(See original post)

June 28, 2010

By Sam Goldfarb — sgoldfar@tax.org

As the Senate has steadily weakened a tax increase on carried interest income over the last couple of weeks, some policy observers have become steadily more frustrated.

For decades, some managers of investment businesses that are structured as partnerships have been able to claim a portion of their firm's profits as capital gains instead of ordinary income. Those earnings -- commonly referred to as carried interests and associated with hedge fund and private equity managers -- have drawn the ire of some progressives, who consider them to be among the most blatant examples of unfairness in the tax code.

Since Democrats took control of the House in 2006, Congress has been taking a close look at carried interests, and the House has voted twice to change their tax treatment entirely from capital gains to ordinary income. Although that legislation has repeatedly stalled in the Senate, things were looking different in 2010 -- at least until recently.

On May 20 the chairs of the House and Senate taxwriting committees announced that they had reached agreement on a tax extenders bill containing extensions of tax breaks and safety-net spending programs that were about to expire or had already expired at the end of 2009. One of the offsets for the American Jobs and Closing Tax Loopholes Act of 2010 (H.R. 4213) was a proposal to treat carried interests as a combination of capital gains and ordinary income. The provision would be phased in over time, but by 2013, 75 percent of carried interests would be taxed as ordinary income and 25 percent would be taxed as capital gains. (For the legislation, see Doc 2010-11323 or 2010 TNT 98-32 2010 TNT 98-32: Proposed Legislation. For prior coverage, see Tax Notes, May 24, 2010, p. 846.)

For House Democrats like acting Ways and Means Committee Chair Sander M. Levin, D-Mich., the proposal was a compromise, but its full endorsement from Senate Finance Committee Chair Max Baucus, D-Mont., seemed to bode well for its prospects.

Since then, however, the carried interest provision has been consistently diminished. Before passing H.R. 4213 on May 28, the House delayed the provision's enactment date from the start of 2010 to 2011. Shortly thereafter, Baucus introduced a substitute amendment to H.R. 4213 that would treat carried interests differently depending on how they were earned. Income derived from assets held for a longer period would be taxed at a lower rate than income tied to assets held for a shorter period. That approach was pushed further in a second substitute amendment in which carried interest income tied to assets held for at least five years would be taxed as 50 percent capital gains and 50 percent ordinary income, while income associated with assets held for less than that amount would be taxed at the originally proposed 75/25 split. (For the first Baucus substitute, see Doc 2010-12595 or 2010 TNT 110-35 2010 TNT 110-35: Proposed Legislation. For the second Baucus substitute, see Doc 2010- 13400 or 2010 TNT 116-23 2010 TNT 116-23: Proposed Legislation. For prior coverage, see Tax Notes, June 21, 2010, p. 1307.)

A third Baucus substitute amendment, introduced last week, made so-called technical corrections and clarifications to the carried interest provision. Like the other substitute amendments introduced before it, the latest substitute failed to overcome a procedural vote in the Senate, and the bill remained stalled on the Senate floor. (For related coverage, see p. 1416. News Stories For the latest Baucus substitute, see Doc 2010-14037 or 2010 TNT 122-19 2010 TNT 122-19: Proposed Legislation. For a Finance Committee summary, see Doc 2010-14029 or 2010 TNT 122-21 2010 TNT 122-21: Congressional News Releases.)

According to the Finance Committee, the carried interest provision in the newest Baucus substitute would raise $13.6 billion over 10 years. That compares with an estimated $18.7 billion that would be raised by the proposal put forward on May 20 and $28.6 billion that would be raised by the proposal in President Obama's fiscal 2011 budget, which would tax carried interests as 100 percent ordinary income. (For the Joint Committee on Taxation's revenue estimate of Obama's budget proposal, see Doc 2010-5625 or 2010 TNT 50-13 2010 TNT 50-13: Congressional Joint Committee Prints.)

