Budget Lab Analysis Finds Carried Interest Reforms Could Raise More Revenue Than Previously Estimated

The Budget Lab, a nonpartisan research center based at Yale Law School, has published a new analysis finding that changing the tax treatment of carried interest could raise more than $100 billion in federal revenue over the next decade, and substantially more in the years that follow.

The report, “Refining Revenue Estimates for Taxing Carried Interest,” draws on new academic research that used Internal Revenue Service data. The analysis indicates that previous estimates substantially undercounted how much revenue could be gained from reforming the taxation of carried interest.

The “carried interest loophole” refers to a compensation arrangement in which certain fees paid to fund managers are taxed at capital gains rates. The arrangement is commonly used in private equity and venture capital funds, where managers receive a share of the profits generated by the fund’s investments. In a typical structure, fund managers receive an annual management fee of 2% of invested capital plus carried interest equal to roughly 20% of the fund’s income.

For years, debates over changing the tax treatment of carried interest have often centered on fairness more than revenue, in part because previous estimates suggested the fiscal effects would be relatively modest. The Budget Lab’s new analysis suggests the revenue stakes may be significantly larger.

The Budget Lab’s analysis draws on anonymized tax forms filed by partnerships obtained by Michael Love, a Columbia Law School professor and economist. That data detailing each partner’s share of income allowed researchers to examine profit allocations in excess of contributed capital. This difference is an estimate of carried interest since there is no explicit line item for carried interest amounts on the tax forms. 

Using its earlier estimating methods, the Budget Lab would have projected that a recent proposal from Sens. Ron Wyden, Sheldon Whitehouse, and Angus King would raise $47.5 billion over 10 years. Using its updated methods, the Budget Lab now estimates the same proposal would raise $87.7 billion over 10 years. The report also finds that broader carried interest reform could raise more than $100 billion over the next decade, with substantially more revenue in later years.

The report highlights the need to use the best available data and the importance of reevaluating work as the Budget Lab is able to do. This example specifically suggests that reevaluating policy with new information could change the perception of the policy. The authors argue that this new viewpoint should be considered by lawmakers going forward. 

For Natasha Sarin, president and co-founder of the Budget Lab and professor of law at Yale Law School, the findings underscore the importance of rigorous, transparent analysis in tax policy debates.

“Policy debates depend on getting the numbers right,” Sarin said. “For a long time, an argument in favor of retaining preferential tax treatment for carried interest has been that the revenue associated with ending it was not that significant. Our careful reexamination shows that's not the case. That's a critical fact to help inform tax debates in the years ahead.” 

The report garnered attention from national media with features in the New York Times DealBook, Politico Weekly Tax and Tax Notes. Andrew Ross Sorkin did a DealBook follow-up piece on the analysis asking readers to weigh in on the debate over carried interest. Politico also did a second piece, “carrying on the debate,” with a response to the Budget Lab analysis from the American Investment Council, the private equity lobbying arm.