Congress is zeroing in on the extraordinary compensation to private equity managers, with a view to income redistribution and, in the process, balancing the budget by taxing “excess” profits allegedly captured by managers by dint of "tax breaks."
These thoughts:
First, the effect is likely to be trivial if the only change in the Code is to extend the tax status of publicly traded partnerships by repealing the exception from the PTP rules for “passive-type income.” Since 1986, PTPs have been taxed as corporations rather than as partnerships. If taxed as corporations, not a lot of private equity firms are likely to go public. If the owners of the management company and/or the general partner want to cash out, the ready alternative to an IPO is to sell the entire operation to a multi-national banking institution.
The danger, of course, is that the tax writers will extend their efforts to impose ordinary income tax on gains in the portfolio allocated to the carried interest enjoyed by fund managers. The carried interest, typically 20% (inherited, incidentally, from the oil industry), is an unpaid-for-profit participation in the gains of a private equity fund—whether venture, buyout or hedge. The theory is that the carry is compensation for services. Therefore, the tax should be at ordinary income rates. Some of the proponents believe that, given the extraordinary profits achieved by private equity funds, the increased revenue will put a dent in our nation’s chronic deficits.
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