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USA

Carried Interest and Enterprise Value Tax

In September 2011, renewed proposals to tax ‘carried interest’ and make changes to the enterprise value tax, were announced by President Obama. The American Jobs Act, which the President urged Congress to adopt, would cause carried interest to be treated as ordinary income.  Primarily, the proposals would seek to tax as ordinary income, and make subject to self-employment tax, a service partner’s share of the income of an investment partnership attributable to a carried interest because such income would be considered to be derived from the performance of services. To the extent that a service partner contributes “invested capital” and the partnership reasonably allocates its income and loss between such invested, capital and the remaining interest, income attributable to the invested capital, would not be recharacterised.

The proposed change to the enterprise value tax sought to tax profits on the sale of an investment management partnership, for example a hedge fund or private equity firm, at ordinary income rates of 35%. Proceeds from the sales of these and other US businesses are currently taxed at a 15% capital gains rate. 

The proposals are the subject of considerable controversy and, to date, have not been proposed for or passed into legislation. 

Key legislative documents

The American Jobs Act (2011)

Other relevant documents

Letter from Sander Levin to Joint Select Committee on deficit reduction (October 2011)

White House analysis and supporting statement (September 2011)

Office of Management and Budget Report (September 2011)

Unincorporated Business Tax

In early December 2011, it became apparent that the New York City Department of Finance was considering a new audit position that could have the effect of increasing the annual New York City unincorporated business tax ("UBT") liability of investment managers operating there (through a partnership or an LLC) where an affiliate of the manager acts as the general partner of a fund and receives the incentive allocation from the fund (which is not subject to the UBT).

Such new audit position would treat a portion of the expenses incurred by the investment manager as being attributable to the incentive allocation earned by the general partner (and therefore not deductible by the investment manager).  If this position were successfully asserted, the investment manager would have a greater amount of net income (or a lesser amount of net loss) subject to the UBT. It has also been suggested that the Department of Finance may look retrospectively and seek to challenge prior year expenditure.

The proposals are the subject of considerable controversy and, to date, have not been proposed for or passed into legislation.