The Wall Street Journal editorial board needs a tax lawyer. Or someone who can read a statute.
This morning’s editorial claims that the carried interest legislation will increase the tax rate on “millions of Americans.” It won’t. Here’s the editorial:
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.
In fact, the carried interest legislation is much more narrow. It only affects holds of an “ISPI”–an investment services partnership interest–which means that you advise on buying and selling, manage, or arrange financing for the acquisition of “specified assets”. Specified assets include securities, real estate held for investment or rental, interests in partnerships, commodities, options, and derivative contracts. It does not include operating businesses like an auto dealership, fishing boat, or construction company.
Most people who run a family business run an operating business, not an investment management company. I understand the concern raised in the editorial; once you include real estate in the definition of specified assets, you have to find a way to distinguish between the development of a commercial office building and, say, a restaurant. But because the statute only reaches real estate held for rental or investment, the owner of a restaurant isn’t going to be touched.
As to the scope of the bill generally: if I were drafting the bill, I would have limited the scope to investment management firms, tying the definition to the 40 Act. There’s no particular reason why real estate developers (or anyone else) should pay tax at a lower rate on their labor income than other high-income earners, but the equity, efficiency, and distributive justice concerns are so glaring in private equity, and I think it’s easier to fix one problem at a time.
But back in 2007, lobbyists for private equity pushed to *expand* the definition to include real estate and venture capital. The PE strategy assumed that the broader the scope of the bill, the less likely it is to succeed. They were right in 2007. We’ll see what happens this week.