HOW DID FIRMS ADJUST THEIR TAX-DEDUCTIBLE ACTIVITIES IN RESPONSE TO THE ECONOMIC-RECOVERY TAX ACT OF 1981

Prior research on the tax shield substitution effect has examined the relation between a firm's debt and its investment tax shields. I exten d this previous research by examining the response of a portfolio of d eductible noninvestment activities to the increased investment tax shi elds offered by the Economic Recovery Tax Act of 1981. The major findi ng is that interest expense, the provision for bad debts, and labor ut ilized were each treated as a substitute for investment tax shields. S ome (no) evidence is found for the hypothesis that pension funding lev els (advertising expenditures) were also treated as an investment tax shield substitute.