S 445
Carried Interest Fairness Act of 2025
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Bill overview
The Carried Interest Fairness Act of 2025 aims to change how carried interest, a share of profits earned by investment fund managers, is taxed. Specifically, it reclassifies carried interest as ordinary income, subject to ordinary income tax rates, rather than capital gains rates. The bill also introduces rules regarding the taxation of income from investment management services, imposes self-employment taxes on carried interest, and addresses the treatment of partnership interests transferred in connection with services provided.
Key provisions
- Carried interest will be taxed as ordinary income instead of capital gains income.
- Net capital gains and losses attributable to carried interest will be recharacterized as ordinary income and loss.
- Distributions of carried interest treated as sales or exchanges of property will be subject to ordinary income recognition.
- Partners providing investment management services to partnerships will have their net capital gains and losses treated as ordinary income.
- The ‘hot asset rule’ will be extended to include carried interest.
- Self-employment taxes will be imposed on carried interest income.
- Certain qualified capital interests will be exempt from the recharacterization of gains and losses.
- The bill introduces rules for determining the qualified capital interest of a partnership.
Who is affected
- Private equity firms and hedge fund managers
- Partners in private equity and hedge funds
- Investors in private equity and hedge funds
Sponsors
Official sponsors from legislative records.
Primary sponsor
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Arguments in favor
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119th CONGRESS — 1st Session
S. 445
IN THE SENATE OF THE UNITED STATES
A BILL
To amend the Internal Revenue Code of 1986 to provide for the proper tax treatment of personal service income earned in pass-thru entities.
.Carried Interest Fairness Act of 2025
Except as otherwise expressly provided, whenever in this Act an amendment or repeal is expressed in terms of an amendment to, or repeal of, a section or other provision, the reference shall be considered to be made to a section or other provision of the Internal Revenue Code of 1986.
The table of contents for this Act is as follows:
In the case of any transfer of an interest in a partnership in connection with the provision of services to (or for the benefit of) such partnership—
the person receiving such interest shall be treated as having made the election under subsection (b)(1) unless such person makes an election under this paragraph to have such subsection not apply.
The election under subparagraph (A)(ii) shall be made under rules similar to the rules of subsection (b)(2).
The amendments made by this section shall apply to interests in partnerships transferred after the date of the enactment of this Act.
Part I of subchapter K of chapter 1 is amended by adding at the end the following new section:
Notwithstanding section 702(b)—
an amount equal to the net capital gain with respect to such interest for any partnership taxable year shall be treated as ordinary income, and
subject to the limitation of paragraph (2), an amount equal to the net capital loss with respect to such interest for any partnership taxable year shall be treated as an ordinary loss.
The amount treated as ordinary loss under paragraph (1)(B) for any taxable year shall not exceed the excess (if any) of—
the aggregate amount treated as ordinary income under paragraph (1)(A) with respect to the investment services partnership interest for all preceding partnership taxable years to which this section applies, over
the aggregate amount treated as ordinary loss under paragraph (1)(B) with respect to such interest for all preceding partnership taxable years to which this section applies.
The amount treated as ordinary income under paragraph (1)(A) shall be allocated ratably among the items of long-term capital gain taken into account in determining such net capital gain.
The amount treated as ordinary loss under paragraph (1)(B) shall be allocated ratably among the items of long-term capital loss and short-term capital loss taken into account in determining such net capital loss.
For purposes of this section—
Net capital gain, long-term capital gain, and long-term capital loss, with respect to any investment services partnership interest for any taxable year, shall be determined under section 1222, except that such section shall be applied—
without regard to the recharacterization of any item as ordinary income or ordinary loss under this section,
by only taking into account items of gain and loss taken into account by the holder of such interest under section 702 (other than subsection (a)(9) thereof) with respect to such interest for such taxable year, and
by treating property which is taken into account in determining gains and losses to which section 1231 applies as capital assets held for more than 1 year.
The term net capital loss means the excess of the losses from sales or exchanges of capital assets over the gains from such sales or exchanges. Rules similar to the rules of clauses (i) through (iii) of subparagraph (A) shall apply for purposes of the preceding sentence.
Any gain on the disposition of an investment services partnership interest shall be—
treated as ordinary income, and
recognized notwithstanding any other provision of this subtitle.
In the case of a disposition of an investment services partnership interest by gift or by reason of death of the taxpayer—
subparagraph (A) shall not apply,
such interest shall be treated as an investment services partnership interest in the hands of the person acquiring such interest, and
any amount that would have been treated as ordinary income under this subsection had the decedent sold such interest immediately before death shall be treated as an item of income in respect of a decedent under section 691.
