The Financial Times, in a new story, tells us that Trump is reviving a tax reform element he pursued unsuccessfully in 2017, that of closing the so-called carried interest loophole. It enables private equity kingpins to convert what ought to be treated as labor income (receiving profit participations from managing other people’s money) into capital gains, which is taxed at a much lower rate.
The short version of what follows is that we expect this to be at most Mexico-Canada tariffs 2.0: that even if Trump presses forward in a serious manner, he’ll declare victory after getting minor concessions, or here, tax code changes. This seems like a particularly likely outcome given the change in Trump’s position compared to his first term. Then, Hillary was the candidate of financiers, while the wealthy end of Trump’s backers consisted in large degree of local notables, meaning those who were influential on a city or state level, but not nationally, and often identified as self-made.
Trump now has considerable support from Silicon Valley squillionaries, which includes indirectly and even directly, venture capitalists who are convinced they need the carried interest loophole to keep their current level of high living. Trump now also has the support of Zionist money men like Bill Ackman. Admittedly, hedge funds don’t benefit much from the carried interest scam unless they are taking private equity like positions (which some do, recall Chatham Asset Management, nominally a hedge fund, having been an infamous owner of American Media Inc., of National Enquirer infamy).
We have written many times about the carried interest abuse, including past efforts to end or curtail it that looked like they were about to get done but of course did not (a gander through our archives shows, among others, serious assaults in 2015 and 2019 that came to naught. Note the Trump attempt wasn’t seen at the time as having enough potential to get done to merit much media coverage). An overview of the practice from a 2015 post:
The reason the “carried interest” label is a misnomer relates directly as to why it is also a tax abuse. Money managers like private equity and hedge funds enter into fee arrangements that include what the IRS calls a “profits interest” and a layperson would describe as a profit share. These firms enter into a prototypical “2 and 20” fee structure, meaning a management fee of 2% per annum of the committed capital plus 20% of the profits, usually after a hurdle rate is met.
Due to clever tax structuring, that 20% is taxed at a capital gains rate even though the managers have no or only a token amount of capital at risk (as in the investors generally require that the fund manager invest some of his capital alongside that of the investors, but it is typically in the 1% to 3% range, and in many cases, that amount isn’t actual cash, but instead a deferral of some of that 2% management fee, which by definition is excessive if the manager is in a position to defer it.*). In other words, they are being taxed at a preferential capital gains rate on what by any commonsense standard is ordinary income and should be taxed at ordinary income rates.
Key sections of the Financial Times article, Donald Trump seeks to close tax loophole enjoyed by private equity groups:
Donald Trump has told lawmakers he wants to end the special tax treatment of private equity and hedge fund profits known as “carried interest”, setting up a potential clash with America’s wealthiest financiers….
Many Republicans and some Democrats have resisted efforts to clamp down on that preferential treatment, helping the private equity industry maintain the status quo. A previous attempt early in Joe Biden’s presidency failed.
But Trump, who had tried and failed to eliminate the special tax treatment of private equity profits in 2017, has now put it back on the table.
“The battle over carried interest is likely going to be the toughest yet,” said one strategist who works closely with the private equity industry. “Trump wanted it gone in 2017 and was stymied by Congress, but today’s congressional Republicans hardly resemble darlings of high finance and are far more willing to fall in line behind the president.”
I could be proven wrong, but I think this view is naive. Private equity firms are staggeringly rich and powerful. For more than two decades, the industry has been the biggest source of fees to investment banks, white shoe law firms, and the top consulting firms. They are entirely capable of copying from the AIPAC playbook and threatening non-complaint Congresscritters of being primaried on their re-election bids.
Some additional detail:
The 2017 tax bill narrowed the scope of the benefit for private equity by extending the number of years an investment has to be held before the preferential treatment kicks in from one to three years. One scenario would be a further extension of that timeframe, as an alternative to a complete elimination of the loophole.
Remember that the pervasive use of the misleading “net present value” measure, which makes profits early in the life of an investment look more attractive than they are, encourages private equity firms to take some profits quickly to goose apparent returns. So the tax punishment for a less than three year holding period would seem to conflict with that practice.
I have not consulted any tax experts on this beat, but it seems that this implementation would encourage the use of the notorious “dividend recap” strategy. There, rather than sell the company quickly, the private equity owners drain value out of them by adding more debt and then paying investors a special dividend. One of the common methods for implementing this strategy is to sell company owned real estate (think retail stores or hospital buildings) to a new entity, and then have the company lease the properties, usually at inflated rates. This means the newly created real estate company can also be sold because it has a (theoretically) solid income stream. This is merely a crude idea based on recent practices; private equity tax lawyers get very big bucks for their schemes.
