degree to which personal taxes affect corporate financing decisions. In cross-sectional regressions that control for personal taxes, debt usage is positively correlated with tax rates in each year 1980-1994, with significant coefficients in almost every year. A specification that adjusts tax benefits for the personal tax penalty statistically dominates a specification that does not. The positive (negative) effect of corporate (personal) taxes on debt usage is distinctly identified.

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