Why Romney Pays A 15 Percent Tax Rate

Speaking at a campaign stop in South Carolina Tuesday, GOP presidential hopeful Mitt Romney said his tax rate  in recent years is "probably closer to 15 percent than anything," because his "income comes overwhelmingly from investments" rather than from a salary.

Americans pay taxes on their wages and salaries and they pay a lower rate on income from investments, on dividends and capital gains.

But then there is this gray area that Mitt Romney and private equity firms take advantage of called carried interest.

Tax Treatment Of Carried Interest

"Carried interest is the way that hedge fund managers and private equity firm managers get paid when they do a deal," Howard Gleckman of the Tax Policy Institute told Here & Now's Robin Young.

Gleckman says private equity firms bring in outside investors. To get in on the deals, investors pay the firms in two ways-- an initial fee, and a 20 percent cut of future profits.

When the owners of private equity firms pay taxes on that compensation from the investors, they pay as if it were capital gains-- so that means they are paying a top rate of no more than 15 percent.

"Ordinarily if they were paid like the rest of us in wages and salaries, they'd be paying a top rate of up to 35 percent," he said.

Gleckman said the carried interest tax arrangement is completely legal and not uncommon.

[sidebar title="" width="300" align="right"]Ordinary income: From wages, salaries and commissions. Taxed at 10 percent to 35 percent, with higher earners paying higher rates. Most Americans pay the bulk of their federal income taxes in this category.
Investment income: From interest payments, dividends, and capital gains collected upon the sale of stocks, bonds, mutual funds and other investments owned for more than one year. Rate is 15 percent.
Carried interest: The 20 percent share of profits that private equity firms take on investment deals. These funds are taxed as long-term capital gains, allowing managers at the firms and at hedge funds to have a large part of their income taxed at 15 percent instead of 35 percent.

From The Boston Globe And Investopedia[/sidebar]
Is Low Tax Rate Justified?

Bob McIntyre, director of Citizens for Tax Justice says carried interest is just income earned from working, and it should not be taxed differently from salary.

But supporters of the low tax rate, like Douglas Holtz-Aiken, John McCain's former economic adviser say it's important for capital formation, for developing new companies, that doing these investment deals is an important part of the U.S. economy and in order to do that they need high compensation.

But Gleckman points to a counter argument.

"They're not putting their own money at risk. They're putting someone else's money at risk," Gleckman said. "The idea of low capital gains taxes is you get to enjoy a low tax when you risk your own money to make an investment, that's not what these guys are doing," he said.