Taxes and Investment: Evidence from the “Halloween Massacre” of 2006

This study examines the relation between taxes and business investment using the setting of an unexpected and economically significant federal corporate income tax rate increase in Canada known colloquially as the Halloween Massacre of 2006. This tax increase only applies to firms organized as income trusts, but not corporations. Using a difference‐in‐differences design, we find that investment by income trusts decreases about 0.67% for each 1 percentage point increase in the tax rate, translating into over $10 billion in reduced aggregate investment. In decomposing total investment, our results reveal that capital expenditures exhibit an immediate decrease while there is a delayed decrease in acquisition activity. Our results are concentrated in high‐investment income trusts that are most sensitive to the link between investment and taxes. Our study helps resolve conflicting prior results by providing robust evidence that tax increases have an economically significant and negative causal effect on business investment.