Economic Effects Questioned

For some, the development of the carried interest provision has been dispiriting, if not altogether unexpected. It is "just the clearest example that the people with money can make their voices heard most clearly," said Steve Wamhoff, legislative director at Citizens for Tax Justice.

Although industry groups such as the Private Equity Council have been arguing that a tax increase on carried interests would lead to less investment and fewer jobs, those claims are "completely ridiculous," Wamhoff said. He noted that the capital gains tax has been reduced twice in the past 15 years without any noticeable increase in the number of private equity managers, who could take advantage of the tax benefit.

Even some conservatives have suggested that the incentive provided by the tax treatment of carried interests may be minimal. In a recent paper, Kevin Hassett and Alan Viard of the American Enterprise Institute wrote that the carried interest form of compensation would "likely be used even if it offered no tax savings" because managers of investment funds would still have plenty to gain by linking their earnings with the success of their funds. (For the paper, see Doc 2010-12491 or 2010 TNT 109-33 2010 TNT 109-33: Washington Roundup.)

In the opinion of Hassett and Viard, changing the tax treatment of carried interests would still be misguided. The "managers to whom the gains and dividends are allocated helped generate the gains and dividends," they wrote. If Congress believes in providing a special tax break for capital gains, the managers of investment funds deserve to benefit from it and can even help contribute to its effectiveness, they added.

For the most part, lawmakers who have been concerned about increasing taxes on carried interests have not been making technical arguments about tax policy. Rather, they have publicly worried about the economic impact of the tax increase, particularly on venture capitalists, who they have characterized as important job creators.

Fear is a driving force behind maintaining the tax-favored treatment of carried interests, said Sima J. Gandhi, a senior policy analyst at the Center for American Progress. Senators are afraid that changing the law would have the effect that lobbyists say it would have, even though the arguments that lobbyists are making are "very tenuous," she said.

Inside U.S. Trade

June 18, 2010

Bond, Thune Spearhead Efforts To Gut Foreign Tax Provisions From Bill

Vol. 28 No. 24

by Erik Wasson

Sens. Kit Bond  (R-MO) and John Thune  (R-SD) have emerged as champions of multinational firms in their fight to remove tax provisions from a bill now being considered by the Senate, which supporters say would close loopholes for U.S. firms doing business overseas and opponents claim would place them at a disadvantage to foreign competitors and thereby reduce U.S. exports.

The tax loopholes at issue relate to underlying provisions in the U.S. tax code designed to help U.S. firms doing business overseas avoid double taxation.

Proponents of closing the loopholes argue that the provisions in question are perverting the original tax exemptions by allowing multinationals to avoid U.S. taxes to a greater degree than they have been taxed abroad. Opponents of the bill's provisions say that the loopholes are needed enhancements to U.S. competitiveness in the global marketplace.

The eight foreign tax loophole provisions were passed by the House on May 28 as part of the American Jobs and Closing Tax Loopholes Act of 2010 (H.R. 4213).

They are also included in a Senate amendment in the nature of a substitute to the H.R. 4213 unveiled by Sen. Max Baucus  (D-MT) on June 16. The tax provisions were once again included in a revised Baucus amendment, which was changed to reduce spending, in the nature of a substitute introduced on June 17. That bill failed to win a cloture vote on the Senate floor on the evening of June 17 but could once again be revised.

They would raise $14.5 billion over ten years to pay for other provisions in the bill, such as the funding of Medicare reimbursements for doctors.

An amendment sponsored by Thune that included the elimination of the foreign tax provisions in addition to other controversial provisions was defeated on a procedural vote on the Senate floor on June 17. Thune's amendment 4376 would have also capped total federal employment and cut off remaining stimulus funds among other things.

Bond introduced amendment 4357 to strike the group of eight foreign tax provisions and another "carried interest" provision, which would force income for fund managers to be counted as ordinary income rather than capital gains that face lower taxes.

Sources said that the carried interest provision is opposed by key Democrats. In addition, swing vote Republican Sen. Olympia Snowe (R-ME) has come out against the bill's other revenue raiser which would affect the ability of services firms filing taxes as S Corporations to claim personal income as corporate income.

