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TAX ANALYSTS

2007 TAX ANALYSTS CONFERENCE

Taxing Hedge Funds, Private Equity Funds,
and Their Managers:
What's Fair? What's Feasible?


Washington D.C.

Thursday, September 20, 2007

PARTICIPANTS:

Moderator

LEE A. SHEPPARD
Contributing Editor
Tax Analysts

Speakers

CHARLES KINGSON
Adjunct Professor of Law, NYU School of Law
Lecturer, University of Pennsylvania School of Law

DARRYLL JONES
Professor of Law, Stetson University School of Law
Author of "K-Rations" in Tax Notes

DAVID WEISBACH
Walter J. Blum Professor
University of Chicago Law School

Other Participants

CHRISTOPHER BERGIN

SHELDON COHEN

DIANA WOLLMAN

BOB FELDGARDEN

MARTY LOBEL

BILL NISKANNEN

MONTE JACKEL

SEAN KAHNG

STEVE ROSENTHAL

JOSHUA ODINTZ

DAVID BRUNORI

JAMES S. HALPERN

MICHAEL J. DESMOND

BOB ROACH

BILL BOWERS

* * * * *

PROCEEDINGS

(10:08 a.m.)


MR. BERGIN: Good morning, everybody. I'm Chris Bergin, the president of Tax Analysts, the nonprofit organization that for many years has published print and online products in the federal, state, and international tax areas. Welcome to the latest in the Tax Analyst series of discussions on key issues in tax policy. The topic for today is, how should we tax hedge funds, private equity funds and their managers?

And judging from the size of our audience today, this is a pretty hot topic. This is the fourth year in which we have conducted a series of discussions on tax policy and administration. If you're new to our discussions, let me take a moment to explain to you our process. In just a minute, I'm going to turn things over to Tax Analysts' own Lee Sheppard.

Lee will introduce our topic and our panelists, who will each speak for about 10 minutes. And Lee will then moderate our discussion, which we hope will include all of you. Whether you're seated at the table here, or just a bit away from it, just wave, and Lee will find you.

We are recording this event, and we will post the transcript to our website as we do for all our discussions. Also, for media purposes, we are on the record. So when you are recognized, please help us out and state your name. Also please speak into a microphone; these at the table have buttons. For those of you away from the table we have handheld mics that we will get to you very quickly.

With that, let me waste no more time and introduce someone who needs no introduction, our Lee Sheppard.

MS. SHEPPARD: We have all kinds of special guests here today and if we introduce them all, it would take us the whole time, and we need the time to talk, but let me just point out a few of them. We have Judge Halpern from the Tax Court; if we draft the statute wrong, it will get there. So that's an impetus to do it right.

We have the tax legislative counsel himself, Michael Desmond here, and he has his partnership expert with him, Bill Bowers. We have two people from the Senate side; we have Josh Odintz from the Finance Committee, and we have Bob Roach from the Permanent Subcommittee on Investigations.

So now, why are we here? We are here because Stephen Schwarzman hired Rod Stewart to play his birthday party.


(Laughter)

MS. SHEPPARD: Well, of course it's true. I mean, look, those — anybody here doesn't believe that? I mean, welcome to Washington, you know. And that's one of the fun things about this topic is this sort of, you know, different world views of New York and Washington. I mean, I was having this bizarre conversation with a hedge fund guy the other day and I said, "Well, look, people in Congress don't understand that you guys drive $200,000 cars."

And he says to me, "Well, people are only driving $200,000 Maseratis because there is a 4-year waiting list for $300,000 Ferraris. And don't you understand?" And people in New York, I mean, anybody who has lobbied these issues for New York clients can attest to this. People in New York do not understand that the United States Congress is not the student council, you know.

I mean it was quite a while before they took this seriously. And now they're taking it seriously and people in my business are watching their lobbying effort and our eyes are bugging out of our heads. You know, it's like, "Wait a minute, how do you have all the money in the world and you're doing things to screw up the lobbying?"

Well, one of the things that's going on, which is really fun to watch is that there is so much money that everyone has got his own lobbyist. So there are lobbyists just running around all over the place saying different things to people. But in this discussion, what I want to do — I mean, we're going to argue the merits of the case obviously, but the other thing I want to do here is I want to talk about the endgame.

I want to talk about if we're going to tax carried interest, what should we do? You know, which approach should we use? And you know, but let us just talk about the politics for a second, because I think we have some very interesting confluence or circumstance that is telling us that something is going to happen.

I mean, first we have a House of Ways and Means Chairman Charles Rangel. And this is an interesting thing because if you represent New York, you represent the banking and securities industries. And what — the first thing that was unusual that happened was he said, "Look, I'm in favor of taxation, here." That's a very unusual thing. The more usual sort of behavior for a New York legislator is what Senator Schumer is doing, which is to say, you know, whatever the bankers want I want. So you know, that's an indicator.

The next indicator we have, the presidential candidates. Presidential candidates traditionally are not supposed to get involved in things. They're not supposed to talk about particular pieces of legislation, they're not supposed to — they're supposed to be above that. So we have a fairly unusual circumstance, where starting with Barack Obama, the Democratic presidential candidates have all lined up in favor of taxation.

A couple of them have also talked about raising the capital gains rate, which is — that's actually a factor here, because you know, we're talking about here is turning an income stream into a capital asset. But if you just raise the capital gains rate, it sort of puts off the question, because this is throughout the code, of turning income streams into capital assets.

You know, it sort of puts off that question. The third thing, we had an interesting letter sent to Congress signed by a lot of labor unions. There were 300 signatories on this letter, and you know, there are unions that decide things at the local level. So there are a lot of unions. Then there were — a lot of charities signed it. But here, you see an unusual thing. A lot of churches signed it.

And you look at some of these churches, the names, you know, they are in places, they're in these dead industrial towns where if you're running a church you're also running a soup kitchen. You don't have time to sign this letter. And it looks like they've signed the line — this was to endorse the Levin Bill, which we'll talk about, because they — because the Levin Bill would treat some of this income as wages and we're talking about Medicare taxes here. And there is a fairly big number just attached to taxing carried interest money as — with Medicare taxes. It's sort — the estimate sort of started at a billion and they go on to about six or seven.

Now, let me — I'm going to assume, and you can raise your hand if this is not the case, but I'm going to assume that folks here know what we were talking about when we say "carried interest." We're talking about a profits share that a manager — a money manager who is a titular partner has in a partnership that is running an investment fund.

The manager for this purpose does not have any capital invested in the partnership. It's as though the investors have — you know, they've earned 100 percent of the profits of this thing and they've passed 20 percent to their managers, but because this manager has the title of partner, and because state partnership law and the tax law which latches onto it recognizes this guy as a partner, the guy is under partnership treatment. And what we're talking about here — one of the approaches we are talking about here is sort of removing our manger from partner treatment and treating him as a — sort of this provider. So let's go to the four approaches.

One of them is enforcement of Section 83, and that would say that on the day you manager were granted a carried interest in this partnership, we value it as a security, it's sort of — we would use the options sort of valuation. We value the thing, we tax you on the value of that as ordinary income, but after that we leave you alone. After that you've got a capital asset that is a partnership, and you're going to be treated under all the laws that govern that.

Then we've got the Levin Bill. What the Levin Bill does is the Levin Bill leaves our manager in place as a partner, and then converts whatever he gets to ordinary income. That means all the income items that are passed through from the partnership while the manager holds the interest. And also when the manager sells the interest and by "sells" we really mean redeem because you sell it back to the partnership. When a manager sells the interest what otherwise would be capital gain is also treated as ordinary.

But it leaves the partners, leaves the investors alone. The investors are still getting the equivalent of a deduction when they shift 20 percent of their income to the manager. That's — and that is why the Levin Bill is designed this way.

The third approach, and I have advocated variance on this theme, the third approach is we've got a section in Subchapter K that handles the issue of a service provider getting distributive share when we would like to treat this person as not a partner. That is 707(a)(2)(A).

It requires regulations to implement and it has not been implemented. Now, my solution to this which is in a couple of my articles — and I'm not going to beat people over the head with it, you can just read them, is basically blowing up 707, and rewriting it and saying, "Look, we will completely — when you're in a service provider posture even though you're a titular partner, we're completely going to remove you from partner treatment."

The fourth approach — that is the deemed debt approach, which is being advocated by some academics, and that treats the limited partners as though they lent capital representing 20 percent to the manager and it sort of treats the manager a capital partner. I don't think that's a realistic approach, because really what's going on is the manager doesn't have capital invested in the partnership.

So with that little kind of longwinded explanation, I'm going — what we're going to do is we're going to start with David Weisbach, who is going to defend the — we don't want him to be lonely here; folks, help him out. He is going to the defend the status quo, and then Darryll Jones is going to make the case for taxation and then Charlie Kingson is going to poke holes in both of their cases.

David Weisbach is, I think, I'm going to just going to introduce you as you go. David Weisbach is the Walter Blum Professor of Law at the University of Chicago, and it doesn't say on your sheet, he is also in charge of the Law and Economics Department at the University of Chicago. And so with that —

MR. WEISBACH: Okay, thanks. What I want to talk about is whether we should really think of this carried interest as ordinary income or capital gain under current law, either under former or current law. It's a little hard to make the case against reform when no one has yet made the case for reform, at least here, so I'm going to have sort of this guess what people are going to say.

So I have a handout people should have and I'm going to basically follow the handout. There are essentially three — if you want just a few more copies here, I've got it — if you need some, I'll pass this around.

SPEAKER: Pass this around.

