TaxProf Blog

Editor: Paul L. Caron, Dean
Pepperdine University School of Law

Thursday, June 24, 2010

WSJ: Carried Interest Tax Hike Will Hit Family Partnerships

Wall Street Journal editorial, The Family Business Revenue Act: A Tax on the Wealthy Becomes a Tax on Mom and Pop:

Class-warfare politics has a way of doing damage well beyond its intended targets. Consider how the Democratic plan to raise taxes on "carried interest" will also sock it to a family business near you.

Democrats want to raise carried-interest taxes from the current 15% rate to the top income tax rate, scheduled to hit 39.6% on January 1. The sales pitch is that this will only whack hedge fund managers and other unsympathetic types. Yet Democrats wrote the law so broadly that it may sweep up millions of Americans in family partnerships.

This would be a huge hit to the estimated 6.5 million folks invested in real-estate partnerships, who own assets ranging from a local house to a commercial shopping center. The legislation also potentially hits any partnership invested in certain specified assets, including families who own, say, an auto dealership, fishing boat, construction company or securities.

These partnerships are at risk because of the logic Democrats have used to justify their tax hike. The taxers argue that fund managers receive carried interest as compensation for a service performed—managing other people's money—and so should be taxed at ordinary income rates. Never mind that Congress previously deemed carried interest to be investment income, at-risk capital that deserved to be taxed at a lower rate. ...

Mark this down as one more example of how the Democratic scramble for revenue will hurt millions of Americans who are far from wealthy. Democrats are rewriting a half century of partnership tax law with no hearings, no analysis and little debate. And they wonder why businesses are creating so few jobs.

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What a ridiculous editorial by the WSJ.

As to the politics... No debate? This provision has come up for the last 3 years in various bills and has been debated ad nauseum. That's just another of the "jamming it down our throats" political sewage.

As to the tax law... If the WSJ bothered to read the provision or report on its effects accurately, they would have found that it applies to individuals who receive an interest in the profits of a partnership for certain services rendered, such as management or investment consulatation with respect to certain assets including securities and real estate. It would not apply to an individual who receives an interest in an auto dealership or fishing boat for services rendered to the fishing boat or dealership. The WSJ is just plain wrong. I will stop short of calling them liars, but just short. How do they get away with it?

The carried interest provision may apply to an individual who receives a proftis interest in a partnership that owns real estate or securities. So if a family owns real estate, hires someone to manage that real estate, and pays that person with a profits interest in the partnership, the provision would apply to tax (50-75% of) capital gains with respect to the manager's interest received as compensation for services at ordinary income rates. That's all it would do. Does that really sound as if it's going to hit 6.5 million americans?

Posted by: John | Jun 24, 2010 10:56:58 AM

What bilge!

The statement that the carried interest in a partnership is based on invested "at risk" capital is flat-out false.

The carried interest is typically earned by partnership managers for their managerial services beyond or disproportionate to any amount of capital "skin" they have in the game.

The WSJ should reserve its huffing and puffing mode for something worthwhile.

Posted by: John | Jun 26, 2010 7:04:43 AM