Testing dividend tax theory: Firm and industry heterogeneity

The Jobs Growth and Tax Relief Reconciliation Act of 2003 cut the top dividend tax rate in the U.S. by more than half, yet numerous studies of nonfinancial firms have failed to detect the expected supply-side stimulus to capital investment. We test the impact of this tax cut on U.S. commercial banks and find that bank lending responded differently, conditional on banks’ access to external capital as well as their reliance on internal liquidity. Our heterogeneous results include support for all three branches of dividend tax theory. Loan growth increased the most at publicly traded banks with relatively illiquid balance sheets and increased by the least (or not at all) at untraded banks with relatively liquid balance sheets. Consistent with previous studies, we find increased dividend payouts at all subsets of banks. We conjecture that the effectively short maturities of bank loan contracts made banks better able to respond positively to this tax cut and provide some suggestive evidence in support of this conjecture.