Any loss on the disposition of an investment services partnership interest shall be treated as an ordinary loss to the extent of the excess (if any) of—
the aggregate amount treated as ordinary income under subsection (a) with respect to such interest for all partnership taxable years to which this section applies, over
the aggregate amount treated as ordinary loss under subsection (a) with respect to such interest for all partnership taxable years to which this section applies.
Paragraph (1)(A)(ii) shall not apply to the contribution of an investment services partnership interest to a partnership in exchange for an interest in such partnership if—
the taxpayer makes an irrevocable election to treat the partnership interest received in the exchange as an investment services partnership interest, and
the taxpayer agrees to comply with such reporting and recordkeeping requirements as the Secretary may prescribe.
In the case of any distribution of property by a partnership with respect to any investment services partnership interest held by a partner, the partner receiving such property shall recognize gain equal to the excess (if any) of—
the fair market value of such property at the time of such distribution, over
the adjusted basis of such property in the hands of such partner (determined without regard to subparagraph (C)).
Any gain recognized by such partner under subparagraph (A) shall be treated as ordinary income to the same extent and in the same manner as the increase in such partner’s distributive share of the taxable income of the partnership would be treated under subsection (a) if, immediately prior to the distribution, the partnership had sold the distributed property at fair market value and all of the gain from such disposition were allocated to such partner. For purposes of applying subsection (a)(2), any gain treated as ordinary income under this subparagraph shall be treated as an amount treated as ordinary income under subsection (a)(1)(A).
In the case a distribution to which subparagraph (A) applies, the basis of the distributed property in the hands of the distributee partner shall be the fair market value of such property.
In the case of a taxpayer which satisfies requirements similar to the requirements of subparagraphs (A) and (B) of paragraph (3), this paragraph and paragraph (1)(A)(ii) shall not apply to the distribution of a partnership interest if such distribution is in connection with a contribution (or deemed contribution) of any property of the partnership to which section 721 applies pursuant to a transaction described in section 708(b)(2).
shall not be treated as an investment services partnership interest for any period before the first date on which it is so held in connection with such a trade or business,
shall not cease to be an investment services partnership interest merely because such person holds such interest other than in connection with such a trade or business, and
shall be treated as an investment services partnership interest if acquired from a related person in whose hands such interest was an investment services partnership interest.
Advising as to the advisability of investing in, purchasing, or selling any specified asset.
Managing, acquiring, or disposing of any specified asset.
Arranging financing with respect to acquiring specified assets.
Any activity in support of any service described in subparagraphs (A) through (C).
The term investment partnership means any partnership if, at the end of any two consecutive calendar quarters ending after the date of enactment of this section—
substantially all of the assets of the partnership are specified assets (determined without regard to any section 197 intangible within the meaning of section 197(d)), and
less than 75 percent of the capital of the partnership is attributable to qualified capital interests which constitute property held in connection with a trade or business of the owner of such interest.
any interest in a specified entity shall not be treated as an asset of such partnership, and
such partnership shall be treated as holding its proportionate share of each of the assets of such specified entity.
For purposes of clause (i), the term specified entity means, with respect to any partnership (hereafter referred to as the upper-tier partnership), any person which engages in the same trade or business as the upper-tier partnership and is—
a partnership all of the capital and profits interests of which are held directly or indirectly by the upper-tier partnership, or
a foreign corporation which does not engage in a trade or business in the United States and all of the stock of which is held directly or indirectly by the upper-tier partnership.
Except as otherwise provided by the Secretary, solely for purposes of determining whether any interest in a partnership constitutes property held in connection with a trade or business under subparagraph (A)(ii)—
a trade or business of any person closely related to the owner of such interest shall be treated as a trade or business of such owner,
such interest shall be treated as held by a person in connection with a trade or business during any taxable year if such interest was so held by such person during any 3 taxable years preceding such taxable year, and
paragraph (5)(B) shall not apply.
For purposes of clause (i)(I), a person shall be treated as closely related to another person if, taking into account the rules of section 267(c), the relationship between such persons is described in—
paragraph (1) or (9) of section 267(b), or
section 267(b)(4), but solely in the case of a trust with respect to which each current beneficiary is the grantor or a person whose relationship to the grantor is described in paragraph (1) or (9) of section 267(b).
