Impact of taxation on dividend policy: Evidence from Pakistan

This paper analyses the impact of capital gains taxation (CGT) on dividend policy among firms that are listed at the Karachi Stock Exchange (now, Pakistan Stock Exchange or PSX). The reason for choosing the Pakistani market is the country's idiosyncratic taxation system regarding dividend and capital gains. In Pakistan, capital gains were tax-free and taxation of capital gains was levied for the first time beginning July 2010. This motivates us to study the special case of Pakistani market regarding the relationship between the imposition of capital gains taxation and the pattern of dividend payouts. For this purpose, we use both the static and dynamic panel data models (generalized methods of moments) to analyze dividend payment behavior for a sample of 284 non-financial firms listed at the PSX from the years 2006-2014. We use the dividends to total assets ratio as a dependent variable and a taxation dummy along with other control variables such as liquidity, leverage, profitability, last year's dividend and firm size, as explanatory variables. Results of the regressions show that capital gains tax has no impact on dividend payments, while profitability, leverage, and last year's dividend are the most significant determinants of dividend payments in the Pakistani market.