Does trade credit substitute for debt? Evidence from the TCJA’s interest deduction limitation

Event Date: 26 January 2022

Speaker: Professor Terry Shevlin, UCI Paul Merage School of Business

Time: 4pm (Zoom details emailed to faculty the week prior, otherwise please email donna.irving@strath.ac.uk)

Abstract:

We examine the effects of the TCJA’s interest deduction limitation, which increased the after-tax cost of traditional debt for impacted firms. Using a difference-in-differences, we find that firms subject to the limitation increase trade credit by 7.7% compared to control firms following TCJA, suggesting that trade credit partially substitutes for traditional debt financing. We find similar results using state tax conformity to the interest limitation as a third source of variation. We also find evidence of increased investment due to increased trade credit use, especially among firms prone to overinvestment. From the supplier’s perspective, we find evidence that supplier-firm risk increases due to the interest limitation. In robustness tests, we find that our results continue to hold when using regression discontinuity designs and when using alternative control groups. Overall, we find evidence that the TCJA’s interest deductibility provision increased trade credit use and thereby affected investment and supplier outcomes.

Published: 9 February 2022