Tax and Investment Return

Abstract

Taxation can be considered central to corporate finance theory, where it contributes to the determination of capital structure, dividend policy and valuation of the firm. However, it plays little role in the developments of market finance theory, financial investment analysis or asset and portfolio management. And yet, at least in most of the developed countries, the investments made by savers are subject to often substantial, and at times multiple, taxation.

Tax may have a significant impact on the profitability of investments, and it can affect them in a non-uniform manner. Taking taxes into consideration can therefore lead to important changes in investment choices and to the allocation as many resources to dealing with fiscal issues as to the analysis of the intrinsic qualities of the different investments and management of the portfolio.

This paper analyses the impact of taxation on investments (financial or non-financial). First, the impact of taxation on the return on investment depends, to a certain extent, on its timing. Second, because taxes on operating and capital losses are not immediately reimbursed, risky investments are generally more ill-treated than safe investments. Third, and most importantly, given the nominalist nature of most tax laws, the effective taxing of the real return, which is what matters to the saver, can turn out to be very heavy, even in a context of moderate inflation such as we have witnessed over the last twenty-five years.

Those results are illustrated on the case of France, which has a – deserved reputation of a high tax country. They are nevertheless valid in most countries.

Keywords: Tax, Finance, Asset Allocation, Investment, Inflation, Risk

JEL Classification: E21, G10, G30, H24, H25