February 5, 2013 / 9:44 PM / 6 years ago

Analysis: Carried interest thrust again into tax debate

WASHINGTON (Reuters) - A big tax break used by U.S. private equity and venture capital executives is under threat again, and this time their chances of preserving it may have dimmed.

President Barack Obama said at a news conference on Tuesday that he will pursue a short list of tax loophole closures to try to avert looming budget cuts. Then his press secretary singled out the tax break known as “carried interest.”

“That should be closed,” White House spokesman Jay Carney told reporters after the president spoke.

Obama on Sunday had mentioned carried interest in a CBS television interview in which he called for reducing the budget deficit by raising more tax revenue through closing tax breaks.

Past attempts by some senior Democrats to roll back the provision have failed amid heavy lobbying by the private equity industry and other investment managers. The tax break has been defended by lawmakers from both parties, but this time advocates of repeal say they may have the upper hand.

Carried interest is an industry term that describes a large portion of the gains realized by private equity managers from how they do business, as well as executives at some venture capital, real estate and hedge funds.

The tax break allows these financiers - many among the wealthiest people in the country - to pay a 20-percent capital gains tax rate on these gains, rather than the top ordinary income tax rate of nearly 40 percent.

It became a campaign issue last year when it emerged that Republican presidential hopeful Mitt Romney had paid an effective tax rate of about 15 percent in the past, thanks in part to the favored tax treatment. Romney was a co-founder of private equity giant Bain Capital.

Sander Levin, the top Democrat on the tax-writing House of Representatives Ways and Means committee, has been pushing for years to end the tax break, and plans to soon introduce legislation again. He said the tide is turning after Obama’s campaign.

“Elections matter. When issues are raised and the people speak, it matters,” Levin said in an interview.

Closing the tax break could raise close to $20 billion over 10 years, according to congressional budget estimates.

Defenders of the provision say it is proper because the risks taken by those who claim it are comparable to the risks of stock market investing. So carried interest gains, they say, should be taxed like investment income, not wage income.

Opponents of the tax break say carried interest is more akin to ordinary income and that the financiers should have to pay the same top income tax rate that other workers pays.


Republicans for years have been steadfast in their defense of the tax break, although Romney was careful during the campaign not to take a clear position on it.

Senator Orrin Hatch, top Republican on the tax-overseeing Senate Finance Committee, told Reuters on Monday: “I’ve always supported carried interest but I’m going to certainly look at every suggestion that the president makes.”

Hatch on Tuesday said in a statement that Obama’s plans were “tax hike gimmicks” that will do little to tame the U.S. debt.

Still, a former top Republican Finance Committee aide said there is sympathy among Republicans for the argument that the carried interest provision represents an unfair tax loophole.

“If there is a real bill moving forward, there is some real risk” that the tax break could be curbed, the former aide said.

“Republicans are not going to throw it overboard at the beginning, but at the end of the day, I think it is something that could go, because it might be better than the alternatives,” he said.

Mark Heesen, president of the National Venture Capital Association, whose members benefit from the carried interest provision, said: “The question will be on the Republican side, if they will accept any type of tax increase.”


Republicans have not been alone in defending the carried interest provision. Some Democratic senators have done so.

“Whenever it was raised in a caucus, members get up and say something needs to be done,” a former Democratic Senate aide said. “Then slowly but surely when it comes to voting on it, members get a lot more skittish.”

Current Senate Budget Committee Chairwoman Patty Murray was among those in 2010 opposing closing the break because of concerns about venture capital, which many say should be treated separately to encourage start-ups, such as those in Seattle, in Murray’s home state of Washington.

At the same time, Democratic Senator Charles Schumer of New York fought hard against such an approach. Private equity firms are heavily concentrated in Manhattan.

Greg Valliere, chief political strategist at investor research firm Potomac Research Group in Washington, D.C., said it was unclear if Democrats would remain a hurdle.

“But if Republicans could raise taxes on the wealthy, surely the majority of Democrats can end carried interest — especially if it’s part of a deal to avoid sequester,” Valliere said, referring to the next big budget battle.

On March 1, postponed spending cuts known as the sequester will start to kick in. Lawmakers and the White House are scrambling to find ways to avoid this, possibly through a mix of more limited budget cuts and tax measures, though some on Capitol Hill expect the sequester will take effect.

Reporting by Kim Dixon; Editing by Kevin Drawbaugh, Martin Howell and Andrew Hay

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