Attacking capital gains treatment for private equity carried interests -- or not

Although the case of Sun Capital Partners III v. New England Teamsters was decided a few months ago, its implications are still percolating into public discourse. The New York Times reminds us that if a private equity investor is engaged in a "trade or business" for pension purposes, it may be engaged in a trade or business for income tax purposes. If it is engaged in a trade or business, its carried interest profits are taxable as ordinary income instead of capital gains.

That is consistent with my long-held view that the government could attack capital gains treatment of carried interests without new legislation if it chose to do so. The most interesting part of the article is its near-prediction that the government will not choose to do so. The article suggests that the reason the government will not pursue the additional taxes is that it is scared to take on well-funded taxpayers (which is unfortunately credible). The reason may equally likely be a combination of anti-tax policy and regulatory capture, in which the government's policy makers have simply decided that they do not wish to impose additional taxes upon private equity.