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When I wrote my piece on financial regulation a few months ago (“Capital City,” January), my intent was to illustrate the power of the finance lobby by providing examples of laws so egregiously favorable to the industry that even the fabled man on the street would instantly be outraged by them. Debit card fees was one example. The Commodity Futures Modernization Act was another. The SEC’s ruling that investment banks could increase their leverage in 2004 was yet another.

But my favorite has always been the carried interest rule:

Wall Street bankers may seem like a pretty well-off bunch, but when they decide that a million dollars doesn’t go as far as it used to, they leave and start up a hedge fund. Hedge fund managers typically get paid 2 percent of the value of the assets under their control plus 20 percent of the investment profits, and for a successful manager this can add up to tens or even hundreds of millions of dollars a year. Aside from market reversals, the only real threat to their riches is the IRS.

Their defense against the taxman is something called the carried interest rule, and it’s elegant in both its simplicity and its shamelessness: It simply declares their compensation to be capital gains, not ordinary income. That means it gets taxed at 15 percent instead of 35 percent.

At first, it’s hard to figure out how they get away with this. After all, capital gains are the profit you make on money of your own that you invest. But hedge fund managers invest other people’s money and get paid a piece of the action. By any customary definition, this is ordinary income, the same as a sports agent taking his 10 percent or a CEO whose bonus depends on performance.

But enough money can buy you a defense of the indefensible.

The rest of this riff was mainly an attack on Sen. Chuck Schumer (D–NY), who, whatever his other fine qualities, was a defender of the indefensible when he blocked action on the carried interest rule three years ago. Now it’s back in the news again, and there’s at least one Republican who’s practically daring Democrats to take action:

Senate Finance ranking member Chuck Grassley said he didn’t think Democrats would let things get that far. “The House first voted to change the taxation of carried interest almost two-and-a-half years ago, and has passed legislation three times,” Grassley said. “Senate Democrats must have concerns, since the Senate hasn’t adopted the change in that timeframe. So the policy appears to be controversial with Senate Democrats.”

Grassley is, to put this delicately, not exactly the most calm and composed member of the world’s greatest deliberative body. But a dare is a dare, and if Grassley is willing to vote with Dems to end the insanity of the carried interest rule and start taxing billionaires at at least the same rate as bus drivers — well, who are we to turn him down? Among big ticket tax items, this is probably the most outrageous example of coddling the rich currently on the books, and if we can’t change it now, with the public practically in a mood to lynch Wall Street bankers, when can we change it? So why not give Chuck Schumer a call and politely suggest that it’s time to do something about this? He’s at 202-224-6542.

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Clara Jeffery, Editor-in-Chief

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