For most senior people in private-equity land, the vast majority of compensation comes from carried interest, while the junior employees derive their pay from salaries. Under the Biden carried-interest plan, the average partner at a major private-equity firm, who would make $30 million in carry if certain returns are met, could expect to pay about $13 million in taxes, up from $7 million under the current system, according to a Bloomberg analysis of pay data by recruiting firm Heidrick & Struggles.
For an average vice president, who is likely near the top 1% of earners, they could pay as much as $2.3 million to the IRS, up from $1.2 million.
To put those figures in perspective, the U.S. median household income was $68,703 in 2019, according to the U.S. Census Bureau. The average tax rate the year prior was 13.3%, according to the latest figures from the IRS.
Granted, even some in private equity wonder if their industry’s long-protected tax setup is fair. The founder of one private equity firm says he never thought the arrangement would last – that it has been, in effect, a Wall Street giveaway. He’s based in Texas, which has no state income tax.
That’s not quite how wealthy New Yorkers see things, whether they’re in private equity or not. New York is hiking its tax on the rich in order to funnel money to schools, the homeless and more. Biden, meantime, is seeking new taxes on the wealthy to pay for his plan to reshape the economy as the pandemic recedes here.
Giving away 60% of one’s income is beyond a fair share, says the private-equity veteran planning his move to Puerto Rico.
Opponents of tax increases on the wealthy have been arguing that even the slightest increase will send affluent New Yorkers fleeing to Florida, the would-be Wall Street South. That may already be happening. Almost 10% of New York-area residents who moved during the pandemic fled for one of the nine states without income tax—and the bulk of them went to Florida, according to U.S. Postal Service data.
Blackstone, Thoma Bravo and Apollo Global Management Inc. are each opening offices in Florida. One of Apollo’s co-founders, Josh Harris, is considering changing his primary residency to the Sunshine State—a move that could lower his tax burden if he starts selling his stake in the firm after his planned departure next year.
A slew of hedge fund titans have moved there or have opened hubs for staff making the jump.
Doing away with the tax incentives that promote risk-taking could choke off the American ingenuity that’s created many of the world’s best businesses, one of the industry executives said.
“By taxing the value creation at a higher rate, you are actually penalizing these small businesses and emerging managers which are really driving the growth in the economy,” said Nitin Gupta, a managing partner at Flexstone Partners, which invests in private assets. “Those smaller PE-backed businesses tend to grow and hire at faster rates.”
According to Paul Gulberg, an analyst at Bloomberg Intelligence, a key argument for maintaining the carried-interest loophole is that it aligns the interests of the limited partners, who invest money in private-equity funds, and the general partners who actually cut deals and make investments. Changing the tax arrangement might encourage GPs to focus more on the short term— not necessarily a good thing.
And given how private equity has infiltrated virtually every corner of the nation’s economic life, funds might be tempted to simply pass along any tax increase to pension funds, college endowments and other investors. Big players could consolidate their power. Smaller ones might struggle to break through.
“It may make it slightly harder for emerging managers to compete for talent,” says Brendon Parry, managing director at TIFF Investment Management, which primarily invests in lower middle-market private equity and early-stage venture capital for endowments and foundations.
In a business where money is the ultimate measure, everything is relative. One private-equity partner concedes he’s well compensated. But he adds that next to the founders, he looks poor.
There’s not much that can seriously diminish the giddy fortunes that have already been made. The founders at the top four publicly-listed firms—Blackstone, Apollo, KKR & Co., Carlyle Group Inc.—have reached billionaire status, according to Bloomberg. The multimillionaires are too numerous to count.
And the counter argument, of course, is that if private equity is so good at what it does, it shouldn’t need a tax loophole to make money.
“You can make billions of dollars in this industry if you’re good and if it’s taxed at 43%, oh well,” said Elizabeth Edwards, founder of H Venture Partners, a Cincinnati-based venture fund. “You’ve got $600 million instead of $1 billion. You can’t take it with you.”