Senators Cautious On Plan for Equity Tax
Hearing to Set Tone for Course on Higher Rates Paid by Fund Managers

By Jeffrey H. Birnbaum
Washington Post Staff Writer
Tuesday, September 4, 2007

The spring rush to raise taxes on private-equity firms and hedge funds has turned into a crawl as congressional tax writers, particularly in the Senate, take a cautious approach to crafting the legislation.

As lawmakers return today from their summer break, the boldest version of the tax legislation appears to have a good shot at passing in the House before year's end, but its prospects in the Senate are not as strong, and President Bush is also likely to have reservations about the measure.

In interviews last week, the chairman and the ranking Republican on the Senate Finance Committee said they had not decided whether they favor raising tax rates on the profit paid to fund managers, called carried interest, and therefore will go slowly on the issue.

"I'm looking at it," said Sen. Max Baucus (D-Mont.), chairman of the tax-writing finance panel. "But it's a very complicated subject. I want to make sure we know what we're doing."

He said he would wait until after a hearing on the subject scheduled for Thursday before setting the committee's course. A hearing on the same general topic is planned on the same day before the House's tax-writing panel, the Ways and Means Committee.

Ways and Means Chairman Charles B. Rangel (D-N.Y.) sounded more upbeat about the prospect of approving a tax rate hike on carried interest, declaring it a "possibility" this fall.

Rep. Jim McCrery of Louisiana, the senior Ways and Means Republican, was more definitive. He said that the committee and the full House would probably approve a carried-interest tax increase this year, despite his opposition and that of most of his fellow Republicans.

"Some version of that will be included before the year is over," McCrery said. "But its prospects in the Senate are less favorable than prospects in the House."

A tax proposal with a narrower scope -- and a much smaller revenue take -- has a brighter future. The bill, authored by Baucus and Sen. Charles E. Grassley (Iowa), the Finance Committee's ranking Republican, would tax private partnerships that trade publicly as corporations, a change that would increase their tax rate to 35 percent from, generally, 15 percent. "Senator Grassley and I will probably put it on a bill," Baucus said.

McCrery said that some form of that legislation is likely to pass this year, perhaps with his support.

The debate over how to tax financial firms started this spring, when senior lawmakers in the Senate and then in the House proposed the two pieces of legislation in quick succession.

The lawmakers were spurred to action soon after private-equity firms, also known as buyout firms, started to sell themselves to the public and were forced to disclose how much their managers earn. The amounts were eye-opening. Stephen A. Schwarzman, a co-founder of the Blackstone Group, one of the world's largest private-equity firms, pocketed $684 million after his company went public, for example.

Baucus and Grassley acted first, introducing the bill that deals with publicly traded partnerships like Blackstone. The measure would increase the firms' tax rate over time to 35 percent from the 15 percent capital gains rate it currently pays.

Then, in the House, which originates tax legislation, senior members of the Ways and Means Committee, including Rangel and Rep. Sander M. Levin (D-Mich.), recommended raising the tax rate for managers of all sorts of private-equity firms and not just those that go public.

The spurt of activity spawned a swift reaction from the firms under attack. They retained lobbyists and tax experts in large numbers from the best-connected law firms and consultancies in Washington. In the first six months of this year, private-equity funds dispensed at least $5.5 million for lobbying assistance, according to public records.

The onslaught had an affect. "They are very powerful interests to overcome," Grassley said. "I think they've made some impact."

Still, tax writers have been scrambling to find sources of revenue to offset many costs, especially a proposal to prevent the alternative minimum tax from raising taxes on 23 million households this year. The tax was originally designed to prevent millionaires from using tax breaks to avoid income taxes but has grown to hit upper-middle-income families, as well.

Reining in the AMT for 2007 alone is expected to cost more than $50 billion. The carried-interest tax increase is among a variety of options under consideration in Congress to raise that money.

Grassley said he would "fix" the AMT without trying to find offsetting revenue. But Baucus and Rangel said they were determined to stick as far as they could with new congressional rules that mandate that all tax cuts be paid for.

Another possibility raised by Rangel to generate substantial revenue is to impose a surtax on the highest-income Americans, those who earn more than $250,000 or $300,000 a year. Baucus, however, was not optimistic about that proposal. "It will be difficult for that kind of provision to pass the Senate," he said.