IRS and a shock to the system

Sir, “Tax treatment of private equity” (Analysis, March 8) fails to explain the reason for US capital gains tax treatment. It’s based on a debatable interpretation on receiving a partnership interest in exchange for services. There are two court cases, two Internal Revenue Service procedures and one 2005 proposed Treasury regulation. None mentions or describes the creature called “carried interest”, though tax preparers aggressively interpret them as support.

Mitt Romney’s tax return is instructive. His wife Ann made a 2010 election to subject the present value of two carried interests in her blind trust to ordinary income, so that any future gain would be taxed as capital gain, known as a Sec. 83(b) election. The ordinary income was zero on the dubious theory that it is incapable of being valued. It begs the question of what future services she was providing which are required to retain the property, the so-called carried interest. The Romneys reported some $12m in carried interest income.

They and similar partners could face a six-year statute of limitations for understating ordinary income in earlier years. Instead, IRS chief counsel William J. Wilkins announced on March 2 that the guidance was “sufficiently old, and the legislative policy debate is sufficiently detailed, that it would be a shock to the system for guidance to carry out what legislation is now proposed to do”. I’ve never before known IRS to worry about shocking the system.

Jay Starkman
Atlanta, GA, US

This letter was originally published in the Financial Times on March 14, 2012.