Similarly, the private equity partners could simply borrow funds so that instead of having a fake carried interest (as in at-risk capital contribution instead of a profits interest). Financial Times readers concurred that it would not be all that hard to work around a tax change were it to come about. For instance:
Sensiblequestions
The basic problem with trying to treat “carried interest” as income is that it’s actually not that hard to restructure things so that the same economic return is more clearly earned as a capital gain.So it would be a short-term victory. No one is going to sit around and just pay more tax on the same economic return.
Its a bit like the “main home” exemption from capital gains tax in the UK – its intended only to allow tax free returns on houses you really live in, but many builders/renovators use it to turn around, tax free, a house they invest in to do up by pretending they live there for a bit. Very hard to crack down on.
Same with “carried interest” which is just an industry term for the means by which investors in a fund agree that the manager of the fund will take a skim of the fund profits as an incentive to ensure that the fund does well.
So we’ll keep our eyes on this proposal but I would not get my hopes up.
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Early on, Trump talked about some very rich, very stupid people. Given priors all around, what is the likelihood of significant, or at least material, overlap between the carried interest beneficiaries and the team owners. NFL, NBA, MLB?
Talk about scores to settle.
but I think this view is naive. Private equity firms are staggeringly rich and powerful. Yes. Just another somewhat informed quick take, but I view this undertaking as leveraging the PE crowd to “bend the knee”.
This would make sense from what we have seen with Trump and his protection racket policy. He tends to threaten/impose negatives on an industry/group to get what he wants. Because they are powerful and rich may be exactly why he wants to force their support.
You miss that this won’t get through Congress, or at most only in a very watered down form. I explained why.
This is at best the Trump Mexico tariffs bluster. Extreme threat display for very little in return.
I did not mention that the last effort to curb private equity was one of the two triggers of the 1987 crash, per the Brady Commission report. Treasury wanted to end the tax deduction for highly leveraged transactions.
I think you’re on to something here. He has the bully pulpit. He has the masses. By making sounds of actually doing the right thing, he wins. Wall Street has no popular appeal whatsoever. They win when there is silence over this issue. So he is leveraging their huge vulnerability. If he pushes it and Congress resists, who looks like the bad actor here? Who wins this in the court of public appeal? Wall Street? Congress? No way. Trump does in a landslide.
Now keep in mind there’s no way it will ever get that far. The plan is to push the issue, not win it. For if the carried interest loophole is closed, all three parties lose big time. So the end game is all about more money and power coming Trump’s way. A profits (and influence) interest carved out of the Wall Street profits interest. A big something out of nothing. Now that’s the art of the deal for a man incapable of governing but very capable of scheming.
To quote Jonathan Capehart , “It’s all about perception.”
Just ban the practice of loading up companies with debt to buy them. Instead, make all that debt sit on the books of the buyout firm. In addition, greatly increase the prosecutions for control fraud, where the owners loot the company at the expense of the creditors, employees, suppliers and society at large. A few PE execs in jail would do US society a world of good. PE is just pure rent extraction, it does not serve a positive societal purpose.
Then also ban share buybacks and corporate executive stock options. Together that would help redirect executive attention toward actually running the business for the longer term and remove the constant gaming of financial results / stock prices to get more money for free for overpaid executives. And raise capital gains taxes (used to be called “unearned income”) to above the rates paid by people who get paid a wage or a salary.
Please don’t be unrealistic. Companies can’t be barred from borrowing. Their owners are allow to be stoopid and drive them into the ground, whether PE or deluded optimists or rich wastrels.
You’re right that banning debt is unrealistic, but further restricting tax deductions for high leverage on companies might get Roger half a loaf.
See my comment above. The last time that was attempted, it led to the 1987 stock market crash.
Private equity firms can’t crash the stock market, at least not by themselves; their positions aren’t exchange-traded
What is Susie Wiles’ position? Or JD Vance?
To get meaningful change, it’ll require someone high up in Trump’s administration to shepherd it along, past Congress and past the internal administration resistance (probably from the Project 2025 blob?).
Tom Krause is the man.
The Private Equity Hatchet Man Leading the Lost Boys of DOGE
Susie Wiles’ job as Chief of Staff is not to have substantive positions. Vance has been even more missing in action than is usual for a VP since the inauguration.
As I recall, Chuck Schumer, senator-wall street, has always found a way to avoid anything other than grandstanding on the carried interest loophole.
Probably this link from 2022 illustrates a family interest in preserving finance industry benefits.
https://jacobin.com/2022/08/chuck-schumer-family-son-in-law-blackstone-tech-finance-lobby
Trump may see the Democrats as wrestling competition that appears to fight for benefits for “their folks” but always loses.
I’ve taken to calling “Dividend Recaps” dividend de-capitalizations instead. Because they de-capitalize the companies, and usually with borrowed money.
