UPDATE 2-Fund managers face new tax under U.S. House bill

Wed Dec 9, 2009 5:26pm EST

* Package would also cut retailers' depreciation period

* Paid for with new rules on offshore income reporting

* New tax on carried interest faces fight in Senate

(Recasts; adds details on foreign reporting law, comments)

By Kim Dixon

WASHINGTON, Dec 9 (Reuters) - The U.S. House of Representatives voted on Wednesday to extend $17 billion in tax breaks for big business and to pay for them with a new tax on fund managers' compensation and stiff penalties on foreign banks that help rich Americans hide assets offshore.

The package also included help for retailers by trimming the tax depreciation period for remodeled stores and extension of a research tax credit for business.

The vote of 241-181, mostly along party lines, would extend for one year a host of tax breaks set to expire on Dec. 31.

Many Republicans voted against the Democrat-led package to protest its inclusion of a new tax on "carried interest" earned by hedge fund and private equity fund managers. The change would set their tax rate at 35 percent instead of the lower capital gains rate of 15 percent now paid.

Rep. Sander Levin, the Democrat who sponsored the provision, said it would equalize the tax treatment of pay earned by managers of billion-dollar investment funds with that of workers in other service industries.

"When people invest their own money, they should pay (the lower) capital gains tax on the profits. When they perform services like every one else who performs services, should they not pay ordinary income tax?" Levin said.

President Barack Obama backs the proposal, which would raise $23 billion over a decade.

Republicans called it a tax on investment.

"It is nothing short of a new tax on the various investments needed to start the new business and create economic growth," said Rep. Dave Camp, the top Republican on the tax-writing House Ways and Means Committee.

The tax on fund managers' pay faces opposition from some Democrats in the Senate, which could stall that measure.

FOREIGN BANK REPORTING

The House package would also fund the tax breaks by requiring reporting by foreign banks and by rich Americans holding assets offshore. That provision would raise about $8 billion over a decade.

The United States has been cracking down on offshore tax evasion with notable success in its case against UBS AG (UBSN.VX). UBS agreed to pay $780 million to the U.S. government and turn over thousands of client names.

A key feature of the House bill would add a 30 percent withholding tax on foreign banks that fail to report information on U.S. clients to tax authorities.

"There is a big push right now for transparency to avoid the UBS-type situation," said Joseph Calianno, a partner at accounting firm Grant Thornton in Washington.

Calianno echoed concerns of foreign banks about costs to set up new reporting systems.

"If this legislation passes, the one thing it will create is more administrative burden for certain taxpayers," he said.

To make the legislation more palatable to big foreign banks, the bill was modified to delay the effective date and to grandfather certain transactions, said Tom Humphreys, a tax partner at Morrison, Foerster in New York who advises foreign banks.

"I would expect the larger institutions with substantial positions in U.S. securities are going to have to find a way to comply with this rule," Humphreys said.

SHADOW BUDGETS

On Tuesday, the nonpartisan Government Accountability Office said the federal research credit, one of those renewed in the bill, gives a "windfall" to mostly big companies that, in many cases, would have done the research without it.

Economists on both sides of the political spectrum have criticized making policy through such tax breaks.

"Tax expenditures have become the way of budgeting and it's really a bad approach," said Maya Macguineas, president of Committee for Responsible Budget, a bipartisan group.

"The appeal is you can say you are giving a tax cut and achieve some goal. But you don't go through basic questions of is this something the government should be doing," she said.

Also tucked into the House bill was an extension of some individual tax breaks such as deductions for college expenses.

Some version of the tax package is likely to pass the Senate, but may be delayed until early in 2010 because of the Senate's current focus on health care reform legislation.

If the tax credits expire as scheduled on Dec. 31, they can be extended retroactively, as has been done in the past.

For more details on the business tax breaks, see [ID: nN021794] (Reporting by Kim Dixon; editing by Leslie Gevirtz and Andre Grenon)

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