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Taxing the Disposition Effect: The Impact of Tax Awareness on Investor Behavior

Published online by Cambridge University Press:  03 June 2022

William J. Bazley Open the ORCID record for William J. Bazley [Opens in a new window] ,
Jordan Moore  and
Melina Murren Vosse
William J. Bazley*
Affiliation:
University of Kansas
Jordan Moore
Affiliation:
Rowan [email protected]
Melina Murren Vosse
Affiliation:
University of San [email protected]
*
[email protected] (corresponding author)
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Abstract

Standard portfolio choice models predict that investors consider the tax implications of trading. However, individuals are disposed toward realizing gains and holding losing investments, behaviors that worsen their performance. We show, in an experimental market, that increasing tax salience reduces the disposition effect between 22% and 47%, leading to higher portfolio balances without increasing total trading activity. Using field data, we find that investors’ disposition is sensitive to taxes around tax rate changes when taxes are likely salient. Our analysis demonstrates that increasing tax awareness can affect households’ portfolio choices, which suggests policy implications for improving financial decision-making.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 57 , Issue 7 , November 2022 , pp. 2724 - 2765
Copyright
© The Author(s), 2022. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

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Footnotes

We thank an anonymous referee, Gennaro Bernile, Fernando Chague, Indraneel Chakraborty, Jennifer Conrad (the editor), Carina Cuculiza, Sarah Khalaf, George Korniotis, Alok Kumar, Ville Rantala, and Prithu Vatsa, and seminar participants at the University of Miami and at the 2020 Financial Management Association Annual Conference for insightful comments. We appreciate research funding from the Rowan University Seed Funding Program. The Rowan University Institutional Review Board (IRB) approved the research methods used in the article (IRB Protocol #2019000376).

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