That was fast.
No sooner had we begun pecking out a post on this morning’s report about hedge funds fleeing to Delaware to create shell companies to circumvent certain new impositions on their carried-interest tax rate than Treasury Secretary Steve Mnuchin let the world know – lest the 10-year yield pop above the widely feared 3% threshold – that the Internal Revenue Service will issue guidance within the next two weeks to outlaw the practice.
“I’ve already met with the IRS and our Office of Tax Policy this morning as a result of that article,” Mnuchin said Wednesday during a Senate Finance Committee hearing, referring to a Bloomberg News story about hedge fund managers creating shell companies to work around stricter limits on carried interest. “Taxpayers will not be able to get that loophole.”
Mnuchin made his comments in response to criticisms from Oregon Senator Ron Wyden, the ranking member of the Senate Finance Committee, who questioned the administration’s decision to change the carried-interest requirements to force hedge funds to hold assets for three years now if they want to qualify for the lower rate. Previously, investors only needed to hold them for one year.
Wyden called the provision “a farce.”
As Bloomberg explains, carried interest is the portion of a fund’s returns that are paid to hedge fund managers, private-equity players, venture capitalists and some real estate investors. For federal tax purposes, it’s eligible for a tax rate of 23.8% – which includes a 3.8% tax on investment income imposed by the Affordable Care Act – on sales of assets held for at least three years. Otherwise, it’s treated as ordinary income and managers face a top federal income tax rate of 37%.
Big names have appeared to be embracing the tax dodge, which involves setting up LLCs for managers to help them shield some of their pay from the higher rate. For example, four LLCs have been created under the name of Elliott Management Corp., the hedge-fund giant run by Paul Singer. More than 70 have been established under the names of executives at Starwood Capital Group Management, the private-equity shop headed by Barry Sternlicht.
And we imagine many more would’ve followed – if the Democrats hadn’t turned up the pressure.
That being said, the Republican party right now doesn’t exactly have the best relationship with the IRS…