Bond did not offer his amendment on June 16 because that day's version of the Baucus substitute amendment was defeated on a procedural vote. But Bond expects to offer the amendment to the June 17 version of the Baucus bill, according to an aide.

Until Bond emerged with his amendment, opponents were fearful that they would lose the fight over the tax provisions. One opponent said a key lobbying challenge has been explaining the mind-numbing detail of the foreign tax provisions to senators.

Opponents are especially angered that the provisions would be retroactive to the date of introduction of the bill in May, thereby jeopardizing existing business deals, they say.

On June 14, major business organizations forming the Promote America's Competitive Edge, urged all members of the Senate in a letter to defeat the foreign tax provisions. The letter charged that these provisions will disadvantage U.S. firms vis a vis their foreign competitors and reduce American jobs generated by U.S. multinationals.

The letter was signed by the American Chemistry Council, the Association For Manufacturing Technology, the Association of Equipment Manufacturers, the Business Roundtable, the Business Software Alliance, the Emergency Committee for American Trade (ECAT), the Financial Executives International's (FEI) Committee on Taxation, the Information Technology Industry Council, the National Association of Manufacturers, the National Foreign Trade Council, the Retail Industry Leaders Association, the Silicon Valley Leadership Group, the Software Finance and Tax Executives Council, the Software & Information Industry Association, TechAmerica, TechNet, Technology CEO Council, U.S. Chamber of Commerce and the United States Council for International Business.

In a paper prepared for the Peterson Institute for International Economics, Gary Hufbauer and Theodore Moran argue that the provisions would spur U.S. multinationals to divest from the U.S. and move headquarters abroad. They argue that because of this the bill would actually reduce exports because these companies would suffer.

They cite a study showing that 10 percent increases in foreign investment result in a 2.2. percent increase in additional domestic investment, spurred by the increased profits earned abroad.

Rejecting these arguments is Steven Wamhoff of Citizens for Tax Justice, who says this logic is flawed. He said the 2.2 percent increase in domestic investment should be compared negatively to a 10 percent increase in domestic investment which the firm may be prompted to seek if it did not have the tax loophole for overseas operations.

He took issue with the Peterson Institute's conclusion that the tax credits are needed because the U.S. combined state and federal corporate tax rate of 39 percent is one of the highest in the world. Wamhoff argues that "corporate taxes in the U.S., as a percentage of GDP, are not particularly burdensome, compared to those of other industrialized nations." He states that U.S. companies should simply petition Congress for a lower corporate tax rate rather than abusing tax credits.

"These corporations are really using foreign tax credits to reduce their U.S. taxes on their U.S. income," he said. "Surely we should all agree that this is not the purpose of the foreign tax credit."

The U.S. taxes corporations on worldwide income while most other nations have a territorial taxation system that only taxes what is earned in their jurisdiction. U.S. firms would be at a disadvantage compared to foreign competitors if the U.S. did not allow them to deduct foreign taxes from their U.S. taxes.

Under current law, U.S. firms generally pay only the foreign tax on their foreign earnings and a small additional tax when repatriating the profits back to the U.S.

One of the provisions related to the "splitting" for foreign income was included in President Obama's 2011 Budget Proposal. This provision is opposed by some organizations such as the National Foreign Trade Council but other business representatives such as the Chamber of Commerce are neutral on it.

The splitting provision would specify that U.S. tax credits can only be granted on income when it is taxable in the U.S. It is targeted to firms which defer U.S. taxation indefinitely by never repatriating their profits and reinvesting it abroad while claiming a credit for future taxes on those profits.

A key provision out of the eight foreign tax loophole closers involves one allowing companies to characterize stock acquisitions as "asset acquisitions" for purposes for receiving a tax credit. Proponents say this loophole generates credits on income that is not taxable in the U.S. and therefore exceeds the mandate to prevent double taxation.

