In Washington’s coming budget battles, sacred cows like the tax deductions for home mortgage interest and charitable donations are likely to be on the table along with potential cuts to Social Security and Medicare.
But no one on Capitol Hill believes Wall Street’s beloved carried-interest tax loophole will be touched.
Don’t blame the newly elected Republican Congress.
Democrats didn’t repeal the loophole when they ran both houses of Congress from January 2009 to January 2011. And the reason they didn’t has a direct bearing on the future of the party.
First, let me explain why this loophole is the most flagrant of all giveaways to the super-rich.
Carried interest allows hedge-fund and private-equity managers, as well as many venture capitalists and partners in real estate investment trusts, to treat their take of the profits as capital gains — taxed at maximum rate of 23.8 percent instead of the 39.6 percent maximum applied to ordinary income.
It’s a pure scam. They get the tax break even though they invest other people’s money rather than risk their own.
The loophole has no economic justification. As one private-equity manager told me recently, “I can’t defend it. No one can.”
It’s worth about $11 billion a year — more than enough to extend unemployment benefits to every one of America’s nearly 3 million long-term unemployed.
The hedge-fund, private-equity and other fund managers who receive this $11 billion are some of the richest people in America. Forbes lists 46 billionaires who have derived most of their wealth from managing hedge funds. Mitt Romney used the carried-interest loophole to help limit his effective tax rate in 2011 to 13.9 percent.
So why didn’t Democrats close the loophole when they ran Congress?
Actually, in 2010, House Democrats finally squeaked through a tax plan that did close the carried-interest loophole, but the Democratically controlled Senate wouldn’t go along.
Sen. Charles Schumer (a New York Democrat), one of those who argued against closing it, said the U.S. “shouldn’t do anything” to “make it easier for capital and ideas to flow to London or anywhere else.” As if Wall Street needed an $11 billion annual bribe to stay put.
To find the real reason Democrats didn’t close the loophole, follow the money. Wall Street is one of the Democratic Party’s biggest contributors.
The Street donated $49.1 million to Democrats in 2010, according to the nonpartisan Center for Responsive Politics. Hedge-fund managers alone accounted for $5.88 million of the total. Schumer and a few other influential Democrats were among the industry’s major beneficiaries.
Wall Street has continued to be generous to Democrats (as well as to Republicans).
The Democrats’ unwillingness to close the carried-interest loophole when they could have also goes some way to explaining why, almost six years after Wall Street’s near-meltdown, the Obama administration has done so little to rein in the Street.
Wall Street’s biggest banks are far bigger now than they were then, yet they still have no credible plan for winding down their operations if they get into trouble.
The Dodd-Frank Act, designed to prevent another Wall Street failure, has been watered down so much that it’s slush. There’s been no move to resurrect the Glass-Steagall Act separating investment banking from commercial banking.
Not a not a single Wall Street executive has been prosecuted for his involvement in the frauds that caused the mess.
Wall Street was the fourth-largest contributor to Barack Obama’s presidential campaign in 2008 and is already gearing up for Hillary Clinton’s 2016 run. Hedge-fund and private-equity managers are donating generously to Priorities USA Action, a super PAC dedicated to getting her elected. The hedge fund Renaissance Technologies has contributed $4 million to date. D.E. Shaw, another fund, has donated more than $1 million. Khosla Ventures and Soros Fund Management have donated $1 million each.
Many Wall Street financiers have donated $25,000 (intended to be the maximum contribution) to the Ready for Hillary super PAC.
Robert Wolf, the former president of UBS’ investment bank who now has his own advisory boutique, told Politico that six in ten Wall Street types are Democrats, and that “when and if she decides to run, Hillary Clinton is going to have an incredible support foundation from Wall Street.”
Just because a candidate takes Wall Street money doesn’t mean he or she is beholden to the Street.
But the reason Democrats have pulled their punches with the financial sector for years is because it’s hard to punch the hand that feeds you.
This must stop. America can’t tackle widening inequality without confronting the power and privilege lying behind it.
If the Democratic Party doesn’t lead the charge, who will?
Robert Reich is chancellor’s professor of public policy at the University of California at Berkeley and senior fellow at the Blum Center for Developing Economies.