Corporate Tax, Cost of Debt, Cost of Equity and Capital Structure: a Case Study of Reits and Conventional Real Estate Firms in the Uk
Corporate Tax, Cost of Debt, Cost of Equity and Capital Structure: A case study of REITs and conventional real estate firms in the UK
University of Groningen
Faculty of Economics and Business
BSc International Business
January 2013
Table of contents
1. Introduction 4
2. REITs 7
3. Literature Review 9 3.1 Capital Structure Irrelevance 9 3.2 Present Models 10
4. Data and Methodology 12 4.1 Regression 12
5. Findings and Discussion 16
6. Conclusion 20
7. Appendix 21
8. Bibliography 30
Abstract
In January 2007 the UK adopted the globally successful real estate investment trust (REIT) regime, allowing real estate firms to adopt the REIT status with the benefit of immediate exemption from corporate tax. This study observes 14 UK REITs and 18 comparable conventional UK real estate firms during the years 2001-2011 to scrutinize in how far the corporate tax exemption affects cost of debt and equity and eventually capital structure itself. I employ a difference-in-differences (DiD) analysis, whereby I contrast changes in several variables of REITs and Non-REITs in the pre- and post-treatment phase. This setup enables me to establish empirical results of the given relationship in the absence of changes in exogenous determinants. I find that the cost of debt of REITs rises by just above 30 percent compared to that of Non-REITs. Moreover, the results show that whereas REITs financed a 21 percent increase in total assets with an almost 50/50 debt to equity ratio, Non-REITs financed a 41 percent increase in total assets with 70/30 debt to equity. This confirms the expectation that REITs use relatively less debt because of the missing tax incentive and higher implied costs of debt. However, I do not obtain significant results from the DiD analysis, that this is caused by this treatment.
Key words: REITs, corporate tax exemption, security issuance decision
Research theme: Cost of debt, cost of equity and capital structure
University of Groningen
Faculty of Economics and Business
BSc International Business
January 2013
Table of contents
1. Introduction 4
2. REITs 7
3. Literature Review 9 3.1 Capital Structure Irrelevance 9 3.2 Present Models 10
4. Data and Methodology 12 4.1 Regression 12
5. Findings and Discussion 16
6. Conclusion 20
7. Appendix 21
8. Bibliography 30
Abstract
In January 2007 the UK adopted the globally successful real estate investment trust (REIT) regime, allowing real estate firms to adopt the REIT status with the benefit of immediate exemption from corporate tax. This study observes 14 UK REITs and 18 comparable conventional UK real estate firms during the years 2001-2011 to scrutinize in how far the corporate tax exemption affects cost of debt and equity and eventually capital structure itself. I employ a difference-in-differences (DiD) analysis, whereby I contrast changes in several variables of REITs and Non-REITs in the pre- and post-treatment phase. This setup enables me to establish empirical results of the given relationship in the absence of changes in exogenous determinants. I find that the cost of debt of REITs rises by just above 30 percent compared to that of Non-REITs. Moreover, the results show that whereas REITs financed a 21 percent increase in total assets with an almost 50/50 debt to equity ratio, Non-REITs financed a 41 percent increase in total assets with 70/30 debt to equity. This confirms the expectation that REITs use relatively less debt because of the missing tax incentive and higher implied costs of debt. However, I do not obtain significant results from the DiD analysis, that this is caused by this treatment.
Key words: REITs, corporate tax exemption, security issuance decision
Research theme: Cost of debt, cost of equity and capital structure
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