Opponents, such as the U.S. Chamber, say the provision encourages acquisitions by U.S. firms of foreign competitors and should be maintained.

Another key provision addresses the so-called "hop-scotch" rule which involves how dividends paid by foreign subsidiaries are granted foreign tax credits. Many multinationals, according to a House Ways and Means Committee summary of the bill, set up multiple tiers including subsidiaries located in tax havens.

The hop-scotch rule allows foreign dividends to be "deemed" as U.S. dividends and companies can claim higher tax credits than taxes actually paid, according to the Ways and Means summary. According to the U.S. Chamber, without the hop-scotch tax planning tool, multinationals would choose simply not to repatriate profits since they would not be given the tax credit any longer. -- Erik Wasson

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June 17, 2010, 2:12 pm
Pete Peterson and the Deficit
By DAVID LEONHARDT

Some commentators have vilified Peter Peterson, the investor and former Commerce secretary, for raising alarms about the deficit. They argue that Mr. Peterson is really trying to shred the American safety net. I’m not among the vilifiers. We should be taking the deficit more seriously, and Mr. Peterson is trying to make that happen.

But it’s certainly true that he and his foundation would help their case by supporting more deficit-reduction measures that hurt wealthy investors like him. Landon Thomas Jr. of The Times wrote a good article in 2008 explaining Mr. Peterson’s support for a special tax provision for investment income, and now the group Citizens for Tax Justice points out the following:

The Peter G. Peterson Institute, which is ostensibly concerned about the U.S. fiscal imbalance, has come out against provisions in [a Senate bill] that would prevent multinational corporations from abusing foreign tax credits…. [T]he credit is really being used by corporations to reduce their U.S. taxes on their U.S. income. Or, put another way, it’s being used to subsidize foreign countries by helping U.S. corporations pay their foreign taxes.

I’m not suggesting that anybody in favor of reducing the deficit needs to be in favor of every proposal to reduce the deficit. But it’s symptomatic of the larger problem if you’re opposed to too many deficit-reduction proposals that would actually affect you.

To quote Robert Choate, as I’ve done before here:

The public has a sort of sense that there’s a problem … They’re not daft. They realize that there’s a significant adjustment to come, but they tend to think it can be solved by increasing taxes that they don’t pay and cutting spending that they don’t benefit from.

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The Fine Print

June 3, 2010 Thursday

The Carried Interest Loophole-Closer is the Kitty and Congress is trying to put it in the Microwave

by gtherkildsen

Citizens for Tax Justice (CTJ) released an important call to action along with a report this afternoon about carried interest, the loophole that allows multimillionaire investment fund managers to subject their income to lower tax rates than the average citizen. The "extenders" tax package, which is currently before the Senate, includes a carried interest loophole-closer, but it seems that senators are listening to the fund managers' well-heeled lobbyists and their ridiculous claims against this commonsense policy change.

CTJ is urging everyone to call their senators and tell them that the "extenders" bill “ which includes badly needed unemployment insurance and COBRA health benefits, Temporary Assistance for Needy Families (TANF) jobs and emergency funding, and Medicaid funding for states “ must be passed.

To do so, call the Capitol switchboard at (202) 224-3121 and ask the operator to connect you to the senators from your state.

Additionally, CTJ released a report debunking the outrageous arguments that lobbyists, and unfortunately even some senators, are making in defense of the carried interest loophole. To justify this canard of a subsidy, lobbyists are claiming that if Congress taxes carried interest as regular income, instead of the at the lower capital gains rate, they will hurt everyone from minorities and low-income neighborhoods to small business entrepreneurs and cancer patients.

Read the CTJ report to get the outlandish rationale behind these arguments, but, not surprisingly, they don't hold much water. Indeed, "The only question left," as CTJ puts it, "is why exactly senators and their staffs are willing to parrot these arguments" rather than act on "a bill to provide jobs and relief for struggling Americans during a difficult time." Senators holding up the "extenders" bill because of their objection to the carried interest loophole-closer need to answer that question for every single one of their constituents.

