Do Lenders Price Tax Risk in the Debt Contract?

47 Pages Posted: 6 Dec 2018

See all articles by Zawadi Lemayian

Zawadi Lemayian

Washington University in St. Louis

Gerald J. Lobo

University of Houston - C.T. Bauer College of Business

Arpita Shroff

Texas A&M University - Corpus Christi

Date Written: April 1, 2018

Abstract

We investigate the relation between tax risk and the cost of private debt. Tax risk can lead to significant negative outcomes, including penalties, interest and additional tax payments, which in turn can increase the uncertainty of future cash flows and make it costlier for a firm to borrow. Consistent with our hypothesis, we find a significant, positive relation between the cost of borrowing and tax risk. In terms of economic significance, a one percent increase in our tax risk measure implies an interest rate increase of 4.04 basis points. We also find that lenders are more likely to require collateral, include more covenants, and issue smaller loans when borrowers have higher tax risk.

Keywords: tax risk, cost of bank loans

JEL Classification: G31, G32, H26, M41

Suggested Citation

Lemayian, Zawadi and Lobo, Gerald J. and Shroff, Arpita, Do Lenders Price Tax Risk in the Debt Contract? (April 1, 2018). Available at SSRN: https://ssrn.com/abstract=3268925 or http://dx.doi.org/10.2139/ssrn.3268925

Zawadi Lemayian (Contact Author)

Washington University in St. Louis ( email )

One Brookings Drive
Campus Box 1208
Saint Louis, MO MO 63130-4899
United States

Gerald J. Lobo

University of Houston - C.T. Bauer College of Business ( email )

Houston, TX 77204-6021
United States
713-743-4838 (Phone)
713-743-4828 (Fax)

HOME PAGE: http://www.bauer.uh.edu/acct/acctprofile.asp?search=Gerald%20Lobo

Arpita Shroff

Texas A&M University - Corpus Christi ( email )

6300 Ocean Drive
Corpus Christi, TX 78412
United States

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