tag:blogger.com,1999:blog-9208928.post878879766061116810..comments2024-03-18T20:05:52.486-04:00Comments on Start Making Sense: Hedge funds / carried interestsDaniel Shavirohttp://www.blogger.com/profile/14710628584922961682noreply@blogger.comBlogger7125tag:blogger.com,1999:blog-9208928.post-77592139780855712212007-11-07T00:23:00.000-05:002007-11-07T00:23:00.000-05:00Thanks. You have given very helpful tips. The tips...Thanks. You have given very helpful tips. The tips I have needed.<BR/><BR/>ForexCTAsUnknownhttps://www.blogger.com/profile/06117830145457177222noreply@blogger.comtag:blogger.com,1999:blog-9208928.post-66057814681084483062007-08-23T22:10:00.000-04:002007-08-23T22:10:00.000-04:00The article is interesting, the comments is good a...The article is interesting, the comments is good also. Its a good reference to consider.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-9208928.post-15790622530233470812007-08-15T22:47:00.000-04:002007-08-15T22:47:00.000-04:00I think the true focus of the issue is the inaccur...I think the true focus of the issue is the inaccurate guidance of Rev Proc. 93-27 that states receipt of a profit interest is a not a taxable event.<BR/> <BR/>The procedure was issued in response to court ruling in Campbell v Comm that found a profit interest was not taxable because the interest was too speculative. The court did assert that a profit interest is income to the partner, and had the court been able to figure out FMV a taxable event would have been held (Reg 1.721-1(b)).<BR/><BR/>The IRS should have recognized the earning of a profit interest as a taxable event, and deferred the tax event until realization (liquidation/redemption). This would be consistent with the code and the intention of Congress to realize the interest in receivables and inventory on the sale of capital a capital interest. Exception in the case of a profit interest would be deferral. <BR/><BR/>Recognizing a profits interest does two things:<BR/>1. Establish date a Profit Interest in earned (ordinary income), and<BR/>2. Establish the date a Carried Interest begins accruing (now treated as a capital interest). <BR/><BR/>The argument of speculation for a hedge fund is defeated upon realization, and the fact that the fund makes a re-allocation based to facilitae allocations establishes recognition. Once a partner makes a redemption (gets paid) the proceeds should first be income, then capital.Anonymoushttps://www.blogger.com/profile/06057515332549853562noreply@blogger.comtag:blogger.com,1999:blog-9208928.post-78407418751495140622007-07-29T23:04:00.000-04:002007-07-29T23:04:00.000-04:00Thanks, Craig, and these are interesting & importa...Thanks, Craig, and these are interesting & important pieces of the puzzle. I start out from the position of wanting to tax these things, but finding the C corp tax an issue that needs to be considered before one reaches the bottom line. You're showing additional ways the C corp tax may fail to do the job, and you're adding to the story the debt-equity problem, whereby tax incentives to strip out corporate earnings through debt without the interest's being taxable at the corporation's deduction rate makes it positive sum for the TPs, and where the excess debt then in turn creates incentive problems in corporate investment choice. The perspective you add makes the overall story more complicated by suggesting that the serious defects in the corporate tax (in particular the debt-equity distinction, with the former being held by tax-exempts and the latter by taxables) are critical hereDaniel Shavirohttps://www.blogger.com/profile/14710628584922961682noreply@blogger.comtag:blogger.com,1999:blog-9208928.post-84832434395615258922007-07-28T02:50:00.000-04:002007-07-28T02:50:00.000-04:00Professor:I'm glad you pitched in. I understand t...Professor:<BR/><BR/>I'm glad you pitched in. I understand that we're talking here about corporations paying the statutory rate (assuming the effectiveness of such), but an article from today's (Fri., 7/27) WSJ front page discussed private equity firms' use of corporate-level debt to "pay out" or return to PE firms (as a dividend) their initial cash investment soon after taking a company private. This, of course, reduces taxable income at the corporate level (which presumably would be taxed at the statutory corporate rate) and allows those forgone corporate profits to be taxed at the lower LTCG rate within the PE partnership tax scenario. Does this affect your analysis at all? I'm also led to believe that PE funds are structured in such a way to avoid immediately realization at the LTCG rate of those debt-funded dividend payments. <BR/><BR/>Finally, to echo Bill's point, PE firms, once their initial cash contribution is returned through this device, may then run the company in a less risk adverse manner -- with regard to both debt-default risk and with regard to layoffs that are triggered by the need to improve cash flow to make interest payments -- than the managers who ran the corporation prior to the PE buyout (the PE funds have less "skin in the game," don't they?). Moody's earlier this month warned of exactly this problem, which they also noted often led to creditors/PE funds breaking debt covenants with bondholders when they do such a thing.<BR/><BR/>I'd love to hear your thoughts on this. <BR/><BR/>Here's a news report on the Moody's white paper:<BR/><BR/>http://www.cfo.com/article.cfm/9463919Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-9208928.post-90871198683066802952007-07-27T14:51:00.000-04:002007-07-27T14:51:00.000-04:00Thanks, Bill. These are very helpful points, whic...Thanks, Bill. These are very helpful points, which I will keep in mind if I end up writing about this stuff (as I am starting to think I will if time permits).Daniel Shavirohttps://www.blogger.com/profile/14710628584922961682noreply@blogger.comtag:blogger.com,1999:blog-9208928.post-62770995804382815662007-07-27T14:14:00.000-04:002007-07-27T14:14:00.000-04:00Interesting and insightful. I suggest a further re...Interesting and insightful. I suggest a further refinement (though it may be purely academic, with no siginficant policy implications). The source of Gates's untaxed capital appreciation might be divided into three elements. (1) Retained earnings. These have been taxed at the corporate rate so if you buy the arguments for integration (as I do), there appears to be no problem--except for the fact that millions of other investors in corporate equities will in fact be subject to the dual tax (on distributed earnings). (2) The value of Gates's services. No problem here since the effect, with no salary deduction, is that Gates is currently taxed at the corporate rate. (3) The value of intangible assets. I suspect that in the case of Microsoft this is the largest element. This value should equal the discounted present value of the future earnings stream attributable to the intangibles. That earnings stream will ultimately be taxed, so what is at stake is deferral, not exemption (though the deferral is a substantial tax benefit, as we all recognize). But note that if Gates gives his stock to a charitable organization, it will in effect wind up paying the tax--at the corporate rate (reduced, I suppose, by the value of the deferral). <BR/><BR/>Another, unrelated, observation: Much of the gain attributable in private equity deals to reducing costs comes from firing part of the labor force. So the hedge fund operators and their investors benefits at the expense of these workers. That might be acceptable--it is a function of the operation of a capitalist system, after all, with all its virtues and vices--except to the extent that involves breach of implicit (not legally enforceable) "contracts." To that extent it imposes costs on future economic transactions by undercutting the value of trust and thereby increasing transactions costs and reducing efficiency.Anonymousnoreply@blogger.com