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The Taxation of Private Equity Carried Interests: Estimating the Revenue Effects of Taxing Profit Interests as Ordinary Income

48 Pages Posted: 19 Aug 2007 Last revised: 12 Nov 2008

Michael S. Knoll

University of Pennsylvania Law School; University of Pennsylvania Wharton School -- Real Estate Department

Date Written: November 7, 2008

Abstract

In this Article, I estimate the tax revenue effects of taxing private equity carried interests as ordinary income rather than as long-term capital gain as under current law. Under reasonable assumptions, I conclude that the expected present value of additional tax collections would be between 1 percent and 1.5 percent of capital invested in private equity funds, or between $2 billion and $3 billion a year. That estimate, however, makes no allowance for changes in the structure of such funds or the composition of the partnerships, which might substantially reduce tax revenues below those estimates.

Keywords: private equity, profits interest, carried interest, carry, taxation of capital, taxation of services, capital gains, ordinary income, capital gains preference, tax deferral, stock-based compensation, equity-based compensation, option pricing, Black-Scholes formula, tax revenue estimation, H.R. 2834

JEL Classification: H2, H25, D2, D3, D6

Suggested Citation

Knoll, Michael S., The Taxation of Private Equity Carried Interests: Estimating the Revenue Effects of Taxing Profit Interests as Ordinary Income (November 7, 2008). U of Penn, Inst for Law & Econ Research Paper No. 07-20; U of Penn Law School, Public Law Research Paper No. 07-32; William & Mary Law Review, Vol. 50, No. 1, 2008. Available at SSRN: https://ssrn.com/abstract=1007774 or http://dx.doi.org/10.2139/ssrn.1007774

Michael S. Knoll (Contact Author)

University of Pennsylvania Wharton School -- Real Estate Department ( email )

Philadelphia, PA 19104-6330
United States

University of Pennsylvania Law School ( email )

3501 Sansom Street
Philadelphia, PA 19104
United States
215-898-6190 (Phone)
215-573-2025 (Fax)

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