Investment partnership industry says tax hikes in Senate jobs bill are unfair

By Jia Lynn Yang and Lori Montgomery
Washington Post Staff Writer
Thursday, June 17, 2010

A week ago, two lobbyists representing Oaktree Capital Management, one of the nation's largest investment partnerships, met with congressional tax analysts and Senate aides to complain about a new tax buried in the Senate jobs bill.

Their worry: That Congress had vastly underestimated the impact that the measure would have on partnerships, one of the primary ways U.S. investors raise capital to invest in businesses and real estate.

"It's hard for me to convey how unprecedented and indefensible this is from the point of view of tax policy," said Oaktree General Counsel Todd Molz, who joined the meeting by phone. "I get that we're not a sympathetic industry, but this is changing a fundamental aspect of the tax law."

Oaktree's appearance was arranged by aides to Sen. Evan Bayh (D-Ind.), who went to law school with Oaktree's co-founder and counts the company as a significant campaign donor. Bayh, among a small group of Democratic senators sympathetic to the industry's concerns, was contacted by lobbyists as part of an increasingly frantic campaign to block a tax that would make it far more expensive to sell investment partnerships.

But on Wednesday, that lobbying campaign appeared to fail as Senate leaders unveiled a slimmed-down version of the jobs bill that included only minor changes to a provision that opponents are calling the "enterprise value tax," and the legislation could be approved as soon as Thursday. Bayh says he plans to back the bill, despite its effect on Oaktree and other investment partnerships.

Latest setback

This setback comes on top of an unsuccessful effort by lobbyists to kill a separate tax hike on "carried interest" -- the part of investment managers' pay earned from the gains of their clients' portfolios. In past years, these lobbyists were able to fend off the higher tax.

But this year, in the wake of a massive federal bailout of Wall Street, they've hit a wall: the revenue crunch.

Lobbyists thought they had a better shot at winning on the enterprise value issue than they did with carried interest. The tax increase on partnership sales was so obscure that it caught many in the industry by surprise.

"The carried-interest issue has been debated for several years, and those who defended it lost," said an industry executive close to the discussions on Capitol Hill. "The enterprise value thing is so new that people are still getting their arms around it."

Currently, when investors in a partnership sell their shares, any gains on their original investment are taxed at the so-called capital gains rate of 15 percent.

The latest version of the jobs bill would tax 75 percent of the proceeds as ordinary income -- which is higher -- beginning in 2011. For any partnership interest held for more than five years, the split would be 50 percent capital gains and 50 percent ordinary income. That same tax breakdown would also apply to carried interest. The net effect would be to tax gains from the sale of a partnership stake -- even if it was purchased on a public stock market -- at a higher rate than gains on other stocks.

Hikes to raise $14 billion

The carried interest and enterprise value tax hikes would raise $14 billion and affect managers of private equity firms, hedge funds, venture capital firms and real estate investment partnerships. Private equity executives, including Steve Schwarzman of Blackstone Group, have visited Capitol Hill to argue against the higher taxes, which they consider punitive and unfair.

Selling interests in these firms has become a lucrative business, especially for the biggest private equity firms. Blackstone Group went public in 2007, and its partners hauled in $4.7 billion from the deal. Supporters of raising the partnership-sales tax say the increase is aimed at discouraging firms from selling partnership stakes to avoid the higher carried-interest tax.

Some moderate Democrats have worried that the partnership-sale and carried-interest tax increases would hurt the venture capital industry, which tends to hold assets longer. The revised provision in the jobs bill seeks to allay those concerns by reducing the tax impact on firms that retain their investments for several years.

Bayh spokesman Brian Weiss said that the senator's staff invited Oaktree's representatives to the meeting last week at the offices of the Joint Committee on Taxation "to provide certain technical data." But the tax issue was never Bayh's top concern, Weiss said. Such meetings are routine, according to lobbyists and congressional sources familiar with the tax-writing process.

After Senate leaders scaled back the cost of the bill and added a housing tax credit that would benefit Indiana and 13 other states, Bayh told Senate leaders that he would support the package.

Staff researcher Alice Crites contributed to this report.

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