Executives in investment management partnerships such as private equity, venture capital, real estate and hedge funds are nervously waiting to see whether Washington will follow through on a proposal to increase the tax when these businesses are sold.
The enterprise value tax proposed by President Barack Obama and some congressional budget negotiators is the latest fusillade against the investment industry. Already on alert against attempts to raise the tax rate on carried interest, industry lobbyists representing such partnerships say this latest twist makes them feel that they have a target on their collective back.
It “violates basic tax fairness policy and seems to single out the private equity, venture capital and real estate industries in a punitive fashion,” Steve Judge, interim president and CEO of the Private Equity Growth Capital Council, Washington, said in a statement.
The idea to raise the tax rate on general partners' profits, or carried interest, has become a perennial suggestion of federal budget cutters in recent years. This year's version first gained traction in the president's economic recovery plan. It got more personal for investment partnerships when Mr. Obama unveiled his American Jobs Act in September, which proposed increasing the tax on profits from the sale of investment management partnerships, known as the enterprise value tax. The proposals would subject those sales, as well as carried interest, to the higher income rate of up to 35% vs. the 15% capital gains rate used by other businesses.
Of the projected $12.5 billion to $21.4 billion in additional revenue from the two tax hikes, as much as two-thirds would come from the enterprise value tax alone, depending on who is doing the scoring.
Since carried interest represented a smaller slice of tax revenue, and therefore roused fewer opponents, industry lobbyists were resigned to losing that fight. “Among people who know more about carried interest, there is a very strong feeling that it is going to happen,” said Karl D'Cunha, senior managing director of investment bank Madison Street Capital, Chicago, who oversees services for asset management firms. “Whether it happens or not, you need to be prepared for it.”
The enterprise value tax idea started to take hold as asset managers enjoyed profits while the rest of the economy continued to sputter, Mr. D'Cunha said. “There is a negative perception of asset managers that they're able to generate a lot of income without paying taxes that similar financial services people would pay.” That resentment builds when partnerships set up offshore accounts to handle carried interest profits, “so the thinking is, "If we can't get them that way, let's get them when they sell the business'.”
Mr. D'Cunha has seen increased interest among clients for information on the enterprise value tax, and some are taking the threat seriously. Those who were thinking of selling “are trying to get transactions done sooner rather than later,” he said.
“It's definitely elevated from "not too concerned' to "moderately concerned,'” he said. “A lot are waiting until it gets closer before they start really getting worried.”