Congress Moves To Foreclose on Tax Havens

Sen. Carl Levin (D-MI) earlier this month proposed legislation designed to crack down on foreign tax havens, like the Cayman Islands. The bill — called the “Stop Tax Haven Abuse Act” — has the Obama Administration’s support, with Treasury Secretary Geithner saying the following during a recent House Ways & Means Committee hearing:

“We fully support the legislation… on offshore tax centers, and we look forward to working with you as part of the broader effort to address international tax evasion.”

I don’t pretend to know much about this, so I spent some time on the phone with Arnold May, a partner in the tax department of law firm Proskauer Rose. He told me that the legislation, as currently written, would affect both hedge fund and private equity managers, but the former far more than the latter.

Where private equity could be hit, however, is on the limited partner side. For example, imagine a U.S.-based buyout firm forms a feeder fund for non-U.S. investors, and bases it in the Caymans. The Levin legislation would make capital gains from those investments subject to U.S. taxation. Moreover, the rule could be interpretted to mean that the feeder would be subject to U.S. taxation even if it were set up by a foreigner, because the general partner is managed by U.S. citizens. There is a minimum capital threshold, but May expects that the ultimate law would include aggregation provisions (i.e., would treat five $20m feeders as a single $100m feeder).

Here is a client alert that Proskauer Rose sent out yesterday about the bill: