Private equity tax strategies probed by US authorities

KKR, TPG Capital, Apollo Global Management, Silver Lake and Bain Capital are among those that have been targeted, The New York Times reported. The investigation has inevitably taken a political twist as Eric T. Schneiderman, the attorney general, is a Democrat with ties to the Obama administration and Obama will face Mitt Romney, who founded Bain, in the US presidential election in November.

The tax strategy in question emerged in the public domain after hundreds of Bain's internal financial documents were made available online last month. The documents showed that at least $1 billion in management fees, which would normally be subject to an income tax levy of 35%, had been converted into investments generating capital gains, thereby qualifying for a 15% tax rate. However, the subpoenas are said to pre-date the document leak by several weeks.

It is common practice in private equity for partners to utilize this "management fee waiver" and channel a portion of their fee income into investments. The profits, like those for the fund as a whole, are considered carried interest and taxed as capital gains. In terms of the resulting change in tax exposure, some experts view the strategy as perfectly legal, while others describe it as aggressive or potentially illegal.

Not all of the publicly traded private equity firms use management fee waivers. The Carlyle Group and The Blackstone Group have both said in regulatory filings that partners do not divert management fees into investments. Apollo and KKR are among those that do.

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• Topics
• North America
• Regulation
• USA
• tax
• regulation