Tax and Controlling Shareholders

1. Tax and Controlling Shareholders Brian R. Cheffins Comment: “Comparative Regulation” Transatlantic Corporate Governance Dialogue Brussels, June 27, 2006

2. There is More to Regulation than Corporate/Securities Law • Research byLa Porta, López-de-Silanes and Shleifer and their co-authors has put corporate and securities law centre-stage in debates about the reform of corporate governance • But there is more to the story • Dyck and Zingales (2004), in their study of determinants of private benefits of control, found that while corporate law mattered, media pressure and tax (measured by compliance) mattered more • Tax merits further study

3. Tax and Corporate Pyramids in North America • The extent to which a country taxes dividends paid by one corporation to another influences the use of corporate pyramids: Morck and Yeung (2005) • In the US, New Deal tax reforms introduced taxation of intercorporate dividends and the use of corporate pyramids declined thereafter • Canada has a “group friendly” corporate tax structure as there is no tax payable on dividends distributed to a corporate blockholder • Blockholders and pyramids are common in Canada

4. Taxation of Corporate Dividends in the UK • Large U.K. companies are typically widely held and corporate pyramids are not a major concern • However, there is no US-style tax on intercorporate dividends (and there never has been) • On the other hand, when UK public companies have blockholders, the use of pyramids is as common as in the rest of Europe • Thus, the evolution of corporate ownership, not tax, displaced corporate pyramids as a cause for concern

5. Tax and the Unwinding of Ownership and Control in the U.K. • Tax helps to explain how ownership separated from control in the UK • In the 50s, 60s and 70s blockholders had a powerful tax incentive to exit: tax on income was punishing and capital gains were untaxed or taxed much more lightly • For individuals, institutional investment was tax favoured • This contributed to an institutional “wall of money” that was invested largely in shares • Institutional investor passivity in turn yielded the UK’s “outsider/arm’s-length” corporate governance system

6. Implications • Researchers should do more to find out about the impact of tax on corporate governance arrangements, including the status of blockholders • Using tax as corporate governance policy instrument is tricky • Nevertheless, we should seek to find out more about the extent to which tax is fostering or hindering efforts to use corporate and securities law to reconfigure corporate governance