Image by Flickr user paida70 used under a Creative Commons license.

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2010-06-03 17:45:06

By Hal Bidlack

It would be funny if it were not so darn sad: The Radical Republicans are insisting not that they have a plan to deal with real issues, but rather, that what everyone else sees as reality is, in fact, not actually happening. In the Radical Republican world, up is down, wrong is right, and lies are not lies if you say them loud and often enough.

The radicals that have seized control of the party of Lincoln, Barry Goldwater and Ronald Reagan have steered a course so far to the right that they have left the actual world and have entered Crazytown, and they want you to come along for the ride. The party that was, in theory, the party of small government, and respect for the individual has become the party of “No” in so many ways: No to looking out for the regular guy, No to even a hint of bipartisanship in Washington, No to the will of the people on health care, on the real science of climate change, on real Wall Street reform, and on over 200 bills passed by the House that the Senate cannot even talk about.

But now the Radical Republicans, with a straight face, demand not only that they be allowed to forget the ruinous eight years of President George W. Bush, but now they demand that the American public adopt this convenient amnesia as well. They would have us forget that Bush took a budget surplus of $236.2 billion (Congressional Budget Office) and turned it into a trillion-dollar deficit just eight years later. They would have us forget that there were no weapons of mass destruction in Iraq, that only the richest .03 percent of families actually pay the estate tax, and that they said it was OK for oil companies to not bother installing acoustic switches on deep-sea oil rigs.

Recently Coloradans have been treated to two different and remarkable demonstrations of Radical Republican Revisionist Rethinking (I call it the “pirate strategy” of “RRRR!”). You may have seen the television ads put out by the Republican Governors Association, desperately tossing buckets of mud at Denver Mayor John Hickenlooper. The RGA prattles on about job loss, conveniently ignoring the recession ushered in by the failed politics and Wall Street buddies of Bush and eight years of Republican control of the government.

Revisionist history in Radical Republican ads is not surprising, but getting caught in an outright lie can raise a few eyebrows, eh? You may recall in the ad, the RGA tossed a bucket of mud at Mayor Hickenlooper over Frontier Airline’s decision to supposedly move 340 jobs out of state because of “Hickenlooper tax hikes.” Only problem? Not true, according to Frontier, which took the unusual step of actually issuing a press release to object to the RGA’s false statements.

The simple facts are that Hickenlooper is a superb example of the “can do” spirit. He started out as a geologist in the oil business, started very successful small businesses, gives generously of his time and money, and was re-elected with a staggering 87 percent of the vote.

A second remarkable example of the way Radical Republicans look at the world came from Colorado Springs Mayor Lionel Rivera. By all accounts, Rivera is a nice man, and after my 25 years of military service, I have great respect for folks like Rivera who have served in uniform. But his comments show how truly out of touch with regular folks the Radical Republicans are. Rivera  recently said (after turning down $42.8 million in federal job money to help the unemployed find work) that the city didn’t want the money, and that, apparently losing your home and your dignity really is not a problem because, “Some people want a homeless life. Some people, they really do.” Wow.

And so here we are. The Radical Republicans are asking everyone to forget that they are at the lowest total tax rate since 1950 (USA Today) and that 99 percent of American families got tax cuts from President Barack Obama (Citizens for Tax Justice). They ask us to forget the cozy relationship that existed between Wall Street and Republicans. They ask us to forget that it was Bush that blew the budget out of the water. And they want you to think that Hickenlooper was the cause of job loss in Denver. As a small-business man, Hickenlooper created jobs, and during the recent financial crisis, he steered a course that kept Denver from feeling the worst of the effects of the Republican recession.

The RGA hopes that you are too worried about losing your job and your home to remember whose fault it was. But that tactic will fail. Coloradans are too smart for such blatantly false tactics, and they are too compassionate to accept Rivera’s world view. We choose to live our lives based on the real world, not the fantasy the Radical Republicans offer up. I guess we are lucky that the RGA wasn’t talking about the problem of hunger in America; they’d likely just say “let them eat cake.”

