In 2006, Norway enacted a major tax reform that harmonized the tax rates between labor and capital income and introduced the dividends tax. In anticipation of this, personal shareholders extracted extraordinary dividends in 2005 and reinvested these in holding companies. Because costs are deductible before dividends taxes apply and these shares were typically purchased at a premium, this means that shareholders generated large reserves of tax-free dividends they could draw upon in the following years. We know less about how personal shareholders have used this potential and whether or not it is exhausted.
This report provides descriptive evidence on the size of retained earnings in and valuations of unlisted equity in Norway. We estimate market values based on book values, tax valuations and priceto-book-ratios from listed firms, and attempt to separate these unrealized gains into whether or not they would be tax liable. Results suggest that a diminishing share of the potential gains are tax free over time, suggesting that a majority of the potential for tax free capital gains following the tax reform has been exhausted.
Furthermore, we evaluate the changes in the share premium funds over time for firms established in 2005, and compare these to the same changes for firms established in years before and after. This analysis confirms that share premiums was the major way to reinvest tax free dividends from 2005, and that shareholders drew on these reserves in the following years much more than shareholders of firms established in the years before or after. One interpretation of these results is that close to two thirds of the potential for tax free capital gains stemming from the introduction of the tax reform has been exhausted.
Finally, we investigate the choices to lower share premium funds or pay dividends from firms in position to do so, how these change over time and how they relate to the size of retained earnings or share premium funds. Results suggest that firms react to incentives in the tax system, extracting dividends in ways and over time that minimize tax liabilities.