The US prides itself on its pro-market, business friendly tax regime, often contrasting its Anglo-Saxon capitalism with certain “welfare states” in Europe. But a bill passed by the US House of Representatives yesterday passes into law, US GPs will be paying twice the tax rate of their peers in France and the UK.
In April 2008, the UK raised its effective tax rate for carried interest from 10 percent to 18 percent.
Prior to that there was a complex system which, depending on the type of asset sold, would lead to a range of rates between 10 percent and 40 percent. It was considered that most carried interest payments and co-investment profits would be taxed at 10 percent, although this was not free from doubt given the complexity of the system.
France also recently clarified that carried interest is to be treated as capital gains, so long as the carried interest holders contribute at least 1 percent of the total commitments of the fund, and any amounts derived from carried interest shares are only be paid out five or more years after the fund has been set up. Under these conditions, carried interest in France will be taxed at 30.1 percent.
As Chris Witkowsky writes in “US House approves tax hike on carried interest”, if the House’s Tax Extenders Act of 2009 passes into law, it would prevent investment fund managers from paying taxes at capital gains rates on investment management services income that was received as carried interest. It would expose managers to ordinary income tax in the highest bracket – currently 35 percent, but likely to increase to 39.6 percent in the near future.
Other legislation passed by the House yesterday would prove a burden on any foreign fund managers who want to invest in US assets (see “US ‘FAT CAT’ tax may hit foreign funds”). Under that bill, foreign managers would either have to agree to provide the US Treasury with detailed information about virtually every one of their LPs, and possibly their lenders as well, or face a 30 percent withholding tax on all US source income other than capital gains. One tax expert said that the bill would be a “mine field” for private equity managers.
The upshot of all this may be that countries like France could start to look like better places to domicile your fund, and indeed even better places to invest your capital. It would appear that the country that gave the world the term laissez faire may on the private equity tax front more fully embrace this concept.