Faculty Research at Morehead State University


Change in Capital Gains Tax Rates and IPO Underpricing


Chien-Chih Peng

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The purpose of this paper is to re-examine the relationship between the reduction in capital gains tax rates as a result of the 1997 U.S. Taxpayer Relief Act and the magnitude of IPO underpricing. Previous studies show that the tax law changes in 1986, 1993 and 1997 affected IPO underpricing significantly. In contrast to the study by Robinson and Robinson [1], this study uses a larger sample of 1,898 IPOs from the Securities Data Company (SDC) U.S. New Issues Database for the period from 1995 to 1999. Ordinary least squares regression analysis is applied to examine the effect of reducing the capital gains tax rate on the degree of IPO underpricing by controlling widely examined variables such as share overhang, partial price adjustment, ownership retention, venture capitalist certification, and industry effect. The results confirm that the reduction in capital gains tax rates increases the IPO underpricing significantly. Moreover, the relationship is robust in IPOs that are venture capitalist backed, non-venture capitalist backed, high technology, non-high technology, and Nasdaq-listed.