The Secretary may issue regulations or other guidance which prevent the avoidance of the purposes of subparagraph (A), including regulations or other guidance which treat convertible and contingent debt (and other debt having the attributes of equity) as a capital interest in the partnership.
In the case of a controlled group of entities, if an interest in the partnership received in exchange for a contribution to the capital of the partnership by any member of such controlled group would (in the hands of such member) constitute property held in connection with a trade or business, then any interest in such partnership held by any member of such group shall be treated for purposes of subparagraph (A) as constituting (in the hands of such member) property held in connection with a trade or business.
For purposes of this paragraph, in the case of a corporation, the determination of whether property is held in connection with a trade or business shall be determined as if the taxpayer were an individual.
The term specified asset means securities (as defined in section 475(c)(2) without regard to the last sentence thereof), real estate held for rental or investment, interests in partnerships, commodities (as defined in section 475(e)(2)), cash or cash equivalents, or options or derivative contracts with respect to any of the foregoing.
A person shall be treated as related to another person if the relationship between such persons is described in section 267(b) or 707(b).
Any service described in paragraph (2) which is provided by a partner of a partnership shall be treated as also provided by such partnership.
In the case of any portion of an investment services partnership interest which is a qualified capital interest, all items of gain and loss (and any dividends) which are allocated to such qualified capital interest shall not be taken into account under subsection (a) if—
allocations of items are made by the partnership to such qualified capital interest in the same manner as such allocations are made to other qualified capital interests held by partners who do not provide any services described in subsection (c)(2) and who are not related to the partner holding the qualified capital interest, and
the allocations made to such other interests are significant compared to the allocations made to such qualified capital interest.
Paragraph (1) may be applied separately with respect to a portion of a qualified capital interest.
Allocations shall not be treated as failing to meet the requirement of paragraph (1)(A) merely because the allocations to the qualified capital interest represent a lower return than the allocations made to the other qualified capital interests referred to in such paragraph.
Except as otherwise provided by the Secretary, in the case of tiered partnerships, all items which are allocated in a manner which meets the requirements of paragraph (1) to qualified capital interests in a lower-tier partnership shall retain such character to the extent allocated on the basis of qualified capital interests in any upper-tier partnership.
Except as otherwise provided by the Secretary, an interest shall not fail to be treated as satisfying the requirement of paragraph (1)(A) merely because the allocations made by the partnership to such interest do not reflect the cost of services described in subsection (c)(2) which are provided (directly or indirectly) to the partnership by the holder of such interest (or a related person).
the distributive share of gain or loss that would have been so allocated to the investment services partnership interest of which such qualified capital interest is a part.
For purposes of this section—
The term qualified capital interest means so much of a partner’s interest in the capital of the partnership as is attributable to—
the fair market value of any money or other property contributed to the partnership in exchange for such interest (determined without regard to section 752(a)),
any amounts which have been included in gross income under section 83 with respect to the transfer of such interest, and
the excess (if any) of—
any items of income and gain taken into account under section 702 with respect to such interest, over
any items of deduction and loss so taken into account.
The qualified capital interest shall be reduced by distributions from the partnership with respect to such interest and by the excess (if any) of the amount described in subparagraph (A)(iii)(II) over the amount described in subparagraph (A)(iii)(I).
In the case of any contribution of property described in subparagraph (A)(i) with respect to which the fair market value of such property is not equal to the adjusted basis of such property immediately before such contribution, proper adjustments shall be made to the qualified capital interest to take into account such difference consistent with such regulations or other guidance as the Secretary may provide.
No increase or decrease in the qualified capital interest of any partner shall result from a merger, consolidation, or division described in section 708, or any similar transaction.
For purposes of this subsection, any loan or other advance to the partnership made or guaranteed, directly or indirectly, by a partner not providing services described in subsection (c)(2) to the partnership (or any person related to such partner) shall be taken into account in determining the qualified capital interests of the partners in the partnership.
In the case of any specified family partnership interest, paragraph (1)(A) shall be applied without regard to the phrase and who are not related to the partner holding the qualified capital interest
.
For purposes of this paragraph, the term specified family partnership interest means any investment services partnership interest if—
such interest is an interest in a qualified family partnership,
such interest is held by a natural person or by a trust with respect to which each beneficiary is a grantor or a person whose relationship to the grantor is described in section 267(b)(1), and
all other interests in such qualified family partnership with respect to which significant allocations are made (within the meaning of paragraph (1)(B) and in comparison to the allocations made to the interest described in clause (ii)) are held by persons who—
are related to the natural person or trust referred to in clause (ii), or
For purposes of this paragraph, the term qualified family partnership means any partnership if—
all of the capital and profits interests of such partnership are held by—
specified family members,
any person closely related (within the meaning of subsection (c)(3)(C)(ii)) to a specified family member, or
such partnership does not hold itself out to the public as an investment advisor.
