TAX NEWS - JUNE 2010

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US Tax: Senate jobs bill would hike fund manager tax

Senate Democrats on Tuesday proposed to raise taxes on profits made by investment fund managers as part of a larger bill aimed at boosting the sluggish economy.

The bill marks the first time the Senate has taken up the measure to hike the capital gains tax rate for fund managers, but it softened the amount of the tax increase from a House of Representatives version.

Senate Democratic leaders said they were optimistic they could pass the far-reaching plan that aims to cut into the 9.7 percent unemployment rate, but it faces a tough battle among lawmakers concerned about government spending.

The bill extends jobless payments for hundreds of thousands of unemployed workers whose benefits lapsed at the end of May. It would also raise the oil spill liability trust fund tax to 41 cents per barrel from the current 8 cents per barrel.

Democrats are eager to show before November congressional elections that they are helping ease unemployment woes while getting tough on corporate America.

"We're going to pass this good jobs bill that's on the floor now," said Senate Majority Leader Harry Reid. "Among other things, it stops giving tax breaks as a reward for corporations that send jobs overseas."

But the bill faces challenges ahead. Republicans and some Democrats balked at the estimated $126 billion cost over 10 years. Some Democrats worried about the most controversial aspect of the bill -- the proposed new tax on investment fund managers -- and were reluctant to back the bill.

"Clearly, Democrats don't see a $13 trillion national debt for the emergency it is," said Senate Republican Leader Mitch McConnell. "Americans are as worried as I've ever seen about the course we're on. And they've got a simple message for Congress: Stop spending money we don't have."

Democratic Senators Mark Warner and John Kerry asked the bill's sponsor, Senate Finance Committee Chairman Max Baucus, to lessen its impact on long-term venture capital investments.

"Should the tax be higher? Yes," said Kerry, who has pushed for a compromise version of the tax to make exceptions for venture capital and other long-term investments. "But you want to do it in a way that doesn't hurt the long-term interest of capital formation and job creation."


"CARRIED INTEREST"

Democrat Ben Nelson expressed concern about the $24 billion in the bill to help states pay for Medicaid benefits for the poor as well as the provision to tax fund managers.

"It's an improvement, but I've had serious questions about whether that is an adequate offset," Nelson said. "Raising taxes to offset spending is not very appealing."

The Senate bill would raise taxes on investment fund managers profits known as "carried interest" but at a lower level than legislation approved by the House.

The $80 billion jobs bill passed by the House last month would gradually increase taxes on investment fund managers so that 75 percent would be taxed at higher ordinary income rates by 2013.

Fund managers in private equity, real estate and the venture capital industry now pay the current 15 percent capital gains rates on much of their profits, compared to the top 35 percent tax rate on ordinary income.

The Senate bill would tax 65 percent of investment fund mangers' profits at ordinary income tax levels by 2013. Long-term investments of seven years or more would be taxed at ordinary income tax rates on 55 percent of profits.

Private equity firms typically look to turn around and sell investments in a three- to five-year horizon, so a seven-year horizon is unlikely to be of much advantage to them. The proposal retains a contentious plan to tax owners on sale of the private equity firms themselves

The seven-year horizon could help venture capitalists, though.

The Senate bill, like the House version, would also raise $14.5 billion over 10 years by tightening tax rules on multinational companies, including clamping down on tax benefits for companies that keep funds offshore.


DEFICIT WORRIES

Concern about the $1.4 trillion U.S. deficit could make it difficult for Senate Democratic leaders to pass the bill. The House last month scaled back its version several times to appease wavering conservative Democrats grousing about costs.

The deficit and $13 trillion U.S. debt have become huge issues in the run-up to November elections. Europe's debt woes and market turmoil have added to voter and business unease.

But Democrats argue the legislation will help keep the economic recovery on track. Many are worried that focusing too quickly on deficit reduction will choke off the recovery and jobs growth, which could hurt them worse in the November vote.

The bill would extend a funding increase to states for six months to help them pay for their Medicaid health program for the poor, and extends expired business tax breaks, such as the research and development credit. It would also stop a 21 percent pay cut for doctors treating patients in the Medicare health program for the elderly.
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