MR. WEISBACH: Essentially three points which consist of the diagram at the top and then each of the two columns. So the first issue is should we think of the carried interest as compensation income, and the people that are arguing that it is are going to look at that left-hand column there that says "Compensation." And look at carried interest and say well, what's the carried interest for?

Well, the private equity sponsors show up at work everyday. And they work very hard, they put in a lot of effort which is what most of us do for our jobs. That's what compensation is. They, as Lee said, mostly manage third-party capital. They put in a lot of their own capital actually, but as a percentage of the fund it's actually quite small.

So they spend their time working with third-party capital, and while the returns are risky, but lots of — lots of compensation returns are risky, especially today, we see lots and lots of forms of risky compensation. So that doesn't take it out of the category. And people say, look at this, they show up at the office, they work with third-party capital, sure looks like compensation income to me. Result — ordinary income policy with an 83(b) election. And that's the case that people have generally made for changing the law.

Now, I say, let's look at the right-hand column and look at what an investor or an entrepreneur does. They show up at the office everyday and work very hard. They often, if not always, use at least some, and sometimes almost all, third-party capital, and their compensation is risky; the result — capital gains.

So the question is, if you want to reform the law, is how you distinguish these two columns. Each and every single factor that anyone has pointed to saying that this is compensation income and therefore we should reform the law, it's equally present in the right-hand column for investors and entrepreneurs. It's not enough to say, "It looks like compensation income to me. It feels like it, I think it is." They've got to be able to point to something that distinguishes these two columns.

And nothing I've read, in any testimony or any article, is able to do so. You also can't make equity arguments saying that the treatment of carried interest is different than service providers, because after all if you change treatment of carried interest, it would the same as the left-hand column. It will be different than the investors. No matter what you do, you've got an inequity in the system because of the distinction we make between ordinary income and capital gain. You can't just solve this by saying, we've got to treat equals alike, because you're stuck with the problem, and no matter what you do, you're going to treat the equals not alike.

So that's the challenge that I think is there. I don't think this is an easy problem. I think anyone who thinks this is obvious can't be thinking through the issue very carefully, because they can't point to anything that distinguishes the columns.

So point number 2, and then we move on, is so what have people said when faced with this problem? And they've come up with a number of ways of trying to distinguish the investor-entrepreneurial analogy. And I've listed some of them here but not all of them and let me mention a few. The one that comes up most commonly is people say, well, if an investor uses third-party capital, suppose you just borrow on a margin account, an investing stock, you work really hard at picking up what stocks to invest in and make money, pay off the margin account, get capital gain. People say, well, that's debt you have there. You're obligated to pay it back, you're at risk.

The third-party capital is raised here through limited partnership interest. That's different; they're not obligated to pay it back, they're not at risk. But that doesn't make any sense. You can't be thinking that the whole reason why we think this is compensation income is because they use debt — used equity rather than debt, that is this whole debate entirely based on the debt-equity distinction. If they did these deals with debt, we wouldn't be sitting here today. You're arguing about it? That can't be right. It can't be why we think it's compensation income versus capital gain.

All right, another one is that they don't — this is too much third-party capital here, right, they're not putting enough of their own money at risk. Well, they could put more money at risk, and would we be happy then? I don't know. And there is no required leverage ratio for capital gains.

You can borrow or otherwise raise lots of third-party capital for your business. That's fine. Bill Gates didn't put any money into his business. He started it when he was a college student. All of his capital was third-party capital; we give him capital gains. There is no required leverage ratio for capital gains treatment.

Darryll has argued eloquently in his testimony that carried interest don't fit the reasons we have for capital gains treatment. I guess I'm not convinced. All right, these people are buying and selling stock, just like investors are. Right? I'm not sure I understand the difference. They're working hard to figure out what stocks to buy and sell, they're using third-party capital. If we don't think there is good reasons for capital gains treatment, those arguments would apply equally to any investor; not just carried interest.

Okay, third column in my few remaining minutes. How we are going to decide this. Right, it is a dilemma; it's not an easy question. All right? Where are you going to put this — I think the underlying problem is that the capital gains definition is inherently incoherent, right? There is just no easy way to think about it. Think of all the cases you know of involving sales of future interest, you know, P.G. Lake and things like that, Dresser and similar cases. We can't really decide when we have ordinary income and capital gains in any coherent way. It's a very difficult problem.

So how do we think about this? There are two points on how to think about this. One of them I didn't actually put on the table on the handout but I make first, which is thinking about what we should do with partnership taxation. And a fundamental principle of partnership taxation is you should not get a difficult result when you're engaged in a transaction through a partnership than when you engage in it directly.

That is the number one principle of partnership taxation, is this first principle stated in the partnership anti-abuse rule. You pull up the air out of a lot of reform proposals, it's the first principle they state. I have a nice quote from Darryll himself on this, who wrote an article in Tax Notes, our esteemed publication called the "Lingering Life of the Entity Theory" and what Darryll says, and I hope he doesn't disavow this, is that "The entity view of partnership taxation has lost its usefulness. We want to tax partners the same as if they engage in a transaction directly."

Well, they engage in this directly, what happens here? Capital gain. All right, we don't want to have a distinction — we don't want to say if you happen to be in Subchapter K, we're going to try and divide up your earnings into labor income and capital income, when we don't do that anywhere else in the entire tax code.

All right, we don't want to have a special rule for Subchapter K, it's different. We think that's not a wise way to go at Subchapter K. The second problem, we're trying to tax this as ordinary income, is we have no way of defining what component of this is ordinary income and what component is capital gain.

If you look at the Levin Bill, it just says, "Be reasonable." Well, let's be reasonable folks, that's not going to work, right? Think of all the complicated allocations you are going to have in a typical partnership. All right, you might have a sharing across time, sharing across risks, sharing across locations that are different.

Right? In all those kinds of partnerships you might have different amounts of service being provided by different partners. If you want to be able to say we can now define the service component in these partnerships and tax that differently you have to have a way of identifying it. No one has come up with a way of doing that. So what's going to happen? You are not going to have a way of identifying labor income; you're going to end up paying people like me and people who are on the table here to structure the deals to get around whatever rules are written. No one is going to pay any more tax. Deals will be less efficient. This is not a smart way to run the system. You're just going to tack on something complicated to Subchapter K, and there is nothing for the world other than make tax lawyers rich. I don't see that as a smart thing to do.

MS. SHEPPARD: Next, we have Darryll Jones. Darryll is a professor at Stetson University Law School. He is also the author of the "K-Rations" column in Tax Notes, which takes partnership issues and translates them into plain English which is good for those of you who are not partnership specialists here.

I also want to add that what we plan to do, and you know, we don't have to do it if people don't want to, is we plan to devote the last half hour of this section to talking about the publicly traded partnership question and the Senate bill on that. Darryll.

MR. JONES: Thank you. Thank you, Lee. Well, I guess I should admit that every time I read one of the Professor Weisbach's articles I get really afraid, because he speaks in very economic terms, and I'm not a economist. So I'm always wondering if maybe he just knows something — economists know something that we who majored in Psychology and then went to tax school don't know.

But I must say that the argument that he is presenting today — and my talk is not going to just be a response to Professor Weisbach, because I think that's unfair. I mean, he went first and so I'm going second. But I have in my mind that his argument is sort of an emperor-like argument, which is to say that I wonder if it has any clothes on.

Does it really make sense to point out, well, it would be difficult or people could sidestep around any reforms, so maybe we ought not to do it? I guess I'll go ahead and run through my comments. The fact that we have so many people here I guess indicates that — the high level of concern regarding the taxation of carried interest. I've really only been involved in the taxation of carried interest, in particular, for the last 6 or 7 months.

My involvement before fund managers — fund manager income caught the eye of the press was on a much more theoretical level. I was aware for example of Revenue Procedures 93-27 and 2001-43. And I had even discussed and debated the theoretical potential regarding deferral and conversion that's recognized by those procedures, but only in academic circles.

But as you probably mostly know, these rulings indicate that you need not recognize income upon the grant of a profit interest in a partnership, and that when you do get the income it's characterized at the partnership level. What has struck me throughout the debate regarding the carried interest really is how unscientific the debate has been.

Most of the debate, including some of my own comments has been characterized by assertions unsupported by any empirical method or data. And this might just be a matter of necessity. I mean, the law is not an exact science, not even tax law is an exact science. And there are a few exceptions though to the treatment of this issue, I mean, there is — there are a couple of papers out of the University of Pennsylvania written by economists and legal economists that one asserts to be able to value carried interest. I think Lee kind of alluded to that.

And the other paper does an empirical survey of about 240 venture capitalists — venture capital and buy-out funds, and evaluates the effect of different contractual terms on fund manager compensation.

Those papers though and the recognition that most of the rhetoric has been slogans and political retort, I think, led me to try thinking about the taxation of carried interest in more scientific terms. I have not successfully devised a method though to get to the truth of the matter. But ultimately we are going to have to admit to ourselves that we determine the truth based on our own subjective notions of tax efficiency in tax fairness.

But if we did have a method, where will we start? And I think we would probably all agree that we would start with trying to identify a control group so that we can determine the baseline determination of taxation. And my control group, and I think everybody would agree, is the level of taxation between the level of taxation applied to ordinary service providers, okay, ordinary rates. That's our baseline, sort of, control group. Our purpose, of course, would be to explain the difference between two observable phenomenas. First, the taxation of service provided income to everybody except fund managers, and then second, the taxation of fund manager income.

So the second task, after identifying the control group would be to identify an experimental group. In this case the experimental group would be comprised of fund managers. And then after identifying the experimental group and the control group, we would then set out to eliminate variables that might skew our dataset or our scientific results, if we want to call it scientific.

