Tuesday, August 28, 2012

Fixing Carried Interest Today

Conventional wisdom seems to hold that Congress  must act for there to be any reform of the taxation of "carried interest" (the type of fees earned by investment fund managers such as Mitt Romney).  But if the goal is to tax carried interest at the same rate as, say, salary earned by auto workers, Congress need not act at all.  Rather, the Treasury Department could accomplish this on its own today.

This somewhat surprising conclusion comes from the fact that the Code already authorizes the Treasury Department to prevent taxpayers from using partnerships to convert certain types of income that would have been taxed at the ordinary 35% rate into income taxed at the preferential 15% tax rate.  For somewhat technical reasons, carried interest requires a partnership to be used for tax purposes.  Thus, Treasury could simply issue a regulation disallowing the 15% rate for carried interest.  Voila!  Carried interest fixed.

(Technically, Treasury could not issue a final regulation in one day.  But it could issue proposed regulations combined with a temporary regulation effective immediately upon publication and good for three years pending finalization, so long as the regulation is not "significant" - which Treasury believes (subscription required) tax regulations rarely are.  Close enough for my book.)

This may not be a "perfect" solution for many, or even most, people. It seems everyone has a pet theory, myself included, about what (if anything) should be done about carried interest.  But given the seeming inability of Congress to accomplish anything over the past couple of years, why waste time with Congress seeking a perfect solution when Treasury could enact a perfectly good one all on its own?

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