The Soaring Cost of the Carried Interest Loophole: Hedge Fund Managers' Pay Rose 50 Percent Last Year

dice and cash

The 25 highest-paid hedge fund managers took home $21.15 billion last year, according to just-released numbers published by Institutional Investor’s Alpha magazine. David Tepper, founder of Appaloosa Management, topped the list for the second year in a row, earning $3.5 billion in 2013, up 59 percent over 2012. Four of those on Alpha’s “Rich List” took home more than $1 billion in 2013.

In contrast, the average large company CEO saw his or her pay rise 13 percent last year and the average worker took home just 1.4 percent more in their pay envelope in 2013 over what they earned in 2012. The median pay for American workers was $40,872 last year, meaning that the top 25 hedge fund managers collectively received as much for their work as did 517,469 hard-working Americans.

But this isn’t a story of fund managers sharing in the remarkable returns of their clients. In each of the last five years, hedge fund returns trailed those of the stock market. Last year, the average hedge fund earned just 9.1 percent, compared to 32.4 percent for the S&P 500 stock index.

The hedge fund party doesn’t just happen when year-end bonuses are distributed. It continues through tax day, as hedge fund managers continue to take advantage of a very costly loophole called carried interest. This loophole allows their gargantuan pay packages to be taxed at 23.8 percent (a 20 percent capital gains tax, plus a 3.8 percent surtax to help fund Medicare) rather than the 43.4 percent tax (39.6 percent income tax rate plus 3.8 percent Medicare tax) if these earnings were taxed as wages.

If the $21.15 billion reported by the 25 top hedge fund managers were taxed at income tax rates rather than capital gains rates, an additional $414 million in revenue would have been collected. Several thousand Americans who receive their pay based on the assets they manage also benefit from this loophole.

What could $414 million pay for?

  • Unemployment benefits for 26,538 out-of-work Americans for a year (average weekly benefit is $300).
  • Nutritional assistance for a month for 3,285,714 hungry American kids (average Supplemental Nutrition Assistance Program per-meal subsidy is $1.40). Nearly 16 million American children live in food insecure households.
  • Head Start slots for a year for 49,694 young learners from low-income families (based on 2012 data)

Over the last year, SNAP benefits, Head Start slots, and emergency unemployment benefits have each been cut because a majority in Congress agreed we didn’t have enough money to pay for these programs that help real people and their families.

Instead, our elected officials in Washington would rather continue to pretend that the work done by people moving money is somehow different from the work done by people who move furniture.

It’s long past time to close the carried interest loophole and to demand that those who have so disproportionately benefited from the American economy pay their fair share of the costs of public services and protections.

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Not accurate, as Hedge Funds mostly report short term gains and management fees, all taxed at ordinary income, as opposed to private equity firms who invest and keep positions longer than a year and therefore benefit form long term capital gain treatment.