Carried Interest in the Crosshairs
As Congress considers tax reform in 2013, private equity comes under fire
With the start of a new year and the presidential campaign finally in the rearview mirror, the government is getting back to business. So what's on the agenda? Well, of course no one knows for sure, but there's a pretty good indication that the private equity industry’s tax advantages could disappear. The presidential election brought unprecedented attention to the industry and the enormous personal wealth it can generate, thanks to Bain Capital co-founder Mitt Romney's failed bid for the White House. Now the government needs to raise money, and policy makers may view private equity as a cash cow. On a macro-economic level, the U.S. is deleveraging and there's massive debt hanging over the nation's head. In fact, government spending is projected to outpace revenues by more than 25 percent over the next decade, unless something changes, according to the Congressional Budget Office, a nonpartisan agency that analyzes costs. The federal government is looking for ways to close that gap. Could private equity be the answer? Here's a look at some of the policies and tax issues likely to affect the private equity industry during 2013.
In the broadest sense, most industry experts believe tax reform will be on the agenda during the 2013 Congressional session. The so-called "fiscal cliff" threatening the U.S. at the end of 2012 underscores the need for tax reform. Historically, substantive tax reform has only taken place three or four times in the U.S., most recently in 1986, which was more than 20 years ago. Every constituency has a stake in the outcome, which makes it challenging for policymakers to reach an agreement. Successfully implementing tax reform is difficult, so most of the time, it gets ignored. But with the recent fiscal cliff fiasco, everyone has realized tax reform is long overdue. That said, no one likes his or her taxes increased. But, unlike the recent picture that's been painted in the mainstream media, it seems that private equity dealmakers welcome tax reform at the highest level as a better alternative to Congress' haphazardly targeting the private equity industry year after year to generate revenue.
"If tax increases to private equity aren't part of a larger tax reform, dealmakers feel, and perhaps rightfully so, that lawmakers will just come back and ask for more at a later date. If an increase in taxes is part of a real tax reform, it shows the industry that Congress has really looked at the industry, considered the implications and that it's not just being used as this year's revenue raiser," says Mel Schwarz (pictured right), a partner and director of tax legislative affairs in Grant Thornton's national tax office. "The industry has to feel that the deal that's struck will be in place for some extended period of time. If it's not part of a larger tax reform package, the industry will feel like it's always on the table."
What's more, people in the industry recognize tax reform is necessary. "We can't continue to be in a tax crisis, year after year. Businesses can manage business risk, not political risk," says Brett Palmer, president of the Small Business Investor Alliance (SBIA), which lobbies Congress on behalf of the small-to-middle-market private equity industry.
However, when the tax reform discussion heats up, nothing will be off limits, and industry associations, such as the Association for Corporate Growth (ACG), are urging private equity firms to stay abreast of the ever-changing situation. "It's critical that middle-market private equity professionals remain vigilant and become engaged in the dialogue," says Gary LaBranche (pictured left), president and CEO of ACG (pictured). "There are so many items that will be on the table. It is critical that Congress understands the role private equity plays in building and growing middle-market companies. Punishing PE will negatively impact middle market growth."