10.1.11: Carried Interest

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Abstract

The award of a carried interest in profits to the general partners of a investment partnership is not deemed by most practitioners to be a taxable event, despite the fact that the holding in a celebrated early case, Sol Diamond,[1] can be read to the contrary. (The award of a free interest in capital would clearly be taxable.) The facts in Sol Diamond were that the "carried" profits interests granted to the taxpayer had immediate value; indeed, the taxpayer realized on the interest by selling it at a gain within weeks after the acquisition. Tax practitioners have interpreted the Sol Diamond holding, and the Service's subsequent inactivity, as suggesting a "liquidation value" approach to the issue; that is to say, the proper inquiry is whether the profits interest granted on "day one" would be worthless on "day two," assuming the partnership were liquidated on "day two." What...

Sub-Topics

• 10.1.11.a: The Carried Interest Tax Debate
• 10.1.11.b: Taxation of Carried Interest as Ordinary Income