Labour’s private equity tax crackdown to exempt bosses who risk their own capital

Shadow chancellor Rachel Reeves has signalled Labour would continue the UK’s favourable tax treatment of private equity executives in instances where fund managers put their own capital at risk.

Labour has vowed to raise £565mn a year by closing the “loophole” that allows private equity managers to have part of their earnings, known as carried interest, taxed as a capital gain rather than as income, which attracts a much higher rate of tax.

Reeves told the Financial Times that private equity fund managers should pay income tax on the money they make on successful deals if they had not invested their own capital.

“I don’t think it is right that . . . what is essentially a bonus is taxed at a lower rate than employment income, when you’re not putting your own capital at risk,” she said.

But she added: “If you are putting your own capital at risk it is appropriate that you pay capital gains tax.”

Asked whether she expected most carried interest in the UK to be taxed as income under this broad approach, Reeves said: “Yes”.

Reeves said UK private equity bosses currently invested only “tiny” sums of their own capital, adding the amounts were “lower than many other countries require” to qualify for favourable tax treatment.

Many private equity managers co-invest in their funds, contributing 1 per cent of the initial capital. France and Italy typically allow reduced rates of tax on carried interest if fund managers invest that amount.

Labour’s promised crackdown on private equity executives is one of a relatively narrow set of tax increases the opposition party has pledged if it wins the July 4 UK general election as currently expected.

Reeves said the costings in Labour’s manifesto, which said the measure would raise £565mn annually by 2028-29, were “an estimate of how much we would seek to raise and what we would do with that money”.

She said, if elected, Labour would consult on the changes.

Private equity managers are paid partly through carried interest, meaning they receive a portion of the investment profits made by their funds if they achieve returns above a certain level.

In the UK, this is taxed as a capital gain at a rate of 28 per cent rather than as income, which attracts a top rate of 45 per cent plus national insurance.

The preferential tax treatment of carried interest in many countries has allowed private equity executives to avoid income taxes on more than $1tn in incentive fees since 2000, according to Oxford university research.

Reeves said the £565mn annual tax figure Labour envisaged raising from its policy was based on research published by the Resolution Foundation in 2020 that estimated the revenue from taxing carried interest as income.

The think-tank did not consider any behavioural impact from such a change, such as fund managers leaving the UK as a result.

A similar costing based on the £5bn of carried interest earned by 3,000 people in the UK in the 2022 tax year would imply a windfall of close to £1bn for the Treasury, before allowing for emigration.

Some advisers to private equity firms said treating carried interest as income where no capital was at risk seemed fair. “I don’t see how you can object to Labour’s position intellectually,” said one. “Nobody likes paying more tax, but you have to accept that eventually it has to go.”

But some in the industry are gearing up to push for the proposals to be diluted in any consultation run by Labour if it wins power.

One person in the industry said they believed Labour still had “a level of open mindedness on the detail” of the proposals.