Friday, July 13, 2007

Big Money Friday

The Times is on a roll this week, or maybe I'm just noticing it more than usual. Today had a front page story about the Blackstone Group partners' clever tax dodge:

“These guys have figured out how to turn paying taxes into an annuity,” Ms. Sheppard said. “What people don’t realize is that the private equity managers, the investment bankers, all the financial intermediaries, are in control of their own taxation and so the debate in Washington about what tax rate to pay misses the big picture.”

The debate in Congress is about whether most of the compensation that fund managers earn should be taxed at the 35 percent rate that applies to other highly paid Americans, or at the 15 percent rate for capital gains.

It's a little complicated, but here's how it works:

Blackstone’s tax maneuver hinges on its use of good will, an accounting term for the value of the intangible assets, like a well-known brand name, that are built up by a company over time. That value is part of the reason a company is worth more than the sum of its physical parts, like buildings and equipment.

Individuals who create good will cannot deduct it. But when good will is sold the new owners can because its value is assumed to erode. The Blackstone partners sold the good will from their left pocket to their right.

In simplest terms, the Blackstone partners paid a 15 percent capital gains rate on the shares they sold last month in the initial stock offering to outside investors (those shares represented a stake in the Blackstone management company, not its funds).

Blackstone then arranged to get deductions for itself for the $3.7 billion worth of good will at a 35 percent rate. This is a twist on the “buy low, sell high” stock market adage; in this case it would be “tax low, deduct high.”

The deductions must be spread out over 15 years. And the original Blackstone partners are getting just 85 percent of the tax savings, leaving the other 15 percent to outside investors. The deductions on the $3.7 billion to the partners are $1.1 billion over 15 years.

If these tax savings were paid as a lump sum this year, the partners would get about $751 million, which is $198 million more than the taxes the partners will pay on the $3.7 billion of good will.

And then there's the story about people who own pied-a-terres, reversing the typical notion of living and working in the city during the week and then getting away on the weekends. I particularly liked this bit about a guy whose second home is a condo in Miami Beach:

A characteristic of all urban second homes, high or low, is that they give owners an excuse to cut loose or at least have a little fun when it comes to designing and furnishing them.

Mr. Sexton, for example, saw it as a chance to indulge a fantasy of his earlier years — in this case, an obsession with the 1980s television show “Miami Vice.”

“When I was younger, I would be glued to that show every Friday night,” he said. “I always wanted to live like that. When we came here, I told the designer I wanted a “Miami Vice”-meets-New York look. It’s pretty amazing. We’ve got purple walls that go into yellow walls and turquoise walls that go into silver walls.”

Well. I guess we can all dream.

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