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Tax avoidance and underleverage puzzle: Korean evidence

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  • Youngdeok Lim
Abstract
This paper examines whether tax avoidance substitutes for the use of debt, as well as investigating the impact of the tax-exhaustion effect and the cost of debt in this relationship. Applying a modified version of the tax-avoidance measure in Desai and Dharmapala (Rev Econ Stat 91:537–546, 2006 ), I determine the marginal substitution effect of tax avoidance for the use of debt for a large sample of Korean firms, generalizing the evidence of Graham and Tucker (J Financ Econ 81:563–594, 2006 ). Furthermore, I find that the debt-substitution effect increases with the probability of losing tax shields, suggesting that the tax-exhaustion effect interacts with the debt-substitution effect. In addition, the debt-substitution effect becomes stronger when the cost of debt is high, indicating that the cost of debt is a determinant of the substitution effect. The debt-substitution effects of tax avoidance suggest that tax-avoidance activities could offer a partial explanation for the underleverage puzzle. Copyright Springer Science+Business Media, LLC 2012

Suggested Citation

  • Youngdeok Lim, 2012. "Tax avoidance and underleverage puzzle: Korean evidence," Review of Quantitative Finance and Accounting, Springer, vol. 39(3), pages 333-360, October.
    • Handle: RePEc:kap:rqfnac:v:39:y:2012:i:3:p:333-360
    DOI: 10.1007/s11156-011-0258-8
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    References listed on IDEAS

    as
    1. Desai, Mihir A. & Dharmapala, Dhammika, 2006. "Corporate tax avoidance and high-powered incentives," Journal of Financial Economics, Elsevier, vol. 79(1), pages 145-179, January.
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    Cited by:

    1. Lei Gao & Leo L. Yang & Joseph H. Zhang, 2016. "Corporate patents, R&D success, and tax avoidance," Review of Quantitative Finance and Accounting, Springer, vol. 47(4), pages 1063-1096, November.
    2. Sattar Mansi & Jianping Qi & Han Shi, 2020. "Advertising and tax avoidance," Review of Quantitative Finance and Accounting, Springer, vol. 54(2), pages 479-516, February.
    3. Wei Huang & Tingting Ying & Yun Shen, 2018. "Executive cash compensation and tax aggressiveness of Chinese firms," Review of Quantitative Finance and Accounting, Springer, vol. 51(4), pages 1151-1180, November.
    4. Michael Overesch & Georg Wamser, 2014. "Bilateral internal debt financing and tax planning of multinational firms," Review of Quantitative Finance and Accounting, Springer, vol. 42(2), pages 191-209, February.

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    More about this item

    Keywords

    Tax avoidance; Underleverage puzzle; Debt-substitution; Tax-exhaustion; G32; H26;
    All these keywords.

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance

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