On December 9 the House of Representatives passed the Tax Extenders Act of 2009 that would, among other things, tax carried interests at the rates applicable to ordinary income (rather than permitting capital gain treatment to apply, as is the case under current law). The House legislation would apply to net income earned in taxable years ending after December 31, 2009. It will be important to monitor action in the Senate, particularly with respect to effective dates, on any companion legislation.

The Act would require ordinary income treatment for any net income derived with respect to an investment services partnership interest. An investment services partnership interest is a partnership interest held by a person where it was reasonably expected that the partner or a person related to him would provide a substantial amount of any of broadly defined types of investment services to the partnership.

As a result of these changes, capital gains from a carried interest would lose their preferential 15% tax rate and instead be subject to the 35% ordinary income rate (currently in effect) plus any self employment taxes to which the service partner may be subject (as well as applicable state and local taxes).