Passing the Shareholders' Tax Burden to the Corporation: Evidence From Inheritance and Gift Tax

Abstract

Research Question/Issue: We examine how controlling shareholders' personal tax burdens, specifically inheritance and gift tax obligations, affect firm-level financial decisions. Using a unique setting in South Korea, we investigate whether and how firms adjust their dividend policies in response to shareholder-level liquidity pressures. Research Findings/Insights: Using hand-collected data on inheritance and gift events affecting controlling shareholders, we find that firms significantly increase dividend payouts following such events. The magnitude of the increase is positively related to the size of the tax burden. Cross-sectional analyses show that the dividend response is stronger in firms with high potential for expropriation, while the response is mitigated in firms with strong board independence and analyst monitoring. In addition, we document significant economic consequences. Increased payouts are associated with reductions in capital investment and employment and are followed by negative stock market reactions to dividend announcements. Theoretical/Academic Implications: Our findings show that shareholder-specific tax shocks can propagate through corporate governance channels and lead to firm-level financial decisions. This expands the literature on shareholder taxation by identifying a novel mechanism through which tax burdens shape corporate outcomes. Practitioner/Policy Implications: Our study provides new insights for tax policymakers. By documenting unintended corporate consequences of inheritance and gift taxation, we inform ongoing policy debates regarding intergenerational tax design, particularly in countries with concentrated ownership and limited succession relief.