Rubenstein Sees Carried Interest on Table Post Election

David Rubenstein, co-founder of buyout firm Carlyle Group LP, said taxation of carried interest will probably be discussed as part of a comprehensive tax overhaul following the U.S. elections.

“After the lame duck, we expect that comprehensive tax reform will likely be on the agenda of the new Congress and the president,” Rubenstein, referring to the period after the new Congressional session begins on Jan. 3, said on a conference call today discussing his firm’s earnings. “Carried-interest taxation and a great variety of other issues will no doubt be addressed.”

Taxation of private-equity managers has come under scrutiny this year as Mitt Romney’s bid for the presidency shed light on the benefits enjoyed by some of the wealthiest buyout executives and investors. Now several executives see one of the industry’s treasured assets, the preferential tax treatment of its profits, in jeopardy as President Barack Obama seeks to remake the U.S. tax system in his second term.

Buyout managers receive most of their earnings as so-called carried interest, which typically equals 20 percent of the profits earned from investments they make using clients’ money. The profits are taxed at a 15 percent rate, rather than the 35 percent top rate that applies to ordinary income, because they are treated by the tax code as a capital gain.

Investors Lose

Romney, a co-founder and former chief executive officer of Boston-based buyout firm Bain Capital LLC, has a personal fortune estimated at $250 million.

Obama, who beat Romney on Nov. 6 to be re-elected to a second term, reiterated in his budget proposal earlier this year his intent to tax carried interest, which is earned by private-equity partners as well as hedge-fund managers, at ordinary income rates. The change would produce $10 billion in revenue from 2012 through 2016 and $21 billion over the next decade, according to the Congressional Budget Office.

“Obama’s win is a loss for private-equity investors,” Roger Freeman, a director of equity research at Barclays Plc, said in an e-mail after the election results were known. Dealmakers are “expecting higher taxes, including likely on carried interest.”

Changing the tax treatment of so-called carry was going to be a consideration under either an Obama or Romney administration, according to Leon Black, CEO of Apollo Global Management LLC, which oversees $105 billion. Congress will have to look at different sources of revenues to close the U.S. budget deficit, Black told Reuters at the SuperInvestor conference in Paris.

Council’s Plans

“It may not mean a direct hit to the bottom line for the firms, but investors will see their tax bills increase,” Freeman said.

The Private Equity Growth Capital Council, the industry’s lobbying group in Washington, is re-focusing its efforts now that the election is over. The group spent much of the year highlighting buyout success stories on the Web to counter criticisms of Romney’s private-equity tenure. Now it intends to return to convincing Congressional lawmakers that legal benefits in the industry also help the broader economy.

“We’re focused more on Capitol Hill,” Steve Judge, the organization’s CEO, said in an interview today at Bloomberg’s headquarters in New York. “Our members want to know whether there will be tax reform next year. They ask a lot about that.”

The council’s 36 member firms include Blackstone Group LP, the largest private-equity company by assets; Carlyle, the second-biggest; KKR & Co.; TPG Capital; and Apollo. The firms pay membership fees to the group, which advocates on their behalf.

Compromise Potential

“I’m sure the president will go after that,” Steven Kaplan, a professor at the University of Chicago’s Booth School of Business who studies the private-equity industry, said in a telephone interview regarding changing the tax treatment of carried interest. “What it really depends on now is what the House of Representatives and Obama can compromise on.”

The council is also lobbying to keep in place the tax deduction for interest on debt financing, which private-equity firms rely on to fund buyouts and amplify returns, as well as persuading lawmakers that partnerships shouldn’t be taxed as corporations, Judge said. Most private-equity firms are structured as partnerships.

‘Unintended Consequences’

Rubenstein has urged lawmakers to consider the effects of higher taxation on carried interest, which generates most of the cash profits collected by private-equity managers. A lifelong Democrat, the 63-year-old said in an Oct. 7 interview on Bloomberg Radio that the tax treatment of private-equity and hedge-fund profits shouldn’t be singled out, and should instead be considered in the context of comprehensive changes of the tax code.

“That’s one of the concerns that we’ve always had about this issue: the law of unintended consequences,” Rubenstein said today. “You don’t really know if you change the way that we’re taxed, whether the fact that the U.S. is the dominant private-equity country in the world will change or not.”


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