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No Bain, Much Gain

Plenty of news on the front pages today, from Kim Jong Il to the payroll tax fiasco, but it would be a pity if that deprived due attention from the impressive work done by the New York Times on sussing out the truth about Willard M. Romney's lucrative arrangement with Bain Capital. To summarize: Romney has been getting a big cut of Bain's profits on the buyout deals it's been involved with since he left the firm in 1999.

This comes as a revelation to me and, I'm sure, many of others who assumed that Romney's income the past decade consisted primarily of his gains on personal investments made with his pre-1999 winnings from Bain. I see two main ramifications of this report. One, Romney can be justifiably challenged with having to answer for the ugly downside of post-1999 Bain deals, as he was with some of the less savory deals he presided over as Bain Capital's CEO in the 1990s. Two, there is going to be a lot more talk next year about the "carried interest loophole" that has allowed Romney to pay only a 15 percent tax rate on his share of Bain profits this past decade, far lower than the 35 percent rate he would pay if his income did not qualify for the loophole. As you may or may not know, this part of the tax code -- also known as the "hedge fund loophole" --allows private equity managers at firms like Bain to have the fees they receive for overseeing others' investments taxed at the 15 percent capital gains rate, even though the income derives not from their own capital investment, but is instead simply the compensation for their labor. Egregious as it is, the loophole has withstood repeated attempts to close it, most recently during the debt-ceiling showdown this past summer, when Eric Cantor, a favorite of the private equity crowd, led the fight to preserve the loophole.

But I suspect that Romney's role in benefiting form the loophole will make it even harder to defend. Should he be the nominee, the 15 percent rate (which he receives both on his Bain income and the capital gains from his personal investments) will be thrust front and center in the public consciousness in a way that it hasn't been until now -- voters will be reminded over and over that this particular quarter-billionaire is paying a lower rate on his income than many of them are. More specifically, Romney undermines the very thin case for the special treatment of carried interest because he, unlike active investment managers benefiting from the loophole, he isn't even putting any "sweat equity" into overseeing the investments in question. As Victor Fleischer, a University of Colorado law professor, told the Times, "The rationale for having a capital gains preference is to encourage investors to put their cash into investments. Romney here isn't even putting in any labor."

It's not hard to see why the private equity community is anxious about having one of its own running for president, even as they shower him with contributions. They've had quite the run, thanks in no small part to the 15 percent rule, and now it's coming into the light for all to see.