For example, we might first assume that fund managers instead of making extraordinary amounts of money make only average amounts of money. Because some people have argued that the effort to tax fund managers under the method applied to our control group, normal working people, is merely an example of class warfare on an effort to soak the risk. So just for the sake of argument let's just put in our experimental group those fund managers who make no more than a $100,000.

Okay let's — I know that's probably an unrealistic assumption but let's put that — let's put them in our experimental group. We will just deal with him. If a deal with them and we still — and we compare them to the — to people who go to work, we still have an unexplained difference in the rates that are applicable to fund managers and other service providers.

Fund managers pay 15 percent max, and then other service providers pay up to 35 percent. So, another hypothesis is that fund manager compensation is different because it is subjected to entrepreneurial risk. All right, so we can control for the variable in the control group. We can compare the taxation of fund managers only to the people in the control group subject to risk.

So in our control group we might include only the people who are entitled to incentive compensation or bonus. All right, now we have — our two groups are a bit more similar, and we still have an unexplained difference in the taxation methodology 15 percent versus 35 percent. So the third, and this is my final hypothesis, you might have more variables that you think justify the difference in taxation would be to recognize, and this is an argument that a lot of the fund manager lobbyists make, it is that fund managers are adding so much societal value that we should grant them a tax preference. I mean, they're saying, we create so many jobs, look what we did with Google et cetera and so forth.

So to test this hypothesis we might limit our control group only to those workers who are, one, subject to entrepreneurial risks, the bonus people, and the incentive compensation people, and to add some significant value would — however we define that to the society. For example, you could limit our control group to tobacco industry personal injury lawyers or to lawyers who sue corporate insiders for lying to investors. They are subject to risk, and they are adding value. I mean, they are creating jobs they are lowering health-care costs right?


(Laughter)

MR. JONES: I'm not — is this a ridiculous argument? So now we have a control group comprised only of workers other than fund managers and experimental groups comprised of fund managers. We have two groups that are essentially identical because we have control for our, sort of, variations. Okay, we have taken out the class warfare argument. We have dealt with the entrepreneurial risk argument. There are people in both categories. And I think the argument that David makes is a good one. I mean — but I will turn it around. I mean, now we have the same people doing the same thing, and one group is being taxed preferentially, and they are almost identical.

So we still have this unexplained difference in taxation and to the extent that the difference remains unexplained we are not to tolerate it, we should change it. We should either tax everybody else at 15 percent or tax the fund managers at 35 percent. Thank you.

MS. SHEPPARD: Thank you. I would want to point out that the fund managers who are making $100,000 are the ones paying alimony to two ex-wives.


(Laughter)

MS. SHEPPARD: Reader, if you don't want to go bankrupt, don't buy fancy cars and don't get divorced. And next we have Charlie Kingson, and Charlie Kingson is a prominent expert in international and other things. He has written — for those of you who teach, he has written a wonderful international textbook which explains our international rules in plain English. At the moment, he is an adjunct professor at NYU and Penn.

MR. KINGSON: Lee, thanks. An admissions dean in Colombia once told me that he had never met an applicant who wanted to be a tax lawyer. And you get into it, at least me, because you really love the meaning of words and analyzing it. And the discussion I've heard, not only here, I mean, it is always very remote from that. It is, you know, what is equitable and what is good for the country or bad for the country.

And it seems to me that the real question, whether amounts received by fund managers are really for performance and services or for the transfer of property. And I look at things, you know, not from a macro perspective but I, you know, in my whole career I really looked at what kind of an opinion do you give.

And an opinion is based on really the fact, I mean, the cases. And just about nobody, I mean, really discusses the case, they says — they just say the distinction is very difficult. And I don't think it is that difficult. Basically, it's easy to say there is something, services, when there is no transfer of property, when somebody is giving a haircut, or giving professional advice, or transporting you by plane, or taxi, or train, I mean, there is no transfer of property. The difficulty comes when there is a transfer of property. And the first case in my international casebook is a case where a company is building a dam for the Dominican Republic, and the question is as to what their gross income is, is it services or have they sold Dominican Republic a dam?

And the court really says they — its services. Obviously, Dominican building a dam is hugely capital intensive and it is a big risk. But they say it is services, because they didn't build the dam and then ship it to the Dominican Republic. They didn't take any market risk. The risk was really their ability to accomplish that task. And so they say it is services.

And it seems to me that is — the person who takes the market risk is a person who transfers property. I mean, if you buy a painting, assuming he's still alive, from Jackson Pollock, he is transferring property because he has taken the risk. If you hire — if you get a painting by hiring someone to paint your portrait that is services income, because there is no market risk, and it goes off rule if you — Donald Trump takes the market risk if he builds a subdivision. But if I hire a contractor to build a home on my property, he's building services — he is performing services because he doesn't care what the market value is. And then the question becomes, which I will come to later, it is the fact that your amounts paid depend on the value of the property. It means that you are considered to own property.

Now, there is a case involving Pierre Boulez, who is as conductor and CBS hired him to come over there. Hired an orchestra and then had him play — had him make records, and they paid him by the record. In other words, his compensation was tied to how many records were sold. And they said — or his payments were tiered. And the question was had he — was he transferring property, was this really a royalty which was exempt from U.S. tax, or was it services which was subject to U.S. tax.

And then he said, well, you know, he is getting paid. He is getting paid like a person who own the copyright, because that is contingent, and that is how people get paid. But, basically, he didn't own the copyright. He didn't — and so since he didn't own the copyright, the fact that it was contingent meant that he paid — he did services. And the same thing happened. I mean, I was very — I didn't interrupt, but when — I mean, the analogy to compensation scheme of fund managers is not one that I think they relish but it is tort lawyers, and — I mean, those tort lawyers get paid by the result for client. They get a percentage of the recovery.

And there was a Supreme Court case in 2005 called Bonitis, and Bonitis basically — another bank took over his bank, and he refused to cheat his customers and they fired him. And after a long fight he got 10 — $8 million and he gave 3.5 to the lawyers, it is a contingency because he couldn't deduct it under the alternative minimum tax he claimed that really the lawyers were sharing in the fee, and they were getting part of recovery. So it was partly their income and partly his income.

And the court said basically, no. I mean, they said — they didn't say so in many words, but they said that the lawyers had not really been unjustly dismissed. It wasn't their claim, and that — they quoted Judge Posner a former — I think he still teaches at Chicago. And he said, the contingent fee lawyer no more owns the claim than a commission salesman owns his clients — his employer's receivables. And I think that that is really — those two analogies are really, sort of, the analogies of really the fund managers, the fact that they get paid by how well the property does doesn't mean that they own the property or that they sell the property.

And there is a lot of talk about — well, what got me into this was really the discussion of carried interest that everybody talks about as if it just came up. Carried interest is something that comes out of oil and gas years ago. Because they said that if somebody — there is a famous case Commerce v. Perkins, and somebody sold oil rights for, let's say $100 payable solely out of the oil, and they said, basically the guy who bought the rights really, it wasn't his income. The other guy had an economic interest, and he was deemed to sell the oil.

And so, that's really what these people are saying. It seems to me the fundraisers are making the same claim that we are only getting paid to the extent the property produces and therefore we're deemed to sell the property. The trouble with this is (off mike) one, there was a case that somebody tried to do this and said well if Perkins can buy the oil out of pretax profit stuff that is not taxed to him, as Lee said, basically, you can do this with real estate, and they bought a farm and they said we will pay you $100 out of the crops, and the (off mike) case said, no, you can't do this. We are not going to extend Perkins beyond oil and gas.

And not only, we're not going to do that, but they said, you know, the fact that the measure of what you get is dividends, or profits, or farm produce doesn't mean you own that farm produce. And it seems to me that is the basis of the claim of the fund managers. Moreover, in '69 the Congress didn't overrule Commerce Vs. Perkins and enacted 636, that said, basically a production payment that is a carried interest.

And it is considered carried because the driller is bearing all the expenses just like the fund managers. Well, they don't even bear the expenses, they get reimbursement. But to call it a carried interest the fund managers are carrying it if they pay the expenses. But if they get reimbursed for the expenses they are not really carried at all. I mean, the other people were like it's carried because the other people are reimbursing them. But this history, it's — so 636 says, basically, that a production payment which is what these people are getting in the oil and gas area it is considered really at debt. And it seems to me that even that history, that if you don't, you know — getting paid contingently doesn't mean that you own the property. It's very telling.

Now, people talk about entrepreneurs, but you know, these people really don't take an entrepreneurial risk. I don't think it is a partnership because they don't bear any losses. And not only don't they bear any losses, but, you know, service providers bear losses. I mean, you take a look at the airline, you take a look at the satellite companies, you take a look at the railroads. I mean, these people are all service providers. They put a lot of capital in, and they are deemed to provide services.

They don't — they aren't deemed to get capital — I mean, tort lawyers, the advance a lot, if you read the movie — or saw the movie A Civil Action, they spend so much money trying to get recovered the firm went bankrupt. And so — and the argument that entrepreneurs like Bill Gates get capital gain, it seems to me a lie to the real thing because what happens is — and I got to this really through the international area, because I think the biggest problem in the international area is the export of high-value intangibles to low-tax countries like Ireland. And it's been hidden because the Internal Revenue Service can't really — isn't very effective in catching it.

