14-2 How would each of the following changes tend to affect aggregate payout rat

Question

14-2 How would each of the following changes tend to affect aggregate payout ratios (that is, the average for all corporations), other things held constant? Explain your answers.

a) An increase in the personal income tax rate

b) A liberalization of depreciation for federal income tax purposes – that is, faster tax write-offs

c) A rise in interest rates

d) An increase in corporate profits

e) A decline in investment opportunities

f) Permission for corporations to deduct dividends for tax purposes as they now do interest charges

g) A change in the Tax Code so that both realized and unrealized capital gains in any year were taxed at the same rate as dividends

Explanation / Answer

a. Increase in personal tax rates will not affect payout ratios since it is not related to the corporation.

b. More depreciation will result in more tax savings and thus more cash inflow. Thus, will increase the payout ratios.

c. Rise in interest rates will increase the interest earned by the firm on investment, thus will increase the payout ratios.

d. If corporate profits will increase rise in payout ratios is obvious since more profits means more availability of funds to pay to shareholders.

e. Decile in Investment opportunities will reduce the payout ratios since it will reduce the funds of the firm to pay more.

f. Amount of dividend will be reduce by the taxes and thus the payoout ratios will fall.

g. This is again a sort of personal tax and will not affect the payout ratios of the firm.

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