What is Carried Interest and How Will Labour’s Plans Affect Private Equity?

Labour’s 2024 manifesto stated that it will close a loophole allowing private equity managers to benefit from lower capital gains tax rates on

their profits, known as carried interest. According to their manifesto, carried interest allows “a small group of wealthy individuals” to avoid paying the same rate of taxes that ordinary workers do.

Carried interest refers to a portion of fund managers’ compensation that is earned on investment returns. It is usually paid out to general partners of private equity and hedge funds and calculated according to how much money is returned back to investors by investments within a fund; as returns rise so does carry interest and its percentage in manager pay packages.

Carried interest has long been at the center of controversy due to its unique tax treatment as an untaxed form of capital gain rather than as income, with critics contending this practice unfairly advantages a minority of wealthy individuals and should instead be taxed as such.

Private equity firms tend to structure their carried interest arrangements so as to optimize wealth transfer opportunities, including allowing a general partner to gift some or all of their share to future generations without incurring federal gift taxes on this transfer. Furthermore, general partners may defer some or all of their carried interest until cashing out or reinvested back into the fund.

Carrying interest may cause great debate, yet its elimination is unlikely in the near future. Debate surrounding this issue began to ease after passage of the 2017 Tax Cuts and Jobs Act extended the time that private equity or hedge fund investors must hold their carried interest before being taxed at normal capital gains rates.

However, the British Private Equity and Venture Capital Association has strongly advised Labour against making these changes, as it would be “devastating for investment in our nation”. Furthermore, the BVCA emphasised how important it was that Britain remain an international hub for private equity, venture capital and real estate financing.

As it stands now, many foreign companies have taken advantage of the UK’s tax environment to invest here, due to its beneficial corporate tax environment. A change to how carried interest is taxed would likely prompt these entities to look elsewhere for investment opportunities – this would be detrimental for both them and our economy as a whole.

The British Private Equity and Venture Capital Association has raised concerns that any crackdown on carried interest would result in the loss of “tens of thousands” of skilled jobs, hamper future economic growth and hamper its ability to attract investment capital from abroad. Therefore, the organization requested clarification from Labour regarding their plans, so as to ease fears among investors that an administration led by Labour will significantly raise taxes on private equity and other investments; they plan to submit their comments directly to Shadow Chancellor within six months.