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February 26, 2009 |
Schiff Hardin Corporate & Securities and Tax Client Alert Budget proposes that "Carried Interest" be Taxed as Ordinary Income President Obama's proposed budget would eliminate the current tax treatment on the so-called "carried interest" received by investment managers of private equity, venture capital and hedge funds. An investment manager's "carried interest" is the percentage of a fund's profits that the manager receives in addition to receiving a return of and on its invested capital. Under current law, this share of the profits generally is taxed at capital gains rates. The summary of the budget that was released earlier today by the White House proposes to tax profits associated with carried interests as ordinary income. The line item in the budget summary that addresses the effect of this proposed tax change seems to indicate that the change will take effect in 2011. Please note that limited details are available currently on the proposal as only the budget summary has been released at this time. As investment managers and general partners in private equity, venture capital and hedge funds are now able to treat their carried interest as capital gains and thus pay tax at a rate of 15 percent, this proposed change would alter their after-tax returns on funds that they manage as their tax rate would increase to the regular income tax rate. Because these funds are long-term investments governed by partnership or limited liability company agreements, general partners and investment managers may wish to consider negotiating a change in their compensation if such a change in the tax law is approved. While the change in the taxation of carried interest would directly impact investment managers and general partners, investors in private equity, venture capital and hedge funds should expect that the investment managers and general partners of the funds in which they have invested may ask for modifications of their partnership agreements to address this change in their compensation. Investors may also wish to review their fund agreements and focus on whether or not a fund's partnership agreement authorizes the general partner to modify the terms of their partnership agreement in the event of a change in tax law that would alter the general partner's compensation. A limited number of fund agreements may even permit general partners to amend unilaterally the fund agreements to address the change, provided that such amendments do not adversely affect the limited partner investors. Other recent fund agreements that anticipated a possible change in the tax treatment of carried interest may permit the general partners to amend the fund agreements with the approval of the limited partners or the limited partner advisory committees. For more information, please contact:
ABOUT SCHIFF HARDIN LLP Schiff Hardin's corporate and securities attorneys provide the full range of corporate, securities and financing services for private and public companies throughout the United States and abroad. Our tradition of service to our clients — many of which we have worked with for decades — enables us to anticipate their legal needs and provide solutions tailored to their individual circumstances. Schiff Hardin tax attorneys advise clients on the tax aspects of the formation, financing, operation and termination of their business activities. Working in conjunction with the firm's corporate attorneys, clients are advised on the structuring of sophisticated business transactions involving mergers and acquisitions, reorganizations, liquidations and spin-offs in order to achieve optimal income tax results. A large portion of our tax practice involves counseling corporations, entrepreneurs, developers and syndicators on structuring joint ventures and partnerships. For more information, please feel free to contact us.
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