US House approves tax hike on carried interest

The bill now goes before the US Senate, and if approved will likely be signed into law by President Obama.

A proposed change to the tax treatment on general partner incentive pay moved one step closer to reality Wednesday when the US House of Representatives approved more than doubling the tax on carried interest from 15 percent to as high as 39.6 percent.

The House approved the measure 241-181 with a majority of Republicans voting against the bill.

The bill, sponsored by Representative Charles Rangel and called the Tax Extenders Act of 2009, will be sent to the US Senate for approval and if passed there is expected to be signed into law by the President.

The bill would prevent fund managers from paying taxes at capital gains rates on investment management income that was received as carried interest. Instead, the gains would be treated as ordinary income.

Charles
Rangel

General partners believe the carried interest tax hike will impede their ability to attract and retain talent, weaken the competitive position of US private equity firms and create additional administrative burdens, according to a survey by accounting firm BDO Seidman, which included more than 100 GPs.

“Raising taxes on growth investments by private equity, real estate and many other partnerships just doesn’t make sense – particularly in this time of fragile economic recovery and continuing joblessness,” Douglas Lowenstein, president of lobbying group Private Equity Council, said in a statement. “By more than doubling the tax rate, the carried interest proposal will discourage investment; deprive many American businesses of the capital they need to survive and grow; and jeopardise critical job creation opportunities.”

Not every GP is concerned about an increase on carried interest. Stephen Presser, a founding partner at New York mid-market turnaround firm Monomoy Capital Partners, told PEO’s sister magazine Private Equity International last year that he fully expects a tax hike on carried interest under the Obama administration. He said a tax increase on carried interest was “entirely fair and appropriate”.

But according to Americans for Tax Reform, a lobbying group, a tax hike on carry will also hurt limited partners. The group sent a letter to Rangel this week warning that a tax hike on carried interest would ultimately hurt the charities, endowments and public pensions that invest in private equity. Rangel introduced the bill that included the carried tax hike on Monday.

“Managers of investment partnerships will demand a bigger profit share to compensate for these higher taxes,” the group’s president, Grover Norquist, said in the letter. “That reduces the profit remaining for the limited partners – who are most often charities, university endowments and defined benefit pension plans.”