And what you don't see is when — let me just give an example of a hardware store (off mike), and it started out as a hole in the wall, and it started out as a hole in the wall, and he now has 200 yards of storefront on Third Avenue, and it isn't a low-rent district. He lives — I mean it's two blocks east of Steven Schwartzman, so — I mean, he really succeeded and he succeeded because, you know, you should always get what you wanted, and what he has, if he gets capital gain, he has good will.

I mean, we think this is the best hardware store in the world, and you see his trucks all over, and he has going-concern value, that's an intangible. And because he has got relations with suppliers and his staff is knowledgeable, and you have all these intangibles, there are listed in 936(a), and there is a, you know, systems — patent's goodwill, you know — I don't know going-concern value, which are independent of the services of any individual, and at one — at some time my services, when the organization gets big enough, it becomes independent of me, and I get capital gain not because I've worked hard, I get capital gain because there are recognizable intangibles. And I'm selling the intangible, and Bill Gates is selling intangible. Microsoft is still going strong even though he is not there. He created intangibles, and creating intangibles with your own efforts is not a taxable event.

But I think if you recognize, when you talk about all those little entrepreneurs who get the 100 percent bank loan, I don't know where, but, I mean — I think what they do is they create intangibles and they are really selling intangibles, and I think that is — Senator Schumer asked the question, well, don't you think it carried interest — I mean, that we should treat everybody alike and all carried interest.

We didn't define what is carried interest. There are — it seems to me if you are going to call it carried interest there are two types of carried interest, the carried interest that is created by transfer of property which are treated one way, and then carried interest created by performing services, and that's another way. And I think that if you analyze it, I mean, if I — I mean, if they — I'm not crazy about any bills because I think these people have gotten away with this for a long time.

I think that they all knew it was compensation when they used to say that their partnership — my partner, former partner remembers me as — I mean, I didn't work in this area that often but every time they say that the profits interest was only worth $1000, and said, well let me buy in, and you know —


(Laughter)

MR. KINGSON: And it's really the same thing. And I would be very interested, because, I mean, I have sort of laid out — if I did the brief, I've sort of laid out what I would say on the brief, and what I would like in an opinion, and I judge an opinion not necessarily by its conclusion, by its reasoning. And you see in the joint committee, for example, the joint committee staff said well you know one thing for capital gains for these people is, if they sold their partnership interest they get capital gain. Well, they don't mention the dog track case. I mean, the dog track case is when a guy sold an interest in a partnership that had the right to manage a dog track, I think, for a percentage of revenue. And they said, no this is an unrealized receivable, and you get ordinary income, it's not goodwill.

And when somebody writes that you say, well, you know, that is - - I mean, you know, when you are reduced to talking about sweat equity, the question is not sweat equity, the question is, do you create intangible value? And that's what you're getting the capital gain as. And it seems to me, you know, I'm repeating myself, but it can be analyzed. And if you analyze it in terms of who has the risk and who has intangibles created, you have you have a sensible thing, you have a sensible rationale, and you don't go into what is really so far into my background, these equitable and — I mean, it is really what words mean.

MS. SHEPPARD: Thank you, all of our speakers. Let me just throw a few things out for folks to think about when they formulate their questions, one is that, in both here and in Britain where the treatment of these profits interest is even more generous than it is here, in both cases it is administrative. In neither case did a legislature make this decision. And especially of what Charlie was saying — let's talk for a minute about the Blackstone deal. When — because it is important to keep an eye on, you know, what did Blackstone sell to the public?

They sold a small piece of a reformed management company that was going to manage all of the partnerships, the funded partnerships that have the private equity holdings, the corporation is underneath them, and that's why you get that big huge flowchart. When they did that, you know, what are the — you have to think, well, okay, what in terms of assets are they selling to investors? Well, a big chunk of what they were selling to investors was goodwill.

And, actually, they value the goodwill at about half of what they were selling to be investors and then the other half was the right to management fees from these partnerships. That would be the 2 percent management fee. Also the right to the carry, and when then they did that they valued the carry. The prospect went through several iterations. But in one of the early iterations they gave at least two valuation methods for the carry. They were valuing it like an option using the Black-Scholes Formula and it's not a, you know, it's a sensible approach because when you think about these kinds of funds and we were talking about them all as a piece, we are talking about hedge funds, and private equity funds, and venture-capital funds, and all these funds that do a lot of borrowing as a piece, because for our purposes there are no functional differences, even though, you know, they are at this moment trying mightily to convince our legislators that there are functional differences.

The level of borrowing in some of these things is so heavy that all of the equity interest, not just the carried ones, are functionally, economically options. That's basically a bet that the assets underneath the things own are going to appreciate so much that they are going to be larger than the debt on the thing.

And when — then when we start talking about options, and we start talking about comparable populations we also have the corporate case which Darryll mentioned and we know that in the corporate case with section 83 — and section 83 does not say employer and employee, it says service provider and service recipient. That was a sensibly drafted section. Yet in the corporate case our employee is granted an option, our employee can elect to have that option valued that day, and it's a good election to make and take it into income that day as ordinary income. It's a good election to make because on the day of grant, the option is probably had its lowest value.

And this election has been extended to — or will be extended, it's a proposed regulation, to holders of carried interest and partnerships. But let's say our employee doesn't elect. On the date of exercise the thing — when the option is exercised, and the employee gets the shares, the employee is taxed on ordinary income between the difference between the exercise price, assuming the employee paid it out of his own pocket, and the value of the shares on that day.

And then after that, well, the employee owns the share, the employee has now got a capital asset and is going is going to get capital treatment henceforth. As a practical matter they don't hold, as practical matter on the date of exercise, you know, in — basically in the same transaction they sell the things and get cash.

So there usually isn't much of a holding period. So most of what you're talking about is ordinary. In the fund managers case, as I understand it, the — there are managers who hold their carried interest long enough to get capital gain treatment, which is not very long under the law, and then sell it back to the partnership.

So what's always struck me about those two cases is why are we, you know, giving different treatment on the happenstance of who your service recipient has to be, and, you know, if you are terribly lucky, your service recipient is organized as partnership, and if you are not your service recipient is organized as a corporation. With that I will shut up and let folks ask questions, or make comments, or throw split bolls, or whatever they want to do. Sheldon Cohen, former IRS commissioner.

MR. COHEN: I am responsible for 83. Everybody here ought to know —

MS. SHEPPARD: Give credit or blame.

MR. COHEN: — how it came about. If you — if those of you in the room who are old enough you will remember that there was a Cookman case and a Layman case that is, one said that, when restricted stock was issued its compensation, it was not income because of the restriction. The other one said when restriction lifts it's not income. I got a little insensitive. A ruling request came to me and they were approving them left and right in which an entertainment, who shall remain nameless, was to receive restricted stock in the Ford Motor Company and the basket of stocks it will provide he was their entertainer.

And I looked at Harold Schwartz, and I said you will not issue this ruling, you will never issue another ruling, everybody will get adverse rulings from here on, and we will litigate any case. Now, that forced the industry to go to Congress. I wanted them to go to the Congress and ask for the legislation, rather than me because I — and 83 was the result. Stanley Surrey and I drafted — were drafting one.

So — I'm at loss to understand the difference between this and that, forgive me, also I — the first time I ever heard of carried interest was when Albert Gore, Senior father of Albert Gore raised the issue in '67 or '68, I didn't understand it, somebody explained it to me. And then Albert Gore, Senior is responsible for 636, not me. But, you know, I am at a loss to understand what's the difference. David — David to the contrary notwithstanding.

MR. WEISBACH: Well, here is a part of the question, and I would like — we have a number of partnership experts in this room, and I'd love to hear from them. We have two things going on. If we look at the approach, the four approaches that I described, or if we just look at the Levin bill, the Levin bill appears to assume the status quo as far as what happens on the day that this carried interest is granted to the manager.

So even though it converts — while the manager holds this thing it is converting every — and sells the thing, it is converting everything to ordinary, but it doesn't say, well, on day of grant, what's going on. And like I said, the permission to treat it as zero is administrative.

And what we had, for a very long time in this area, because we had, you know, without reiterating the history here, we had the Diamond Case and we had the Campbell Case, and you had the partnership bar and the real estate world kicking and screaming at the idea that, you know, a broadly drafted law that says "service provider" and "service recipient" should never apply to a "service partner".

And, you know, one thing that the administration did in the proposed regulation — 1.83-7, is it, right? Seven? Dash seven, right? Yeah, okay. One thing that they've done in the proposed regulation is, that it's — you know, and I disagree with the result that they get in the proposed regulation, but in the proposed regulation they said, look, it's — Section 83 applies to this deal. You can't say, because we're in — out here in subchapter K, we've got some kind of magic circle around subchapter K, and section 83 shall never apply.

But that was the position over — for a fair amount of people for a lot of years. So we've sort of crossed that Rubicon. We've applied Section 83, but we still have to decide, are we going to tax these folks on what they get on the day of grant or are we going to leave the present administrative interpretation in place.

MS. SHEPPARD: Sure.

MR. WEISBACH: Let me just make a few comments on the 83 issue. But before I do that, I just want to respond to Charlie's arguments about current losses. I've never been asked to give an opinion on one of these deals. So I don't know whether he has taken it in that sense, but my guess is, in the current law, this is a either should or will opinion that this is capital gains because I don't think there's an issue that these guys are partners.

Under 707(a)(2)(A), I don't think there's an issue that partnership has capital gains. So I just don't see why — how current law gives a different result. And I think the case laws are clear on this, distinguishing between service income and capital income, it might defy anyone in this room to make sense of the Ferrar case and then to reconcile Ferrar with Drussar. It can't be done. I tried many, many out. It cannot be done.

