Investor taxation, firm heterogeneity and capital structure choice

In this paper, we analyze the effect of investor level taxes, firm-specific ownership structure and firm-specific dividend payout policy on a firm's capital structure choice. Our analysis is based on data for 10,003 firms from 11 Central and Eastern European (CEE) countries over the period 2002-2012. Our results show a significant positive impact from the net tax benefit of debt on the debt ratio of a firm. Ignoring firm heterogeneity, an increase in the net tax benefit of debt by 10 percentage points leads to an increase in the debt ratio of 2.68 percentage points. If we add firm-specific ownership to the analysis, the effect of investor level taxes on the debt ratio is about 1.55 times higher if the firm is wholly owned by a domestic individual investor. For the same type of firm, the effect nearly doubles if we also consider firm-specific dividend payout policy.