Spillover Regulation

• In Event: Pushing the Envelope: Corporate Tax Aggressiveness and Policy

Abstract

We examine how a firm’s choice of organizational form is influenced by nontax regulatory responses of government agencies to tax reform in highly regulated industries. To examine the effect of these “spillover” agency responses, we study the choice between organizing as a C-corporation or a master limited partnership (MLP) in the U.S. oil and gas sector. After the 2017 Tax Cuts and Jobs Act (TCJA), many oil and gas MLPs have converted to C-corporations. Although many commentators have assumed these conversions were primarily driven by the TCJA’s cuts to the corporate tax rate, we show that MLPs often retained significant tax advantages over C-corporations even after the 2017 legislation.

We argue that in the highly regulated oil and gas sector, the move away from the MLP structure was instead partly driven by a surprise March 2018 rulemaking from the Federal Energy Regulatory Commission (FERC). FERC cited the TCJA’s changes to the tax environment in reversing a decades-long rule that had allowed MLPs to charge consumers higher prices.

We present new data on how FERC’s spillover regulation affected firm value as well as MLP conversions after the TCJA. Using an event study, we show that oil and gas MLPs experienced negative abnormal stock returns around the FERC decision. MLPs that experienced more value destruction near the FERC decision were more likely to subsequently convert to C-corporations. Therefore, FERC’s regulatory actions in response to the TCJA were arguably a significant independent determinant of conversions from MLPs to C-corporations.

Authors

• Dhruv Aggarwal, Northwestern Pritzker School of Law

• Ari Glogower, Northwestern Pritzker School of Law