Bill Alpert

Meeting with Republican lawmakers Thursday, President Donald Trump said his budget priorities include ending the famously low tax rate enjoyed by private-fund managers on their rich payouts.

His threat to Wall Street's tax loophole is most likely a form of political shakedown.

Presidents and legislators in both parties have talked for years of ending capital-gains tax treatment on "carried interest," Wall Street's name for the 20% cut of investment gains that is compensation at Blackstone, KKR & Co., Apollo Global Management, Carlyle Group, and much of the alternative investment industry. The alt investment stocks shuddered a bit Friday, on the news.

For decades, fiscal- and civic-minded folks have overwhelmingly agreed that it makes sense to tax wealthy fund managers at rates of up to 37% that the rest of us pay on ordinary income, instead of the sub-24% rate of capital gains. Warren Buffett urged Congress to make the change in 2010. The Congressional Budget Office figures the reform would shrink the federal deficit some $13 billion by 2034.

Since 2007, alternating regimes of Democrats and Republicans have drafted bills and held hearings that threaten to close the "carry" loophole. But still it remains.

That's because both parties recognize that the periodic threat of closing the loophole is a proven cash cow, just like the never-ending discussions on changing the federal estate tax, say Edward McCaffery and Darryll Jones, two law professors who studied the history of these never-realized tax reforms. Both of those threatened reforms are a Washington gambit to shake down a deep-pocketed special interest group.

McCaffery, who teaches at the University of Southern California School of Law, calls it a "reverse Mancur Olson gambit," in honor of a political scientist who first examined how special-interest groups prey upon Congress. By threatening valuable tax loopholes, Congress turns the predators into prey.

"They usually bring it up and let people simmer on it for a little while, " says Jones, who teaches at Florida A&M University College of Law. "And then they designate somebody who could really use some campaign donations. That person becomes a skeptic about preserving carried interest for a while, and they let it cook. Then finally, they all come up with a reason why it ought not be really changed at all."

There are surely sincere voices on both sides of the carried-interest debate. Friday morning, Democratic senator from Wisconsin Tammy Baldwin introduced a bill to end the loophole, joined by several of her Democratic colleagues in the Senate and the House.

The funds industry, for its part, argues that low tax rates on carried-interest promote American growth. "Ending carried interest would harm American businesses, capital markets, and the U.S. economy," said Jillien Flores, head of global government affairs at the Managed Funds Association, in a Friday statement.

Washington will never let go of carried-interest taxation, USC's McCaffery tells Barron's.

"We predicted it would keep coming up, and I guess it has," McCaffery says. "It's hard to be too cynical. I hear we're talking about repealing estate tax again, too."

Write to Bill Alpert at william.alpert@barrons.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

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February 07, 2025 17:23 ET (22:23 GMT)

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