Publication Date


Document Type


First Advisor

Groves, Jeremy R.

Degree Name

Ph.D. (Doctor of Philosophy)

Legacy Department

Department of Economics


The first chapter of this dissertation is motivated by the cross-sectional differences in the willingness of firms to minimize tax based on their financial structure. We investigate whether ”financially constrained” firms increase tax aggressiveness compared to it’s immediate ”less constrained” condition in response to an exogenous state tax increase. We also test whether our prediction holds true for financially distressed firms. Our identification strategy exploits 43 increases in corporate income tax rates staggered across 23 U.S. states and Washington, D.C., between 1989 and 2012. Our results reveal that constrained firms (as ranked by Kaplan & Zingales (1997) index (KZ index ) and Hadlock & Pierce (2010) index (HP index )) are more tax aggressive irrespective of the proxy measures of tax aggressiveness used in this analysis. Results do not, however, hold true for financially distressed firms ranked by Altman Z-Score (Z-score ). We contribute to the literature by providing support to the idea of Weisbachs (2002) under-sheltering puzzle.

The second chapter focuses on the question of how changes in the capital gain taxes affect the choice of executive compensation mix between cash (salary and bonus) and deferred income (stock option and restricted stock grant). We use the Taxpayer Relief Act (TRA) of 1997 as an exogenous random shock, estimate the role of capital gain taxes on the executive compensation mix. Our empirical results suggest a significant impact of capital gain tax rates on the composition of executive compensation, with lower capital gain tax rates generating an increase in deferred compensation strategies and a decrease in cash compensation.

The third chapter relies on the principal-agent framework to provide evidence that lower capital gain tax is an important contributor to two contrasting effects in executive compensation. We test whether a reduction of the capital gains tax affects the sensitivity of the executive’s stock-based compensation to firm performance. We exploit the Taxpayers Relief Act of 1997 as an exogenous shock for identifying the effect. Our estimates show that executives’ share of stock-based compensation is positively related to firm performance. However, the pay-performance sensitivity decrease after the capital gain tax legislation enacted in the year of 1997. Our study extends the existing literature by considering the impact of firms’ performance on executive stock-based compensation through the channel of stock return volatility.


107 pages




Northern Illinois University

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