For purposes of subparagraph (C), individuals shall be treated as specified family members if such individuals would be treated as one person under the rules of section 1361(c)(1) if the applicable date (within the meaning of subparagraph (B)(iii) thereof) were the latest of—
the date of the establishment of the partnership,
the earliest date that the common ancestor holds a capital or profits interest in the partnership, or
the date of the enactment of this section.
a person performs (directly or indirectly) investment management services for any investment entity or special purpose acquisition company,
such person holds (directly or indirectly) a disqualified interest with respect to such entity or such company (as the case may be), and
any income or gain with respect to such interest shall be treated as ordinary income. Rules similar to the rules of subsections (a)(5) and (d) shall apply for purposes of this subsection.
For purposes of this subsection—
The term disqualified interest means, with respect to any investment entity—
any interest in such entity other than indebtedness,
convertible or contingent debt of such entity,
any option or other right to acquire property described in subclause (I) or (II), and
any derivative instrument entered into (directly or indirectly) with such entity or any investor in such entity.
Such term shall not include—
a partnership interest,
except as provided by the Secretary, any interest in a taxable corporation (other than a special purpose acquisition company), and
except as provided by the Secretary, stock in an S corporation.
The term taxable corporation means—
a domestic C corporation, or
a foreign corporation substantially all of the income of which is—
effectively connected with the conduct of a trade or business in the United States, or
subject to a comprehensive foreign income tax (as defined in section 457A(d)(2)).
The term investment management services means a substantial quantity of any of the services described in subsection (c)(2).
The term investment entity means any entity which, if it were a partnership, would be an investment partnership.
The term special purpose acquisition company means any corporation that—
is formed for the purpose of acquiring a privately held company,
is publicly traded on an established securities market or its interests are readily tradable on a secondary market (or the substantial equivalent thereof), and
is required to report an acquisition under Item 2.01 or make a disclosure under Item 5.06 of Form 8-K (or any successor form) with the Securities and Exchange Commission.
Except as otherwise provided by the Secretary, in the case of a domestic C corporation (other than a special purpose acquisition company, as defined in subsection (e)(2)(E))—
subsection (e) shall not apply.
The Secretary shall prescribe such regulations or other guidance as is necessary or appropriate to carry out the purposes of this section, including regulations or other guidance to—
provide modifications to the application of this section (including treating related persons as not related to one another) to the extent such modification is consistent with the purposes of this section,
coordinate this section with the other provisions of this title.
For 40 percent penalty on certain underpayments due to the avoidance of this section, see section 6662.
Subsection (a) of section 751 is amended by striking or
at the end of paragraph (1), by inserting or
at the end of paragraph (2), and by inserting after paragraph (2) the following new paragraph:
Subparagraph (A) of section 751(b)(1) is amended by striking or
at the end of clause (i), by inserting or
at the end of clause (ii), and by inserting after clause (ii) the following new clause:
Subsection (f) of section 751 is amended—
by striking or
at the end of paragraph (1), by inserting or
at the end of paragraph (2), and by inserting after paragraph (2) the following new paragraph:
by striking partner.
and inserting partner (other than a partnership in which it holds an investment services partnership interest).
.
Section 751 is amended by adding at the end the following new subsection:
The amount to which subsection (a) applies by reason of paragraph (3) thereof shall not include so much of such amount as is attributable to any portion of the investment services partnership interest which is a qualified capital interest (determined under rules similar to the rules of section 710(d)).
Except as otherwise provided by the Secretary, in the case of an exchange of an interest in a publicly traded partnership (as defined in section 7704) to which subsection (a) applies—
this section shall be applied without regard to subsections (a)(3), (b)(1)(A)(iii), and (f)(3), and
Any gain with respect to which subsection (a) applies by reason of paragraph (3) thereof shall be recognized notwithstanding any other provision of this title.
An investment services partnership interest held by the partnership shall not be treated as an inventory item of the partnership.
Subsection (d) of section 7704 is amended by adding at the end the following new paragraph:
Specified carried interest income shall not be treated as qualifying income.
