Hedge Fund Taxation

With all of the tax issues flying around regarding hedge funds and carried interest, etc. I thought I would post this note which 30% of you have probably already seen at one point or another. It is very relevant to hedge funds, and thousands of hedge fund managers will leave America if taxes increase by too much.
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Why should we give tax cuts to the hedge funds?

Let’s put tax cuts in terms everyone can understand. Suppose that every day, ten men go out to dinner. The bill for all ten comes to $100. If they paid their bill the way we pay our taxes, it would go something like this:

The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.

So that’s what they decided to do.

The ten men ate dinner in the restaurant every day and seemed quite happy with the arrangement, until one day the owner threw them a curve.“Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily meal by $20.”

So now dinner for the ten only cost $80. The group still wanted to pay their bill the way we pay our taxes. The first four men were unaffected; they would still eat for free. But what about the other six? How could they divide up the $20 windfall so that everyone would get his fair share?

The six men realized that $20 divided by 6 is $3.33. But if they subtracted that from everybody’s bill, then the fifth and sixth man would each end up being paid to eat their meal.The restaurant owner suggested it would be fair to reduce each man’s bill by roughly the same amount, and he proceeded to work out the amounts each should pay.

And so:

The fifth man, like the first four, now paid $0 (100% savings).
The sixth now paid $2 instead of $3 (33% savings).
The seventh now paid $5 instead of $7 (28% savings).
The eighth now paid $9 instead of $12 ( 25% savings).
The ninth now paid $15 instead of $18 (17% savings).
The tenth now paid $49 instead of $59 (16% savings).

Each of the six was better off than before. And the first four continued to eat for free. But once outside the restaurant, the men began to compare their savings.

“I only got a dollar out of the $20,” declared the sixth man. He pointed to the tenth man, “but he got $10.” “Yeah, that’s right,” exclaimed the fifth man. “I only saved a dollar too. It’s unfair that he got ten times more than me.” “That’s true!” shouted the seventh man. “Why should he get $10 back when I only got $2? The wealthy get all the breaks!” “Wait a minute,” yelled the first four men in unison. “We didn’t get anything at all. The system exploits the poor.”

The nine men surrounded the tenth man and beat him up.

The next night the tenth man didn’t show up for dinner, so the nine sat down and ate without him. But when it came time to pay the bill, they discovered something important. They didn’t have enough money among them to pay even half the bill.

The people and firms which pay the highest taxes get the most benefit from a tax reduction. Tax hedge funds too much, attack them for being wealthy, and they just may not show up at the table anymore

- Richard

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