ABSTRACT This study examines the impact of the value‐added tax system (VAT) on corporate cash holdings. We utilise a quasi‐natural experiment provided by a tax policy reform in China, where business tax was replaced with VAT for specific companies. Employing panel data and a difference‐in‐differences approach, our analysis reveals that firms subject to the new tax policy experience a 1.4% reduction in their cash‐to‐assets ratio. This decrease in cash holdings is particularly notable among firms with an active dividend payout policy. Furthermore, we show that the transition to VAT encourages firms to outsource production and services to capitalise on the tax credits offered by the VAT system. Overall, our findings highlight how tax policy can significantly influence corporate financial behaviour and strategic resource allocation.
Ling et al. (Mon,) studied this question.