The Virginian-Pilot(Norfolk, VA.)

June 1, 2009 Monday
The Virginian-Pilot Edition

A tarnished Golden State

LOCAL; Pg. B9

By HAROLD MEYERSON

TO UNDERSTAND why the woes of California's economy threaten the nation's, we must understand the state's road to insolvency. The Age of Reagan did not commence with the Great Communicator's inauguration in 1981. For its real beginning, go back to June 1978, when Californians went to the polls and enacted Proposition 13. By passing Howard Jarvis' initiative, California voters reduced the Golden State to baser metal.

Under Republican Gov. Earl Warren and Democratic Gov. Pat Brown, California epitomized the postwar American dream. Its public schools, from kindergarten through Berkeley and UCLA, were the nation's finest, its roads and aqueducts the most efficient at moving cars and water to their destinations. All this was funded by some of the nation's highest taxes, which fell in good measure on the state's flourishing banks and corporations.

Amid the inflation of the late 1970s, however, the California model began to crumple. As incomes and property values rose, Sacramento's tax revenue soared -- but the parsimonious Democratic governor, Jerry Brown, neither spent those funds nor rebated them. With the state sitting on a $5 billion surplus, frustrated Californians passed Proposition 13, which rolled back and then froze property taxes -- effectively destroying the funding base of local governments and school districts, which thereafter depended largely on Sacramento for their revenue. Ranked fifth among the states in per-pupil spending during the 1950s and '60s, California sank to the mid-40s by the 1990s.

Since 1978, state and local government in California has been funded chiefly by personal income taxes. Bank and corporation taxes have been steadily reduced. In the current recession, with state unemployment at 11 percent, tax revenue has fallen off a cliff.

Another problem with Proposition 13 was that it made it very difficult to increase revenue. Raising taxes now requires a two-thirds vote of the legislature, though in 47 other states a simple majority suffices. California has become overwhelmingly Democratic in the past two decades, but Republicans have managed to retain footholds -- representing just over one-third of the districts -- in both houses of the legislature.

The conservative backlash of 1978 also swept into the legislature a new, proto-Reaganistic generation of Republicans, who dubbed themselves "the Neanderthals." The current Republican crop has refused in good times as well as bad to raise business or other taxes (increasing the tobacco tax, for instance, has failed each of the past 14 times it has come up for a vote). They protest that the state already has the nation's highest taxes. In fact, California ranks 18th among the states in percentage of personal income paid to state government, and its presumably beleaguered wealthiest 1 percent, according to Citizens for Tax Justice, pay just 7.4 percent of their income to the state, while the poorest Californians pay 10.2 percent.

But the myth of soak-the-rich high taxation persists among Republicans -- so much so that the GOP front-runner to succeed Arnold Schwarzenegger in next year's gubernatorial election, former eBay CEO Meg Whitman, is calling for cuts in business tax rates even though the state is staring at a $21 billion deficit that it must close. Unless the federal government steps in with a bridge loan, the state will throw 940,000 poor children off its health-care rolls and lay off tens of thousands of teachers.

Because California is so much larger than any other state, and its unemployment rate among the nation's highest, the collapse of its capacity to spend will counteract some of the effect of the federal stimulus and retard the nation's recovery . The Obama administration ignores California's plight at its own -- and the nation's -- peril. The nation's banks are stuck with so much bad paper from California mortgages gone awry that a huge contraction in state spending would make their assets even more toxic.

A more permanent, homegrown solution to California's woes (and it may take a state constitutional convention to get it) would require the state to eliminate the two-thirds threshold for enacting taxes, to repeal Proposition 13's freeze on the value of commercial properties (some of which are still assessed at their 1978 levels) and to end the process of ballot-box budgeting through the initiative process, which is now more dominated by monied interests than the legislature ever was.

Harold Meyerson is editor at large of American Prospect and the L.A. Weekly. This column appeared earlier in The Washington Post.