WASHINGTON, DC-Congressional plans to tax private equity carried interest as regular income–a measure that would have a huge impact on real estate partnerships as well–are slowly moving forward. Yesterday, Ways and Means Committee Chairman Rep. Charles B. Rangel introduced a comprehensive tax plan that would, among other measures, more than double, to 35%, the tax rate on carried interest. Currently, it is taxed at 15%. Carried interest is the percentage of a fund, JV or limited partnership's profits that a general partner takes as compensation. Such profits are taxed at capital gains rates as opposed to ordinary income, which can be as much as 35%.
Not surprisingly, representatives from the real estate and financial communities have voiced strong protest against the proposal. The Building Owners and Managers Association (BOMA) International, for instance, says that taxing returns from carried interests at ordinary income rates will disrupt the investment relationship between entrepreneurs and their capital finance partners.
“The significance of this change will be felt most noticeably on 'Main Street' and in underserved cities and neighborhoods that require developers to take up-front risks in exchange for future profits in tough economic areas,” says BOMA International chairman and CEO Brenna S. Walraven, who is also executive managing director, national property management at USAA Real Estate Co. “In short, this huge tax increase would have profound unintended consequences to the 1.5 million workers directly employed by the real estate industry and the nation's 800,000 construction workers.”
The National Multi Housing Council and National Apartment Association says such a change in the law would have a negative impact on the production and renovation of affordable housing. “The partnership arrangements that utilize carried interests are vital to the development of new properties and the updating of existing properties across the US,” says Jim Arbury, NMHC/NAA's SVP of Government Affairs. “The unintended consequences of imposing new tax rules on the real estate industry will be felt throughout the country–not just on Wall Street.” Jennifer Bonar Gray, vice president of tax for the National Multi Housing Council/National Apartment Association Joint Legislative Program, gives a more extensive analysis on the issues here.
Noting that the “carried interest proposal represents a 133% tax increase, Jeffrey D. DeBoer, president and CEO of the Real Estate Roundtable, calls for further economic analysis of the measure. “Congress should study it further to be sure that the proposed solution for ensuring tax fairness does not unintentionally harm economic growth,” he says.
To be sure, there is virtually no chance the proposal will be enacted in this legislative session. Rangel has said he expects his wide-ranging proposal to require months of debate before it could be enacted. Also, it has been widely reported that Senate Majority Leader Harry Reid does not intend to schedule a floor vote for any carried interest legislation until next session at the earliest.
Critics of the bill, though, are getting more nervous about its prospects now that it has been linked to other tax measures. A stand-alone bill upping the tax rate on carried interest would have had little chance of passing, much less escaping a veto by Pres. George Bush, says William H. Venema, chair in the corporate and securities practice of Epstein Becker Green Wickliff & Hall, P.C and the managing partner of the Dallas office. Rangel's measure, though, links the tax increase to the abolition of the widely hated alternative minimum tax as well as an increase in the popular standard tax exception for a married couple and child credit. It is a very politically astute move, Venema tells GlobeSt.com. The president would have a more difficult time vetoing this measure, he says.
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Erika Morphy
Erika Morphy has been writing about commercial real estate at GlobeSt.com for more than ten years, covering the capital markets, the Mid-Atlantic region and national topics. She's a nerd so favorite examples of the former include accounting standards, Basel III and what Congress is brewing.
