A group of 255 of the UK’s top private equity dealmakers earned £2.7bn in carried interest in a single year, the kind of gain that has drawn scrutiny from politicians threatening to increase taxes on the industry.
The haul accounted for about 80 per cent of all carried interest — the slice of profits private equity executives make on successful deals — in the 2020 to 2021 tax year, according to an analysis by law firm Macfarlanes.
Carried interest is an important part of remuneration for private equity executives, often dwarfing the size of their salaries if they strike successful deals. Its tax treatment has long been the subject of debate in several countries, including the US.
In the UK — where private equity has spent nearly £80bn taking public companies private over the past five years — carried interest is taxed as a capital gain. That means a rate of 28 per cent is paid rather than the 45 per cent top rate of income tax.
The UK’s Labour party has planned a £440mn tax raid on the industry if it is voted into office at the next general election.
Tax campaigner and former Clifford Chance lawyer Dan Neidle estimated that the UK tax authority was missing out on about £600mn a year by taxing carried interest as a capital gain.
However, Macfarlanes said in a report that increasing taxes on carried interest could lead to the UK Treasury losing out if it sparked an exodus of highly paid and mobile dealmakers.
“Our hope, and we have a vested interest in that we advise the industry, we just want to get this information out there so Labour look at it and give themselves some wiggle room,” Damien Crossley, head of tax at Macfarlanes, said. “Maybe they can say they have closed a loophole without shooting the golden goose.”
The 2,550 private equity executives in the UK made a total of £3.4bn in carried interest in the 2020-21 tax year — and paid £952mn in tax — according to the Macfarlanes report. The data used by the law firm is the latest available and was obtained from HM Revenue & Customs through a freedom of information request, as well as information provided by private equity firms.
The departure of even a small proportion of the top dealmakers to different countries could mean the amount of money generated by increasing the tax rate per Labour’s proposals could leave the UK worse off, Macfarlanes said.
If 100 of the best-paid executives relocated, the UK would generate an additional £36mn in revenue, while if 150 of the group left, the UK would lose £269mn in tax, the law firm said.
In the wake of Brexit, other European countries have had some success courting well-paid financiers by offering them favourable tax treatment to relocate.
Italy and Spain tax carried interest at 26 per cent and 22.8 per cent respectively. Italy introduced a new tax regime in 2017 that exempts foreign income from Italian tax in exchange for €100,000 a year, for individuals who lived outside the country for at least nine years.
Of the individuals that were paid carry in the UK, the Macfarlanes study showed that more than a quarter were non-domiciled taxpayers. This, potentially, makes them more likely to move to another country if an unfavourable tax regime was introduced, the report said.
In the US, the Congressional Budget Office estimated in 2018 that taxing carried interest as ordinary income would raise an extra $14bn over ten years.
Politicians of both major parties, including President Joe Biden and his two most recent predecessors, have lent their weight to the idea of taxing carry. So have prominent figures on Wall Street, including billionaires such as hedge fund manager Bill Ackman and technology entrepreneur Michael Bloomberg.
But no administration has yet succeeded in passing the measure. The most recent attempt ran aground last summer, when the Democratic leadership dropped plans to tax carried interest from Biden’s tax and climate bill as the price of securing the support of Kyrsten Sinema, a Democratic senator who has received donations from Wall Street.