Okay, on 83, a couple of things. Number one, 1987, Barksdale Hortenstine wrote an article in Taxes magazine that was entitled something like Campbell or Diamond, you know, the upfront issue, the issue that will never die. 1987, 20 years ago, and here we are. Yeah, it will never die. It's older than probably almost anyone in the room. Hard to see everyone debate it again.

The second thing is, so 83 applies, I suppose, they have to value it upfront. So now, let's say, five guys from Cerberus. No — yeah, Cerberus get together, before they issued limited partnership interest, and said, "We're forming a partnership to do good things, and our intention is to try and raise a billion dollars and then go buy Chrysler, or do something; buy a bunch of companies and sell them."

So they've done nothing. They have — they put in a few bucks, and they also each get back service interests. But they really haven't got anything yet. They're just, kind of, smart people forming a partnership, hoping to go out and raise money. They can be able to value it then in which case you get us when the value is low, you know me and Lee form a partnership, and say, we're going to go out and do good stuff, well, not a lot of value there. They're going to be able to — they would be forced to revalue it when they've eventually raised a billion dollars. They can value it upfront and — not a lot of stature.

MS. SHEPPARD: I think that part of the reason we're here is, you know, that the stuff can be valued. And, yeah, you're right, on day one, you know, you're going to get a lower value. And, you know, one observation that I would want to make, for the — for those of you who are lobbying this issue and thinking about your endgame, you know, one — your endgame might be to go for the, you know, value-it-on-day-one approach because then you get to argue with the IRS about what the value is.

Now, a lot of people, when they're told, oh, god, we have to argue with the IRS about what the value is, and this doesn't matter whatsoever the issue you're on, you know, we'll — on these awful evaluation questions. But we have these awful evaluation questions all over the code. And we have them, like it or not.

And we have also made decisions, and they were good decisions. A few things like Section 475. Section 475 requires dealers to mark their position, their market. And when they do that, they are going to have a lot of say about what the value of the thing is because they've got all the information.

I mean, when you talk about valuing stuff, when you talk about valuing scary stuff that there isn't listed public market for, you talk about giving the holder a lot of control over what, we say, the value is. But financial accounting has lived with that forever. Financial accounting values contingent liabilities for purposes as sticking them in the balance sheet and the income statements.

You know, financial accounting — if financial accounting can live with it, you know, we, in the tax world, can live with it. And we're going to have to because your other choices are worse. Your other choices are perpetual deferral, or your other choices are things, like the courts did, and the administrators did for years; letting folks value something that we know is valuable at zero.

And, you know, I basically would say, we should value stuff when we can. And one of the expressions I like to use when people starts screaming about this, and it's usually lawyers, say, "Look, I live in New York. There are guys in New York who can give you a value of the sun coming up in the morning." You know, these are people who value stuff all day long. These are people who have a value on their portfolio every second of the day.

Actually, one of the amusing things about the — without getting — rambling on here, one of the interesting things about the credit meltdown that we're having is, we're now hearing, oh, we can't value those mortgage-backed securities we owned. Well, yes, you can, but you just don't want to admit to what's happening to the value of those. Okay, so I need to shut up. Other folks? Diana Wollman from —

MS. WOLLMAN: Okay, I would like the panelists — am I doing this right? Yeah. I'd like the panelists to respond to the following question. Lee is, sort of, admitting that these people at some point become partners, and that we should just treat them as partners. But take — I want to understand when you leave the realm — for those of you who don't believe they're partners and believe they're service providers, I want to understand when we leave the realm of partners and get into the realm of service providers.

So I want to start at one extreme, which is that, let's say, either side, with Joshua, that we're going to open up a juice bar, and I say to him, listen, if you put up some money, I'll make some of the business decisions, and may be I'll let you make some of the business decisions because you're putting up so much money, some of the really big ones, but I'll basically run the juice bar. And the juice bar makes ordinary income. And he gets ordinary income, and I get ordinary income. He's putting up the money; I'm putting up the services. This is, like, the classic partnership, right? It's the classic partnership.

Okay, so let's say that instead of running the juice bar, we buy an orange grove. And we sell all the oranges. Well, that's inventory. So that doesn't — that makes ordinary income also. Now, let's say that instead of buying an orange grove and selling lots of oranges, I say to him, look, I really think that I'm really good at selling orange groves, but I don't want to sell a whole lot of them, so let's form a partnership, and we'll buy maybe two or three orange groves, and I'll go out and sell them.

And now we're still in a partnership, I think, and the orange groves are now capital assets instead of ordinary assets because we are not selling them to customers. So we both get capital gain. And I know that Charlie is an historian, so he can tell me how I — at what point the case law would separate what started out as the juice bar, when we both only had ordinary income, to the selling of the orange groves where we both had capital gains. Somewhere along the way, it must have stopped being a partnership.

MR. KINGSON: Diana, I'm not a historian. I was around when these cases —


(Laughter)

MR. KINGSON: Well, I mean, partnership is very funny because it really obliterates what happens. I mean, if you're performing services and he's putting up the capital, you don't get services income and he doesn't get all the sales income and pay you. It's all melded into everybody's getting — selling the oranges.

When you're talking about you're doing the orange groves, because I think that in these hedge fund partnerships, there's a mistake of calling these profits, interests. It's to mind, the investors have the profits always. What you were saying at the juice bar, you're standing behind the counter selling the oranges, that's the profit's interest.

If the land behind the juice bar goes way up, I wouldn't expect that the person behind the counter would share in it. When you say, basically, that the only thing we want is the appreciation of capital, then I think that, that becomes an interest in capital assets, it becomes a capital interest and not a profits interest.

And, in fact, the interests in capital assets is only above a certain presumed rate, which is the hurdle rate, and I assume that the hurdle rate is really what you — what somebody would consider the ordinary profits. And that only — it's only the rate above the ordinary profits, depreciation, and capital asset is the capital —

MS. WOLLMAN: See, I disagree with you. To take the example of a law firm. In a law firm everyone's doing the same thing. At least you hope they are. They are all providing services and they're all getting ordinary income. Some people fight more than others, but they all provide services, okay? So — but there are partnerships out there, which are respected as partnerships, where it's like the one that I described where one person puts up one type of thing and another person puts up another type of thing.

You know, the classic — go back to the classic partnership where people say, look, I've got the peanut butter, I've got the chocolate. Let's join together in a partnership. And that's kind of like, you know, he's got the cash and I've got the wherewithal. You know, I'm good with the customers, so let's get together. And I don't think it's right to say that that can't be a partnership when one person brings one thing to the table and the other person brings the other thing.

MR. KINGSON: I agree, but I think that usually in partnerships of capital, I think, in order to be a partner, you have to share some of the losses.

MS. WOLLMAN: You need to share the risk, right. Well, the people who get the carried interest would say they do share in the losses because if they are carried, it's a cumulative amount. So they might get a profit on one deal and they might lose it when they — when another deal came back at less than the investment.

MR. KINGSON: Yeah, but they never got — they never — out of pocket, in that if the thing goes belly up from day one, they don't lose a dime. I mean, forgetting what they put in from the over — that's not the overall —

MS. WOLLMAN: Right.

MR. KINGSON: — which I agree they get capital gain on. But if they never put up their credit or they never put up their money, I don't see why State law should make them a — I mean, I've been teaching a case, I mean, of course, on a Supreme Court tax cases, and they are so funny because someone would say that, you know, State law controls and other people would say, State law doesn't matter. And I think that if you're looking at this to say that State law controls, I don't see why it should. And I think you make the strongest case about the orange grove. I think the orange grove is a very large case. I figure that someone might be able to —

MS. SHEPPARD: Oh, what — we have a man in the first row who wants the microphone, and so, I need somebody to give it to him. But I just want to interject something, before he goes, about 707(a)(2)(A). 707(a)(2)(A) is supposed to deal with a situation when a service payment is disguised as distributed share. It hasn't been implemented yet.

In the legislative history, there's some instructions. And when Professor Weisbach here says that fund managers are clearly partners, clearly entitled to distributed share treatment under section 707(a)(2)(A), he means that under those instructions it says, if your compensation there is very contingent, that, and it even gives him investment partnership as an example, that you're entitled to distributed share treatment.

Now, one more sentence. What I am advocating is, so taking that concept and going way further and really removing this person from partner treatment, and I'm agreeing with Charlie that, you know, just because State law says this guy is a partner, doesn't mean the tax law has to say he's a partner. And now —

MR. FELDGARDEN: My name is Bob Feldgarden. A little more history. After Section 83 was enacted, we realized that we failed to define the term "transfer" and we failed to define the term "property". And we also didn't want to provide capital gain treatment to people who had option. We didn't want somebody to say, this is property, and therefore I can value it today and that's it. So, the thing we looked at was, how much would you lose, if the property declines in value. And if you didn't lose, stand to lose, an amount that approximated the value of the property you purported to own, then you didn't have a property. You had something else.

Secondly, on services. It seems to me under Section 83, that if you lose what you had, if you take a hike, stop performing services, you don't get capital gain. Not — and it doesn't matter how much money you've invested. If you agreed that I'll put up the money, but if I take a hike, I — maybe I'll take my money back or — but I don't — I lose the profits, you don't get capital gain. Thank you.

MS. SHEPPARD: Thank you. Other folks. Marty Lobel?

MR. LOBEL: I'd like to pick up from something that Mr. Kingson said. Most of the hedge funds managers I have seen seem to think that Greenwich, Connecticut, is part of the Bahamas. And I'd like to ask the panel whether the simplest solution wouldn't be to treat all the income, whether from wages or capital gains, the same. You can probably lower the rate for wage income and you got to raise the income for capital gains.

