The asset location puzzle: Taxes matter

Abstract

Asset location decisions observed in practice deviate substantially from the predictions of theoretical models. This paper develops a life cycle model with a progressive tax system to quantitatively evaluate two explanations of the asset location puzzle. We find that taxes matter significantly for asset location decisions. The key mechanism is the benefits from pre-tax accumulation. We also find that for reasonable parameter values the precautionary motive is not quantitatively important in terms of its effect on asset location.Tax-deferred accounts Asset location Portfolio choice