Pressed by President Barack Obama to support more revenue increases, congressional Republicans may relent on the carried interest loophole that tends to benefit wealthy Wall Street investors.
Despite the party’s long-standing resistance to tax hikes — particularly after compromising on the fiscal-cliff deal that allowed rates on higher earners to go up — some GOP sources say Republican members might agree to eliminate carried interest deductions because it would primarily affect wealthy Democratic campaign donors. The likely stiff resistance from New York Sen. Charles E. Schumer and other Senate Democrats would be a bonus. Republicans, sources say, are not motivated to protect contributors who have donated millions to their opponents.
Speaker John A. Boehner “can probably offer a carried interest amendment as one tax increase that is warranted,” said a Republican lobbyist with relationships on both ends of Capitol Hill. “If we are forced into a sequester conference that demands taxes, Democrats can screw their big, rich donors.”
A second Republican lobbyist said agreeing to close the carried interest loophole could serve as a GOP concession on taxes in any of the upcoming fiscal negotiations. The loophole allows investors whose earned income is generated mainly from investments to pay taxes according to the capital gains rate, which is significantly lower than the top rate on earned income most of these individuals would otherwise pay.
A GOP House aide confirmed Friday that carried interest was the most likely place where Republicans would compromise on tax increases — both because it would put top Democrats in a bind and because they believe its impact on the economy would be minimal. Republicans have argued against similar tax increases in the past on the grounds that it would discourage work and investment and harm economic growth.
But Schumer spokesman Brian Fallon disputed the notion that Schumer opposes closing the loophole: “Sen. Schumer supports closing the loophole, has twice voted to do so and will vote for it again the next time it comes up.”
And Don Stewart, a spokesman for Senate Minority Leader Mitch McConnell, R-Ky., rejected the premise that Senate Republicans would support eliminating carried interest. “I don’t know of any Republican effort to raise taxes, though it seems pretty clear that Democrats are eager to further tax their constituents,” he said.
Obama mentioned the issue in a TV interview earlier this month, and his spokesman listed the revenue it would generate as a possible replacement for some of the spending cuts included in the sequester. Michigan Democratic Sen. Carl Levin introduced a bill on the topic and suggested it would be a good vehicle. However, eliminating the loophole is not included in the Senate Democratic bill to replace this year’s sequester cuts.
“If the White House wants this tax hike, why isn’t it in the Senate Democrats’ plan?” asked Boehner spokesman Michael Steel.
But a Senate Democratic aide said Republicans might want to be careful what they wish for. “If Republicans think this is a way to get cute on taxes, the joke will be on them. We will take them up on their offer and pocket the revenue,” the aide said.
Taxing carried interest as normal earned income might not be as simple as it sounds, and there is vigorous disagreement about which technique for doing so would work best. Experts say closing the loophole could net the federal Treasury from $10 billion to $30 billion over 10 years.
Ken Kies, managing director of the Federal Policy Group, said he “would be very surprised” if carried interest is on the table.
“Republicans have just drawn a line at ‘no more taxes,’” Kies said. “Boehner and [Senate Minority Leader Mitch McConnell] have just been so emphatic.”
Meanwhile, investment firms, including hedge funds, that would be affected by eliminating the carried interest tax provision argue it would have a negative effect on economic growth at a time when the economic recovery remains tepid.
“Last year, private equity firms invested over $140 billion dollars in U.S.-based companies in every state and in every congressional district across the country. A tax hike on business investment would only serve to undermine our economic recovery and disincentivize the kind of entrepreneurial risk taking to start, save and grow businesses,” said Ken Spain, the vice president of public affairs for the Private Equity Growth Capital Council, the industry’s lobbying organization.