Explaining Carried Interest
Carried interest is the portion of profits that investment managers are paid as compensation. This income has generally been subject to the capital gains tax rate of 23.8%, far lower than ordinary income tax rates, which can go as high as 40.8%. Critics say this disparity lets wealthy investors pay a lower tax rate than many working Americans.
The Loophole: Bipartisan Work to Close It
The effort to change the taxation of carried interest enjoys bipartisan support. Sen. Tammy Baldwin and other lawmakers have pushed the Carried Interest Fairness Act to tax carried interest income at ordinary income rates. This legislation will help build a more equitable tax system while bringing in new revenue to fund public services.
What You Need to Know About the Industry Response
But the private equity industry has warned that the loss of the carried interest tax break would make its investors less likely to put money into funds that create new jobs and spur other economic activity. Industry advocates say that the current tax treatment encourages long-term investments and job creation.
Global Perspective
The fight about carried interest is not limited to the United States. A recent tax reform in the United Kingdom raised the rate on carried interest to 32%, and there is an intention to fully bring carried interest into the income tax fold by 2026. This initiative is part of an international trend to reconsider how investment profits are taxed.
FAQ
What is carried interest?
Carried interest is a portion of the profits that investment managers earn as compensation for managing the investment and is, in most cases, taxed at the capital gains rate.
What is the case for changing its tax treatment?
The criticism is that taxing carried interest at the lower capital gains rate gives rich investors an effective tax rate lower than what normal workers pay, causing many to call for it to get taxed as ordinary income instead.
How will changes to carried interest taxation affect the economy?
Advocates for the change argue that it will level the playing field in the tax code and generate more revenue for public services. Critics say it could stifle investment and slow economic growth.
We invite readers to leave their thoughts on this question in the comments. Do you think carried interest should be taxed at ordinary income rates? Participate in the conversation and share your perspective.
