Attempt to increase hedge fund tax shakes Connecticut industry

Washington — Raising taxes on hedge fund managers, an idea that has plenty of popular support but has failed to gain traction, is under scrutiny in Washington again.

President Obama last week proposed ending the current tax treatment given to hedge fund managers, whose income is considered “carried interest” and taxed at the capital gains rate of 15 percent.

Hedge funds can invest in a wide range of financial products and are open only to select investors. Their managers usually invest in the funds they manage. They receive fees for managing the hedge fund.

Obama wants that income — a share of the profits on an investment fund — to be taxed like wages, which for the wealthiest Americans could be as high a rate as 39 percent.

Hedge fund managers are some of the richest people in the world, and according to Forbes, are getting richer. Thirty-nine hedge fund managers were on last year’s Forbes list of the world’s 400 richest billionaires.

Rep. Sander Levin, a Michigan Democrat, also wants to close what he calls a loophole that benefits these billionaires. He introduced legislation this week that would raise taxes on hedge fund managers, resulting in billions of dollars of new revenue for the U.S. Treasury.

That would have a big impact in Connecticut, home to more than 200 hedge funds and third in the world, after London and New York, in the size of its hedge fund industry.

So the Connecticut hedge fund industry is fighting back.

“The concept of carried interest is a core principle that’s imbedded in the tax code,” said John Brunjes, a Hartford-based attorney who is a director of the Connecticut Hedge Fund Association. “There’s a philosophy that earnings are taxed one way and wages another.”

To Brunjes, a change in the tax code would dissuade Americans from participating in the high-risk, high-gain world of hedge fund investing.

And if private investment dries up, “the impact on the economy would be devastating,” he said.

Levin doesn’t see things that way.

“There is absolutely no reason why income earned for managing other people’s money shouldn’t be taxed in the same way as income earned teaching or working in a factory,” he said. “This loophole for years has unfairly enabled some of the highest-paid individuals in the country to sharply reduce their tax bills, and it is time to close it once and for all.”

Levin has tried to change the tax code regarding carried interest since 2007. Republicans have been able to block his bill and may do so again. As of right now, there is only one co-sponsor to Levin’s bill, Rep. Charles Rangel, D-N.Y.

But this year’s debate has become part of a larger political fight over raising taxes on the rich. It also plays into the Democrat’s wish to pummel former Massachusetts Gov. Mitt Romney, who could be the GOP presidential nominee.

“The fact that one of the leading Republican presidential candidates benefits to such a significant extent from this egregious loophole only further illustrates the need to address this issue once and for all,” Levin said.

Romney’s tax returns show that he and his wife paid taxes at a rate just under 14 percent. His reported income of $42.7 million, including $12 million in carried interest.

Rep. Jim Himes, a Democrat whose 4th Congressional District, comprising Fairfield County, is considered “the hedge fund capital of the world,” said he’s still studying Levin’s legislation and hasn’t taken a position on it yet.

“It’s a complicated subject,” said Himes, who received $7,500 from the Managed Fund Association PAC in the last election cycle and once worked for Goldman Sachs, the global investment banking and securities firm.

But Rep. Chris Murphy, D-5th District, called the rules on carried interest “an egregious loophole.”

“It should be the first loophole to go,” said Murphy, who is running for the U.S. Senate.

Sen. Richard Blumenthal, D-Conn., also thinks the tax code should be changed “in the interest  of fairness.”

“I support treating carried interest like regular income instead of capital gains,” he said.

Although Blumenthal and his wife, Greenwich residents, have invested millions of dollars in hedge funds, he said his family’s financial situation “wouldn’t affect my vote.”

While Congress has rejected change in the past, said Bruce McGuire, president of the Connecticut Managed Fund Association, there’s a chance the hedge fund industry could lose the fight this year.

“We tend to make an easy target,” he said of the industry, “Especially in the (political atmosphere) we’re in now.”

Hedge funds were vilified when the stock market and housing market crashed because some blamed their promotion of risky investments and lack of regulation had a role in the economy’s collapse.