There needs to be some kind of rule that dividends can only come from earned profits. Then again, I have all kinds of heretical thoughts. Like wondering why, if labor is the source of capital, why is it taxed at so much higher a rate? Shouldn’t some level of parity be a reasonable expectation? Or taking the position that the 2008 GFC should have been allowed to play out according to the rules the financial industry has itself created. Would it have sucked for everyone? Yeah, probably, but it also would have weeded a lot of the rot and poison from our corpus economicus, and the world would have kept on turning and the economy would have adjusted and we’d be on a different path.
But instead here we are, and the value extraction (via looting, pillaging, scamming, &c.) continues anon, while value creation continues to be the, for lack of a better analogy, red-headed step-child of the economy.
“Dividend kneecaps”?
Obligatory Kneecap Reference!
“Guilty Conscience”
https://m.youtube.com/watch?v=pa3ki8r8tVI
Translation here: https://genius.com/Kneecap-guilty-conscience-lyrics
[Móglaí Bap]
Dúbh dóite
Inár suí insan teach
Gan pingin rua againn le fiú dhul amach
Tá mé tinn tuirseach de bheith beo bocht
Ach tá sin ar fad ag dhul le athrú anocht
Mar tá mise ‘is Mo Chara ag cur le chéile pleananna
‘Is fuair muid ise ó doirteán, bham, bham, bham
Is roimh i bhfad beidh muid báite insan airgead
Tuilte go maith gan dabht young renegade
Ag rith thart, tryna grab what we can
Ó amharc, Mo Chara, sin security van
“Now look man, don’t wanna do you no harm
Just éist leis an scéal and I’m sure it’ll be grand
‘Cause my friend Mo Chara, he’s a bit of a psycho
The type of fella loses the head at a typo
So whatever you do, do whatever he says
So éist Mo Chara, abair leis an craic if he says no
[Mo Chara]
Móglaí get the noose, I’ll proper introduce myself
I’m Mo Chara, and I’m not well, are yis ready for abuse?
Ach ar dtús I’m sure you’re thinking, Aw look
That I seem decent and clever, don’t I feel bad for this ever?
[Chorus]
Guilty conscience, no thanks
I meditate and have plenty of wanks
And I never spare a second thought for c#nts in suits
And when the revolution comes, I’m first out to loot
Yeah
New guds (new guds), happy days (happy days)
So much comfort when you don’t have to pay
And when I’m happily tripped in designer gear
Then all of you c#nts are getting one behind the ear
Yeah
[Mo Chara]
Go raibh maith agat Móglaí , ar aghaidh linn in the stoley
Oíche Shathairn, ‘mon go haifreann
The collection box owes me
Agus tá sé te teolaí
‘is lán le pensioners homie
Tiocfaidh linn tús a cur le gaelgiggolos arís if you’re lonely
Money’s no more stress, buíochas le G4S
Tá ár bhfiacla ar fad íoctha, now it’s time to invest, huh?
Nah, I’m giving half to me ma
Some blood money for my honeys
And the rest to the ‘ra
[Chorus]
Guilty conscience, no thanks
I meditate and have plenty of wanks
And I never spare a second thought for c#nts in suits
And when the revolution comes, I’m first out to loot
Yeah
New guds (new guds), happy days (happy days)
So much comfort when you don’t have to pay
And when I’m happily tripped in designer gear
Then all of you c#nts are getting one behind the ear
Yeah
[Chorus]
Guilty conscience, no thanks
I meditate and have plenty of wanks
And I never spare a second thought for c#nts in suits
And when the revolution comes, I’m straight out to loot
Yeah
New goods (new goods), happy days (happy days)
So much comfort when you don’t have to pay
And when I’m happily tripped in designer gear
Then all of you c#nts are getting one behind the ear
Yeah
Yeah, yeah, yeah
OBE’s for the landlords
Never expected to see Kneecap lyrics on a thread about closing carried interest tax loophole for private equity firms. Fair play to you.
Is brea liom na leaids. Glad to meet a fellow Fenian (hope you’re not a Peeler!).
Everybody needs their warm and witty radical humanist hood chic as Gaeilge in their lives. I saw their film and Bam! I fell hard down the Fenian rabbit hole and two gigs later I am on a one man campaign to cross the streams wherever I go. :-)
I was tempted to post Sick in Head too, given it’s a bargain with the devil for wealth (and was on the Tonight Show with Jimmy Fallon so might reach more NC posters) but ultimately one behind the ear for the landlords is the stronger policy prescription.
If these are some of the final comments on NC, I’m just glad Kneecap will have the last word.
Beir bua agus beannacht, NC heads and Kneecappers all. Until we post again….