Remember carried interest? It's the way private-equity bosses make most of their money — and it's taxed at a relatively low tax rate. The Senate may soon change the law so that the money is taxed at a higher rate.
Perhaps inevitably, the private-equity folks are already looking for ways to beat the proposed new rules.
Private equity firms typically get paid a flat fee, plus a percentage of the profits that their funds make. The percentage of the profits is what's known as carried interest. It's taxed as a capital gain (at 15 percent) rather than as ordinary income (which is taxed at 35 percent for the highest earners).
The House has repeatedly passed bills that would change this; now the Senate may pass a similar bill as well.
That's prompting people in the industry to look for new deal structures that would allow them to keep the lower tax rate, this morning's NYT reports.
The basic gist is that the private equity people want their profits to be treated like those of investors, even though they're not putting their own money at risk.
A few possibilities for how they might achieve this:
- Private equity execs might sell their 'carried interest' rights in exchange for cash, then use the cash to invest directly in the deal.
- Investors in a private-equity fund might make a loan to the private-equity firm, which the firm would use to buy a stake in the deal.
- Rather than use the current partnership structure, private-equity firms might structure deals so they get "founders' shares" in the companies they invest in — like the equity shares that people who start new companies get. When founders sell their shares,the profit is treated as a capital gain.