And secondly, wouldn't we might all be much better off if we went through a unitary system of accounting so it doesn't make any difference where they say they've earned the money, like Wall Street Journal had a wonderful article by Glenn Simpson of how Microsoft saved a few hundred million dollars in taxes by renting a desk and solicitors office in Ireland. I mean that's, I think, a travesty. And I'd like to hear what the panel has to say.

MS. SHEPPARD: Let me clarify that question for the audience. The carried interest question really doesn't actually depend — actually, you know, let's get our geography right. Greenwich, Connecticut is not part of the Bahamas. It is part of the Cayman Islands.


(Laughter)

MS. SHEPPARD: There is a whole bunch of issues, which we're not talking about today, which we could spend a whole other seminar talking about. And I actually went through a whole morning long with holding tax conference in New York to learn about a lot of these issues.

There is a whole set of issues attached to the fact that under section 7701, we say that you are a foreign resident if you are organized under the laws of a foreign country. So if you have — you file your papers for your fund partnership in Grand Cayman, you're resident of the Cayman Islands, which make no sense at all.

In the other Western countries, it is managed and controlled or it is principal place of management that would put you in Greenwich, Connecticut, and that would remove a whole bunch of issues. But it is connected to issues that we're talking about today because there's a whole issue of, you know, these guys are making so much money that, that which they are not paying out as alimony, they are deferring receipt of, and there's a whole set of issues of deferral receipt when you claim that your service recipient is resident in a foreign jurisdiction.

But it really isn't about the issue we're talking about right now. The other issue that Marty raised, and is about when somebody is genuinely foreign, the whole transfer placing issue, that's a whole mess, that's the formulary apportionment issue. It's what the States use. They've used it for 100 years, it works. It's what the Europeans used before the United States pushed them over to transfer placing and separate company accounting. The Europeans are in the process of going back to that. But, yeah, folks want to talk about that. We can talk about it if any of the panelists want to talk about it. I'm kidding.

MR. KINGSON: Well, I'll just say that the formulary approach disguises something because what you have is the reason that Microsoft can make money abroad, Pfizer or all these people, is because they have intangibles abroad. And the formulary approach is that, you know, you divide it according to the assets and the sales and everything. But the question is whether your chief asset is generally your intangibles. And the question is where do you locate the intangibles because formulary has to take that into account. And I mean, I think, the formulary approach might be good, but it's only good if everybody uses it. And then you have to again agree on the value of the intangibles. But —

MR. WEISBACH: But, just capital gains for a second. Yeah, it would be great if you can unify the rates, in my view. There's some questions whether you can get capital gains rates up in the mid-30s, will that just be too inefficient and start getting revenue losses at some point. So you have to, kind of, push the rates down, but my entire analysis in approaching this was on the assumption it wasn't on the table. If that's on the table, the dividend changes.

MR. JONES: I'll add something to that. I think the fact that every time we talk about getting rid of the capital gains preferences, that the — well, frequently there's mentioned the idea of indexing basics, which suggest that the purpose of capital gains preference is that tax yield economic gain on income that has already been taxed.

And, I guess, going back to, probably with reference to the language and service partners, the fund managers haven't invested through the pre-taxed income. So they ought not to get the capital gains preference. I mean, regardless of — I'm all for calling them partners. I don't mind calling them partners. And I even think that I don't mind them valuing that or taking the interest into income later on because although it's capable of evaluation, you can't really consume it yet. So I don't mind — I don't have a problem with a deferral aspect of shared interest.

MS. SHEPPARD: One of the things — one of the economic things that gets lost in discussions of capital gains is that most capital gains are the result of inflation. But we tax inflated gains, we tax inflated salaries, you know. And we have a fed that tries to prevent inflation and also tries, mostly have succeeded over the years in, preventing inflation. Do other folks have — yes?

MR. NISKANNEN: Bill Niskannen. May I first acknowledge that I'm a mere public finance economist, not a tax lawyer? From an economist's point of view, this issue is conceptually simple. It is important to recognize why the tax rate on capital gain is a preferential rate. It's because this income has already been taxed once or twice, and you don't want the cumulative of tax on the same flow of income to be extraordinarily high. And so that's the reason why we tax capital gains at a preferential rate.

Now, the issue about these hedge fund and so forth is that if these general partners put money that has already been taxed into the partnership, that should be — the returns met should be taxed to the capital gain. If they are putting their sweat equity into the partnership, it should be taxed like as ordinary income. And one of the principles of economics in this case is that you want the person doing the same thing in different organizational forms to be taxed in the same way. You don't want a person doing something in a partnership to be taxed at a lower rate than the person doing much the same thing in a corporation.

Now, in a corporation, people who are granted stock options, unqualified stock options, on realization, they're taxed at ordinary income. And these arguments that have been made that somehow the returns from the services that these general partners provide is uncertain, is not in any way unique to these organizations. That's true of people who are corporate executives or individual entrepreneurs. The fact that — the argument that is made that these people contribute a lot to the economy and a lot of the reallocations that they manage have positive side effects, that is not in any way unique to what they're doing.

So from a conceptual point of view, this ought to be straightforward. It is that, the sweat equity of the general partners in these hedge funds and private equity funds should be taxed like ordinary income as would be the case if they — if part of the return — part of their return as corporate executive were in the form of stock options. My sense is that the reason that this has become complicated is that a lot of rich men have been able to hire some very expensive tax returning and an occasional politician, and that's the only reason for the complication under this issue.

MS. SHEPPARD: Thank you.

MR. JACKEL: I'd like to — I'm Monte Jackel. I'd like to return to something that David said initially and a comment that just was made, and the topic here that says what's feasible. Now, commercially talking, I'm not advocating doing something or not doing something here. I'm just talking about the fact that all mechanics, if you go ahead and do something, and unless you're talking about repealing or fundamentally changing subchapter K, you got to be really careful here how you make the changes.

And I just jotted down a few points. Either the proposal is going to be overbroad or you're going to need to define a reasonable return on invested capital to make the distinction between what's services and what's capital gain. Second, just focusing on the Levin Bill, as proposed, it encompasses the split of the partnership interest between invested capital piece and services.

This is going to create enormous complexity in terms of dividing the partnership interest and applying other rules as subchapter K, such as 704 and 752 and other rules. And no offense to the Treasury and the service people here, but given the rate of which complex rates can make it out of the system, you'll probably be talking about a year to two years before something got out.

In the meantime, no one would understand the fundamental definition of terms that are not defined in the proposal. I'd also like to point out that, you know, embedded in this Levin proposal is a provision that would tax distribution out of the partnership of appreciated securities to the partners as if they were sold. Now, that proposal undercuts the Treasury and services proposal where the proposal is on not taxing the partners when you issue a partnership interest for services.

So, one need to carefully think about that project, as it relates to this proposal. Now, if you go into 707(a)(2)(A), you got to realize that in order to apply the Levin Bill, you got to apply 707(a)(2)(A) first, because you need to know whether you got a partnership interest or you got a fee.

It's been 23 years since that statute has been in effect with no guidance published under that provision. Now, just a little bit more on this. Without addressing also the question of whether a partner can be an employee, and how you're going to treat that, and whether it's all W2 income, and even if you do that, as I've seen you've written about, Lee, you need to then also decide again how much — if the party puts in capital, how much is attributable to his investment and what is the services component.

So, when you — and, you know, you could think of other things too. I mean, you could try to equate the situation with the corporate options, with the partnership system, you could think about maybe the market system where partners could elect to value it upfront. But, of course, that creates these complexities in terms of, other than the very sophisticated, if there is still evaluation problems.

So, I mean all in all it seems that, no matter what you try to do, I would — just would counsel, would just — really thinking it through because no matter what happens, there's going to be huge complexity created in order to implement something here, no matter what approach you take.

MS. SHEPPARD: Thank you. We have somebody in the back. I just want to interject one little thing, and then Mr. Niskannen wants to say something else. And then we'll get to our person in the back.

When you talk about, you know, folks lobbying this issue, you know, the investors have a dog in this fight too because most of the investors in most of these funds, and that goes for hedge funds, private equity funds and venture capital funds, can't use a compensation deduction and — because their foreign, because they're individuals and they're subjected to 12, because they're tax-exempts, whatever.

But an income shift, a shift of 20 percent of their income to their managers, give them the economic equivalent of the deductions. So that's why you've got the Levin Bill designed as it is, to preserve the economic equivalent of the deduction for these investors. Now, that's not something we need to preserve, and we can handle it more cleanly some other way. And one thing I think I would want to interject is, you know, why can't we force everyone to have — or force the 754 election? Although you were talking about 752, that's the whole liability issue which is very messy.

Mr. Niskannen, and then we'll get the guy at the back.

MR. NISKANNEN: These issues are not inherently complex. Our job as tax analysts is to make sure that the regulations or the legislation is being considered, is not more complex than is necessary to address the tax. These issues are not inherently complex. They have become complex over time, because of interpretation and in many cases because this is the first time these issues have been addressed in legislative form.

And that's it's important to get it right and — it's important to get it right. And complexity does not necessarily mean that it's going to last for 20 years. The investment tax provisions of the Reagan's 1981 tax law were corrected the next year in (off mike). And so they don't necessarily last a long time if people pay attention to them with any consistent principles.

MS. SHEPPARD: Our — sorry to keep you waiting.

MR. KAHNG: Hi. I'm Sean Kahng, I'm with the IRS, but at this point I'm not representing the IRS. And I have a two — I have two questions and second one is going to be somewhat rhetorical but please consider following assumption. If I with my bank manager form a partnership and I contribute, like, $100 million and I ask to my service partner to do whatever he wants to do, and I don't really care about what he does and then forget about it.

