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Capital Gains Taxes and IPO Underpricing
Katrina Ellis,
University of California Davis
Oliver Zhen Li, University of Notre Dame
John R Robinson, University of Texas at Austin
ABSTRACT. We investigate the effect of capital gains taxes on security prices by examining whether returns for initial public offerings (IPOs) reflect tax capitalization and/or lock-in. Initial stock returns for IPOs are a proxy for the short-term taxable gains incurred by sellers who receive initial allocations at the offer price. If initial investors are able to shift the short-term capital gains tax burden from selling their shares to equity issuers or subsequent buyers, then the magnitude of IPO underpricing should increase in short-term capital gains taxes. On the other hand, a historically lower long-term capital gains tax rate offers initial investors the opportunity to reduce capital gains taxes if they delay the sale of their shares. If these tax savings are sufficiently large, then the magnitude of IPO underpricing should decrease in long-term capital gains tax rates. We provide empirical evidence supporting both predictions.
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