For purposes of this paragraph—
The term specified carried interest income means—
any item of income or gain allocated to an investment services partnership interest (as defined in section 710(c)) held by the partnership,
any gain on the disposition of an investment services partnership interest (as so defined) or a partnership interest to which (in the hands of the partnership) section 751 applies, and
any income or gain taken into account by the partnership under subsection (b)(4) or (e) of section 710.
A rule similar to the rule of section 710(d) shall apply for purposes of clause (i).
Subparagraph (A) shall not apply to any item described in paragraph (1)(E) (or so much of paragraph (1)(F) as relates to paragraph (1)(E)).
Subparagraph (A) shall not apply in the case of a partnership which meets each of the following requirements:
Such partnership is treated as publicly traded under this section solely by reason of interests in such partnership being convertible into interests in a real estate investment trust which is publicly traded.
Such partnership meets the requirements of paragraphs (2), (3), and (4) of section 856(c).
Subparagraph (A) shall not apply in the case of a partnership which meets each of the following requirements:
Substantially all of the assets of such partnership consist of interests in one or more publicly traded partnerships (determined without regard to subsection (b)(2)).
Substantially all of the income of such partnership is ordinary income or section 1231 gain (as defined in section 1231(a)(3)).
Subparagraph (A) shall not apply to any taxable year of the partnership beginning before the date which is 10 years after the date of the enactment of this paragraph.
Subsection (b) of section 6662 is amended by inserting after paragraph (10) the following new paragraph:
The application of section 710(e) or the regulations or other guidance prescribed under section 710(g) to prevent the avoidance of the purposes of section 710.
Section 6662 is amended by adding at the end the following new subsection:
In the case of any portion of an underpayment to which this section applies by reason of subsection (b)(10), subsection (a) shall be applied with respect to such portion by substituting 40 percent
for 20 percent
.
Subparagraph (B) of section 6662A(e)(2) is amended by striking or (i)
and inserting , (i), or (m)
.
Subsection (c) of section 6664 is amended—
by redesignating paragraphs (3) and (4) as paragraphs (4) and (5), respectively;
by striking paragraph (3)
in paragraph (5)(A), as so redesignated, and inserting paragraph (4)
; and
by inserting after paragraph (2) the following new paragraph:
Paragraph (1) shall not apply to any portion of an underpayment to which section 6662 applies by reason of subsection (b)(11) unless—
there is or was substantial authority for such treatment, and
the taxpayer reasonably believed that such treatment was more likely than not the proper treatment.
Rules similar to the rules of subsection (d)(4) shall apply for purposes of subparagraph (A)(iii).
Section 1402(a) is amended by striking and
at the end of paragraph (16), by striking the period at the end of paragraph (17) and inserting ; and
, and by inserting after paragraph (17) the following new paragraph:
Section 1402 is amended by adding at the end the following new subsection:
The term investment services partnership income or loss means, with respect to any investment services partnership interest (as defined in section 710(c)) or disqualified interest (as defined in section 710(e)), the net of—
the amounts treated as ordinary income or ordinary loss under subsections (b) and (e) of section 710 with respect to such interest,
all items of income, gain, loss, and deduction allocated to such interest, and
the amounts treated as realized from the sale or exchange of property other than a capital asset under section 751 with respect to such interest.
A rule similar to the rule of section 710(d) shall apply for purposes of applying paragraph (1)(B).
Section 211(a) of the Social Security Act is amended by striking and
at the end of paragraph (15), by striking the period at the end of paragraph (16) and inserting ; and
, and by inserting after paragraph (16) the following new paragraph:
Section 702(a) is amended by striking and
at the end of paragraph (7), by striking the period at the end of paragraph (8) and inserting , and
, and by inserting after paragraph (8) the following:
Subsection (d) of section 731 is amended by inserting section 710(b)(4) (relating to distributions of partnership property),
after to the extent otherwise provided by
.
Section 741 is amended by inserting or section 710 (relating to special rules for partners providing investment management services to partnerships)
before the period at the end.
Part IV of subchapter O of chapter 1 is amended by striking section 1061.
The table of sections for part IV of subchapter O of chapter 1 is amended by striking the item relating to section 1061.
Except as otherwise provided in this subsection, the amendments made by this section shall apply to taxable years ending after the date of the enactment of this Act.
Section 710(b) of such Code (as added by this section) shall apply to dispositions and distributions after the date of the enactment of this Act.
The amendments made by subsection (b) shall apply to transactions after the date of the enactment of this Act.