And he didn't invest in the stocks or bonds. He purchased a factory or something and then he is generating — partnership is generating all this original income. Can I, as a capital partner, can I argue, just ignore the partnership or at least the capital gain? I don't really care what happens with the, you know, partnership, because I only put in capital, and I didn't know what the partner — the service partner is doing.

So can I argue that? I mean it's very ridiculous, but I mean, now considering the — all the opinions coming from, you know, those — the panel members, it might be possible that I can argue that, you know, because I only put in the capital, you know, it's only capital gain.

MS. SHEPPARD: The way the law works now is that you put in the capital, you are taxed on distributive shares, so if that thing is throwing off ordinary income, you get that, if it is producing capital gain you get that. One point that has been made in this debate is that, you know, private equity partnerships to the extent that they make money from, you know, appreciation in their investments rather than just scraping fees from investors.

And that was the Wharton Study which says they make two-thirds of their money from taking fees from investors to the extent that they throw off capital gain, the investors get capital gain. Hedge funds don't stay in anything very long, and so what they are throwing off to their investors is short-term capital gain and ordinary income.

So if Levin Bill — well, the Levin Bill doesn't address the investors, but again — well, nothing changes for the investors, but when you say "Ignore the partnership," we are — you know, when we pass something through as distributive share, the partnership is treated as though it doesn't exist, as though the investor was, you know, the owner of a capital asset that happens to be throwing off ordinary income.

MR. JONES: I'd like to respond to his question. I think his — I think the point he's making is that if it doesn't matter what the brain side of the partnership is doing, then why should it matter what the money side is doing. If the money person doesn't — he's just investing and walking away, I think is your point then — allowing the money partner to recognize capital gain in that situation would be the logical extension of allowing the brain's partner to recognize capital gain, because what we're saying is it's irrelevant what they're doing.

They're just — if we call them partners, that it's capital gain. I think is — is that your point?

MR. KAHNG: It is. If the service partners at the private equity funds, they get — even if the partnership that realizes any capital gain, if they have to pay ordinary income on those capital gain, shouldn't the reverse the same, you know, that was my point.

SPEAKER: Right.

MS. SHEPPARD: Steve Rosenthal from Ropes & Gray.

MR. ROSENTHAL: Just a question for Professor Jones who expressed that he was not bothered by deferral, and I take it, Professor, you are mainly just bothered by the capital gains return to investment manager. What if — and I think Monte had suggested this notion in some form, this Section 83 notion or if there were a realization at the front-end at the receipt of the carried interest.

And then at the backend the carried interest were disposed of or distribution occurred with respect to it, would you be okay with that capital gain equal to the difference between the value of the carried interest later and what had been received earlier?

MR. JONES: Yes, theoretically. I do think that David has a good point and that the two gentlemen who were just sitting here had a good point, that there is some complexity in — or they were debating whether there was some complexity. I don't think there is some complexity in — if we tax it upfront at its real value whatever its economic value is, and then determining what part is capital gain later.

There is some complexity there, but it's not like sub — capital gain is the easiest thing right now anyway. I don't mind — I mean I — it took — it's taken me four hours to teach 732 last week. I mean, it's not like we're making the simple subchapter complex which is — I mean it doesn't bother me that we — this is — there's going to be some difficulty in implementation of this.

But the answer to your question is yes, I would be okay with it if it was valued at — upfront at its real value, because it's then been previously taxed, and then the earnings on it are part inflationary, and we ought to give the capital gain preference.

MR. ROSENTHAL: I'm curious, Professor Weisbach, same question which is, if there were a tax on the carried interest at the front-end, would you be okay with that carried interest with the income being characterized as "ordinary" at the front-end, and then subsequent appreciation being treated as capital? But I'm just trying to understand your position. Do you see some elements as ordinary to the consideration for an investment manager?

MR. WEISBACH: If you did an 83 upfront and you made it value at upfront, would it be ordinary income? Well, if you could identify the cost of things that you want to have it supplied to, I think the fundamental problem is deciding when you got a profits interest and when you don't. It's simple right now, because it doesn't matter, so no one bothers to mix these things up.

But as soon as you pass a law saying profits interest get one treatment and everything else is different, then you and other smart lawyers — by the way, since when do you call me Professor Weisbach?


(Laughter)

MR. WEISBACH: We go way back. Well, we got a way to make it very difficult to identify what is the profits interest and what is not.

MS. SHEPPARD: Yes.

MS. WOLLMAN: Okay. So let's suppose that I work in a law firm and I do — I'm a partner, and all I do is pro-bono work. And my partner is some big, you know, big deal litigator, and he makes a lot of money. And because we're partners, I get part of the money that he makes, okay? Now, he put in one thing and I put in one thing. We happen to put in similar things, but we've put in totally different things.

I did all pro-bono work, I'm the pro-bono partner, and he did all the moneymaking work. And I get part of his money, and nobody debates that that's ordinary income to both of us. Why is this different, okay, right?

I mean we're saying that if we both go into this partnership and instead of him doing the bigwig litigating work, he puts in some cash and I put in some services, and I'm still struggling at why we don't think these people are partners just because they create different types — they contribute different types of things to the partnership venture.

MR. JONES: Well, I'll say that as I said earlier, it doesn't matter to me whether we call them partners or not. So I'm willing to concede that that person is a partner. I just don't think that the capital gains preference applies to the service income. How are you going — and it took with David's point which I think is really quiet valid, because standard partnership arrangement, all the partners are providing some services and putting in some money. How in the world, no matter — you're going to say tax to profits interest, how are you going to identify that? It is not possible, feasible, or administratable to do so. How are you going to do that?

MS. WOLLMAN: Okay, but let's say my example. I make a partner and they say to me, "Diana, congratulations, you're the pro-bono partner. For the rest of your career you're going to do pro-bono work."


(Laughter)

MS. WOLLMAN: Do I — and let's say that I just got something of a lot of value, didn't I? Didn't I just get something of a lot of value? They just told me that I can do something that doesn't create any cash flow, and I'm still going to get a profit share every year. So under this theory that we should value everyone as they enter the partnership, shouldn't I have a huge evaluation? Shouldn't I have the huge taxable event when I make pro- bono partner?

MR. JONES: I think yes, but the problem is your liquidity. I mean this is not — this is sort of a layperson's response. You have something valuable, but you don't really have income. As a layperson would — I mean we tend to discount laypeople's opinions. I would say in response — I mean what Sheldon and Charlie might say is we put people on the moon, we could figure this out.

That's what my father used to say, "We can put — land a man on the moon, we can figure out how to distinguish between service and capital."

MR. KINGSON: Diana, aren't you subject to substantial risk of forfeiture? I mean you have to continue to perform services.

MS. WOLLMAN: That's true. But so is — no, not if we're an LLP we're not a problem. But the hedge fund — or the private equity manager is also subject to substantial risk of forfeiture, because if he leaves work, he doesn't get it carried.

SPEAKER: I agree.

MR. KINGSON: That's why you shouldn't get capital gain. If you get paid, if the reward turns are showing up the work today, then you should have ordinary income.

MS. WOLLMAN: Right, I agree. But I was — I mean I'm — not say agree, but I was focusing —


(Laughter)

MS. WOLLMAN: I was focusing on — I'm not going to stake my deal. I was focusing on a different point which is that when someone comes into a partnership — we've always believed that if two people come into an income-producing partnership, that when someone's entered into that they don't have an 83 event, they don't have a gain event, but that's not necessarily the case, because when you come into a partnership, you make all — you're always getting something from the other partners.

You're always getting something valuable from the other partners when you enter into a partnership. I mean when I enter into Sullivan & Cromwell's partnership, it had been around for a long time. There was some element of value just being a partner there.

MR. FELDGARDEN: But that was implicit that you would hang around. You couldn't walk away and cease providing services, go to (off mike) and still collect money from Sullivan & Cromwell.

MS. WOLLMAN: That's right, but if you — but I —

MR. FELDGARDEN: They gave you part of their goodwill, but you didn't really get it.

MS. WOLLMAN: Well, I would argue that I got more than I gave in the sense that if I give services for 30 years, I'm going to get something more than I would, I opened up my own storefront and gave services for 30 years. Hope that's the case.

MS. SHEPPARD: One of — this is going to be Josh Odintz from the Senate Finance Committee, but let me interject something for people like Mr. Odintz and everybody who is a policy person here, and that is when you decide to do something about this carried interest issue and when you go to draft, one of the things you want to think about is the case we're talking about here, the purely service partnership.

Because if I say this to a person who — you know, if I talk about any of these solutions to somebody who is a partner in a law firm, they flip out of me and they say, "That means that if we bring somebody into the partnership, they get tax on day one on the value of their partnership interest," which if it's an old partnership like Sullivan & Cromwell it's pretty darn easy to value, you know.

So, you know, the issue that they're sort of raising, which they — I don't think they intended to raise, is when you have a partnership where there is no capital provided, there is just the bunch of service providers, you know, do we have to make a special rule for that? And now Joshua.

MR. ODINTZ: First off, these are my own views, not the Senate Finance Committee.


(Laughter)

MR. ODINTZ: Number two, contrary to every rumor in town, we are still looking at the issue, and we will be holding additional hearings and have more thoughts on these issues. But I guess the question that we are struggling with is, and we've had three hearings on is what is this income? Is it for compensation? And this goes back to Professor Weisbach's comments.

