Wealth taxes have ‘questionable effect’ on corporate decision-making

Taxes shown to ramp up dividend payouts

Wealth taxes have ‘questionable effect’ on corporate decision-making

Wealth taxes in Europe are having an unanticipated effect – ramping up dividend payouts to help executives with significant stock holdings pay off their taxes, according to recent research by the American Accounting Association. Although the research in this study concentrated on wealth taxes in Europe, its conclusions may also inform efforts to enact comparable taxes in other nations, including North America.

"Our study presents a new consideration in the debate over wealth taxes," said Gaizka Ormazabal, corresponding author of a paper on the work and a professor in the IESE Business School at the University of Navarre. "Specifically, we find that wealth taxes can have a questionable effect on corporate decision making."

Wealth taxes are assessed as a percentage of a person's total net worth, which is usually calculated as the sum of the person's taxable assets, such as investments, less the value of the person's debts. A significant portion of the wealth held by many business CEOs comes in the form of company shares. The executive's wealth tax rises along with the value of those equities.

While an executive's fortune may be mostly comprised of stocks, paying taxes must be done in cash, which might be problematic. The executive's business might enhance dividend payouts as a solution to this issue.

The researchers examined publicly accessible data on 4,381 firms with headquarters in European nations that have, or have had, wealth taxes between 2000 and 2017 to determine if this was happening and how it affected relevant companies. Researchers discovered that when majority stockholders are subject to a significant rise in wealth taxes, closely held businesses --particularly family businesses -- are more inclined to boost dividends.

"Tax-driven dividend increases may be useful for majority shareholders but may not be in the best interest of the company – which could have used those funds to finance profitable projects," Ormazabal said. "In other words, increasing dividends to help an executive meet tax obligations can hurt the company and, ultimately, other shareholders."

Additionally, the researchers discovered that these larger rewards were linked to decreases in future investment and resulted in poorer stock returns.

"Wealth taxes can also help reduce social inequality, which is valuable in itself," Ormazabal said. "However, we think it is important to better understand the varied – and unanticipated – consequences that may be associated with implementing wealth taxes."