Debt and taxes : evidence from the real estate industry

Compelling empirical evidence documenting a material effect of corporate taxes on leverage decisions is limited, in part because of difficulties in constructing an effective proxy for the firm's tax benefit of debt. We examine leverage decisions across taxable and nontaxable real estate firms — firms for which we can measure the relative tax benefit of debt with little error. The tax hypothesis implies that for firms with similar asset portfolios, taxable firms should have more debt than their nontaxable counterparts. We find that leverage ratios of taxable real estate firms are about 5% higher than their nontaxable counterparts, but this estimate is only one-third what would be expected given recent evidence using simulated marginal tax rates