Blackstone ruling would close loophole, raise taxes

U.S. House and Senate committee members are scrambling to enact legislation that would close what some call a loophole in the Tax Code, a provision that provides tax breaks to partnerships that engage primarily in passive activities and that are publicly traded. The issue took center stage last week with the initial public offering of shares in the Blackstone Group, a large private equity firm.

The tax provisions that apply to companies like Blackstone allow the fund operators to pay tax on earnings at the capital gains tax rate of 15 percent instead of the ordinary income tax rates that can reach as high as 35 percent.

Lawmakers are claiming that the tax law, as written, provides unfair tax benefits to publicly traded partnerships that operate in the asset management arena. A bill that has been introduced in the Senate, the Baucus-Grassley bill (S.1624), would specifically remove the tax benefit for companies like Blackstone, but would include a five-year phase-in period. Members of the House Ways and Means Committee are considering a more far-reaching bill and one that might be enacted more quickly. Legislation in the House would not only cover the Blackstone situation but could also raise taxes on venture capital firms, real estate partnerships, and oil and gas companies.

Changing the tax law to prevent the use of the capital gains tax rate in organizations like the Blackstone partnership could raise between $4 and $6 billion annually in tax revenue. There is speculation that enacting such legislation would help provide an alternative income source to the government should the Alternative Minimum Tax be reduced.

Opponents of the legislation are particularly vocal about the need for lawmakers to not rush into new legislation without considering all of the ramifications. "The last time Congress rushed to judgment we ended up with Sarbanes-Oxley. This bill sends a chill through the financial markets once again sending a clear message that IPOs are not welcome in the U.S. With U.S. financial markets already under competitive pressure from globalization, this bill will only harm the U.S. markets' ability to vie for business," said Steve Milloy, Executive Director, Free Enterprise Education Institute.

Shares in the Blackstone Group opened at $31 in the IPO on Friday. Investors didn't seem swayed by reports that an unfavorable tax ruling could depress the value of the company by as much as 20 percent.

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