I think there are two issues that cause concern about, that's at least some portion of this is service income. The first is the conversion of management fees into additional carried interest, which is either an annual election or one-time election or even more periodic, and that seems to be in the majority of private equity fund deals.

So — at least that's what I've heard from many conversations with New York attorneys. The second issue that causes some concern or at least some portion of this is — for compensation is if you look at hedge fund structures, the onshore feeder and the offshore feeder, onshore general partners getting a carried interest of 20 percent based on profits.

Offshore it's a 20 percent fee of a service being provided to a Cayman Corp. But it's still 20 percent type of profit on one side because of an entity selection, it's — it will get the character of the underlying investments; on the other side it's just a fee and treated as fee income.

So I think that muddies the water and that leads — you know, it leads — I think there has to be a concession that some portion of this has a feel of compensation for services. I'm not saying it's all of it, I'm not saying that there is some middle ground. And so I think that's what we're struggling with (off mike).

MS. SHEPPARD: I'll give you the microphone in a second. What Joshua is saying is that the line — you know, when we talk about the 2 and the 20, the line between the 2 and the 20 is very slippery because people frequently and fairly blatantly — and there's — I've written an article about it — convert the two-part which is clearly ordinary income to carried interest.

And also, this is highly dependent on how they've managed to organize themselves. Your foreign feeder is as I understand it, always a corporation, because foreign investors like corporations, because corporations are, you know, for a lot of purposes anonymous, and they don't want, you know, a bunch of — reporting back to their own countries or to our country. David.

MR. WEISBACH: Okay. I actually thought Lee's article on the conversion — the mentoring piece was interesting, because it illustrates to me how hard it actually might be to convert. I didn't realize, I thought that was kind of pretty easy before I read Lee's article and correct me, maybe there's some limitations there.

But my only thought on the conversion is had this never been 2 and 20 as had always been, let's say 30, so the conversion had happened from day one. If you know what I mean, we never would have thought, oh they are taking something as ordinary income and flipping it, right? It's all sort of path dependent that we think, oh, they're doing something bad by converting.

I'm not quite sure I understand whether it's a conception problem and I thought these articles interesting again about whether you can do it. So — and the second thing is whether there is a service element. And that's the point of this chart. The point is, yeah, they go to work everyday. All right? I don't think that you should — people should be denying that they go to work.

The question is whether "going to work" means the tax code treats as compensation or not when in all these other cases it doesn't. That's the hard issue of it.

MR. ODINTZ: Well, as there — if this is — it's just — if I can respond, Professor Weisbach, is recipient of a lot of lobbying on this issue, there are people who take a very absolute position that this is all not for compensation, that this — there are absolute lines, and the line is perfectly drawn. And I think that is a difficult issue to — you know, for private equity and hedge funds to support.

So I mean we're now in a position where we're trying to understand all of that. So this is one issue that causes us concern.

MS. SHEPPARD: David Brunori from Tax Analysts.

MR. BRUNORI: Thanks, Lee. It seems half the room is arguing that the partnership question matters. And earlier we were having the debate about whether the — what kind of work you're doing matters, are you providing us service or not. Now it seems like we're coming back to that. I thought Professor Jones' opening statement — he had the most convincing argument so far in terms of the services when he made a distinction.

I was going to ask Professor Weisbach if he could respond to Professor Jones' construct that there are some service providers who are indistinguishable from the services provided by hedge fund managers and the former which are receiving ordinary treatment under the Tax Code. Because if there is, if we can identify people who are going to work everyday and — I'm looking for the theoretical difference why we shouldn't be taxing these hedge fund managers at ordinary rates.

MR. WEISBACH: It goes back to the chart at the top. So everything that they're all pointed to on the left-hand column is identically available, identically there in the right-hand column, right? That is, his argument didn't distinguish these two cases and that's what you have to do.

MR. JONES: Well, that's right. It didn't distinguish, so why is there a difference in the —

SPEAKER: Well, you're right. His point is it doesn't distinguish them.

MR. WEISBACH: This is the law, and so this is going to be — unless you want to give everyone on the right-hand column — and no one is proposing that. If people want to say, well, let's go find every investor, and you got to — you know what? When you invest in stock you've got to write down the hours.

SPEAKER: Well, I mean —

MR. WEISBACH: We're going to make you take a wage component of every investment you make. No one is proposing that unless you're proposing that you're not going to get rid of this distinction.

SPEAKER: Right.

MR. WEISBACH: And so everything you point to in the left-hand columns and the right-hand column, and — right-hand column is staying there.

MR. JONES: Well, my comment assumes that your charts are correct. I mean if they are correct, then there ought not to be a distinction. And one has to come up; that one rate has to come up to the other, or one has to come down is my point. I don't necessarily agree that there is third-party debt on both sides. I mean I know the argument that if we change the law, service partners could just burrow their way into the capital gains preference.

I don't necessarily agree with that. I do recognize that as an avoidance technique and that's something that have to be dealt with, but I don't necessarily agree with the underlying assumption. Just pointing out that they're both the same and they'll be taxed the same.

MS. SHEPPARD: Let me interject something, and then we'll get to Judge Halpern. A bunch of years ago there was a comparable corporate employee, and that was the manager of Harvard's funds. And Harvard has billions and billions and — you know, Carl Sagan numbers of billions of dollars of portfolio. And this guy was getting paid this astronomical salary.

And people were saying that and gagging on it. And so what they did was they gave him a carried interest in their fund. But, you know, the guy is just — the guy is a fund manager, you know, but as a carried interest it was sort of less offensive because they didn't have to put a number on the page telling people exactly what he was getting paid. Judge Halpern.

MR. HALPERN: I don't quite understand, Mr. Weisbach, why we have to be consistent. We don't consistently identify the labor aspect of income, and Congress has made choices. Inventors get capital gain treatment. People that write books don't, except if they write country western songs under Section 61.

We tax annuities in a way different than we tax interest income though I'm sure in your first class — first year law school class you illustrate that you're economically equivalent. Why cannot Congress simply decide that for good or evil it wants to tax hedge fund managers on their income? And again, since we can put a man on the moon, I don't think it would be impossible. Why not do it? Why do we have to be consistent?

MR. WEISBACH: Okay. Well, the argument is you can't be consistent. I'm not making an argument you have to be consistent. By all means you cannot be, you're forced into an inconsistency because of existing law. That is every — all of the factors are the same in the two columns, but you just — the law treats them differently.

MR. HALPERN: But I'm talking about Congress changing the law.

MR. WEISBACH: But it's not going to change the right-hand column, is it?

MR. HALPERN: No. They've —

MR. WEISBACH: Right, so —

MR. HALPERN: We don't allow ordinary and necessary business deductions to drug dealers, right? Notwithstanding that to get to — to net income, (off mike) in net income, we should. So if we don't want to allow capital gain treatment to hedge fund managers, why can't we do it?

MR. WEISBACH: Of course we — I mean — there is no claiming on constitutionality here. Of course you can. The question is whether it's smart or not. And so given that you have this built-in inconsistency in the law, you got to decide whether it's a good idea. And I think the criteria for whether it's a good idea or not are whether you're able to actually identify what you're trying to tax.

If you can't identify it, then you're going to create complexity and avoidance that aren't going to do anyone any good other than the tax laws.

MR. HALPERN: But that's not your argument. Your argument is an entrepreneur is to invest for themselves and have a return to a labor component to the fact that they make profits better than beta, you know, or the market average, don't get taxed on the return to their labor. But we can — in compensating hedge fund managers, we can identify a return to labor and simply say, you are taxed differently because you're labeled as hedge fund manager. It's not single beyond (off mike).

MR. WEISBACH: No, I'm arguing — was what I said which is that if you have a built-in inconsistency, you've got to figure out where you're going to put these dots, right? The question is how are you going to figure that out? Of course Congress can decide. The question is whether it's smart or not.

And if you can't identify this stuff — and this is where I — I guess I disagree with you. I don't think you're going to be able to identify this stuff. And the reason why is because we don't have a theory of differentiating labor income from capital income in any kind of complex deal. If you can't identify it, then it's not smart to try and do it.

MR. JACKEL: And David, I — I just wanted to also point out that this issue again ties into whether — how you determine whether someone is a partner or an employee, if authorization in the '84 Act of which, you know, 23 years later there are no regs. The existence of 707(c) and 707(a)(2)(A) in the Code, I'm not advocating one position or another.

I'm just saying that in order to examine this issue on a fair and comprehensive basis and not make an inappropriate decision, need to go look at the entire package, and not one isolated piece of it.

MS. SHEPPARD: Anybody got anything else? Because we are — are we going to get the boot at noon or can they keep talking if they want or what?

SPEAKER: They can keep talking if they want.

MS. SHEPPARD: Oh, okay. Well, if folks — oh, does anybody have anything? My microphone wasn't on. You're all getting real quiet you must be getting hungry. We did not — we — I want to close with Robert Reich who was interviewed in an — this was a magazine that securities dealers and the investment bankers read.

And they interviewed him, and he was sort of talking about financial history. And financial history ties into all this, because you know, we're treating some things that are happening in the financial world as sort of inevitable like the weather, and they're not. You know, they're sort of the confluence of our policies. He says, "Thirty years ago finance was the handmaiden of industry."

Today it is exactly the opposite. Industry is almost the plaything of finance. The financial services sector is now the most profitable sector of the American economy, and it attracts some of our most talented brains. Have we gone too far? Is the cart leading the horse? Thank you. Oh, okay. And thank you folks, for coming.


(Applause)

(Whereupon, at 12:00 p.m., the PROCEEDINGS were adjourned.)