Private equity chiefs using “government-sponsored tax avoidance”, to save £700m a year, investigation finds

Research highlights the money pipeline between political parties and private equity houses

A tax loophole is being used by the executives at private equity firms to save huge amounts on their personal income tax, according to research published today.

An investigation, published by campaign group 38 Degrees, uncovers the private tax arrangements between HM Revenue and Customs and the British Venture Capital Association (BVCA), which allegedly costs the exchequer between £280m and £700m every year.

Campaigners have described the arrangement as “government-sponsored tax avoidance on a breathtaking scale”, the Independent reports.

The investigation also revealed that 16 private equity chiefs are among the Conservative Party’s biggest donors and have given more than £16m to the Tories since 2008.

The findings come as interest in the tax arrangements of political parties’ donors has increased following Ed Miliband’s claim that David Cameron was “a dodgy prime minister surrounded by dodgy donors”.

But the investigation also highlights Labour’s ties to the private equity industry and points out that the tax arrangement was renewed under the Blair regime in 2003.

How does the arrangement work?
The Mayfair tax loophole, named after the area where many private equity companies operate, allows the executives at these companies to pay reduced levels of tax on the profits they make from buying and selling firms.

Some of the money used to buy these companies comes from their own pocket, but the majority of it, around 95%, comes from outside investors.

Nonetheless, the profit made is classed as capital gains, for which the tax rate is 28% – significantly lower than the income tax rates of 40% or 45%.

While executives’ salaries and bonuses are taxed at the normal income tax rate, often this is only a small proportion of their overall remuneration package, which is bulked out with the profit classed as capital gains.

Criticism and defence
Speaking to the Independent, Mike Lewis, the tax expert who wrote the report said: “We’re just talking about ending a special tax deal that allows millionaire fund managers to shrink their own personal tax bills. There’s no reason why this should affect the private-equity industry’s success or investments.”

In defence of the practice, Tim Hames, director general of the BVCA, said the arrangement was just “a bog standard capital gains tax”.

“The industry average is for executives to put in at least 5% of their own money,” he added. “This is not people putting in 20p – they are putting significant amounts of their own capital in.”

Meanwhile, the government pointed out that under the current administration, tax rules had been tightened up in this area.

According to the Independent, an aide to George Osborne said the terms of the current arrangement were “agreed by the previous Labour government, but we raised the rate of capital gains tax from 18% to 28% so this government has actually increased tax on private equity”.

Nonetheless, critics maintain that this particular loophole is unfair.

David Babbs, executive director at 38 Degrees said: “Money which should be funding the NHS is going to millionaire fund managers instead.

“In his last Budget before the election, George Osborne wants to convince the country that he’s on the side of hardworking families on average incomes.

“If he wants us to take him seriously, he’s got to close the Mayfair tax loophole.”