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An unusual deal gave Virginia Gov. Glenn Youngkin $8.5 million in stock. He paid $0 in tax on it.


Virginia Republican gubernatorial nominee Glenn Youngkin speaks during his election night party at a hotel in Chantilly, Virginia, U.S., November 3, 2021.

Elizabeth Frantz | Reuters

In January 2020, Glenn Youngkin, now the Republican governor of Virginia, got some welcome news. A posh corporate transaction had passed through on the Carlyle Group, the powerful private equity company that Youngkin led as co-chief executive. Under the deal, approved by the Carlyle board and code-named “Project Phoenix,” he began receiving $8.5 million value of Carlyle stock, tax-free, in keeping with court documents. 

The Project Phoenix payout got here on top of $54 million in compensation Youngkin had received from Carlyle through the previous two years, regulatory records show. Youngkin retired from Carlyle on Sept. 30, 2020; he won the governor’s election in November 2021. 

Youngkin was not alone in receiving the 2020 windfall, in keeping with the court documents. Eight other wealthy Carlyle officials received over $200 million value of company shares within the deal, tax-free and paid for by the corporate. David M. Rubenstein, Carlyle’s billionaire founder and co-chairman, received $70.5 million value.  

Now, that transaction is under attack by a Carlyle shareholder in Delaware Chancery Court. The suit, filed last week by town of Pittsburgh Comprehensive Municipal Pension Trust Fund, says the $344 million deal harmed Carlyle’s stockholders, who received nothing in return once they funded the payday.  

Meanwhile, the Carlyle insiders who received the payouts escaped a tax bill that will have exceeded $1 billion, in keeping with the criticism, which accuses Rubenstein, Youngkin and other Carlyle officials of lining their very own pockets on the expense of individuals like law enforcement officials and firefighters.  

“The form of impunity that Carlyle’s control group acted with is shocking and unacceptable,” lawyers for the Pittsburgh pension fund said of their criticism.

“The beneficiaries of town of Pittsburgh Comprehensive Municipal Pension Trust Fund are municipal fire and police personnel serving town of Pittsburgh. Many are first responders putting their lives on the road day-after-day. They rely upon the integrity of the financial markets to offer for his or her retirement.” 

The Carlyle payout exemplifies the private equity industry’s laser deal with avoiding tax bills.

Private equity investors already receive special tax treatment on their earnings, under what’s often known as the carried interest loophole. Much of their income is taxed at 20%, far below the 37% maximum paid by high-earning salaried staff. Initially, the Inflation Reduction Act of 2022, which just passed the Senate, had narrowed the loophole’s advantages, however the change disappeared on the insistence of Kyrsten Sinema, the holdout Democratic senator from Arizona, in keeping with news reports.

A Sinema spokeswoman told CNBC that she “makes every decision based on one criteria: what’s best for Arizona.”

Carlyle’s 2020 $344 million tax-free payout to its insiders cited within the lawsuit is a recent twist on a style of contract often known as a tax receivable agreement, or TRA. Corporations and their founders typically create such agreements together with initial public offerings of the businesses’ shares.

Under normal circumstances, TRA payouts is usually a win-win for each an organization and its insiders, market participants say, because each parties get something of value — the insiders get stock, and the corporate gets a tax profit once they sell it. 

But in a highly unusual move that was unfair to Carlyle’s shareholders, lawyers for the Pittsburgh pension fund say, Carlyle structured its payout as tax-free, generating no tax advantages to the corporate at the same time as it enriched insiders. The tax-free payout was “an extreme outlier” amongst such agreements, and it was designed by the Carlyle insiders “to maximise the advantages for themselves in every possible way, to the detriment of the corporate and the general public stockholders,” in keeping with the lawsuit.

Asked to reply to the lawsuit’s allegations, a spokesperson for Youngkin provided this statement: “When Mr. Youngkin was a member of Carlyle’s leadership, the Carlyle board and an independent special committee retained independent experts and advisors to think about and approve a transaction that had significant advantages for the corporate and its shareholders. The plaintiff’s allegations are baseless and might be vigorously defended against.” 

A Carlyle spokeswoman said in a press release: “Carlyle was the primary U.S. private equity firm to convert to a one share one vote, best-in-class governance model creating higher alignment with public shareholders who now have a greater vote and voice.” 

Rubenstein, through a spokesman, declined to comment.  

Lawyers representing the Pittsburgh pension declined to comment further on the suit. 

Andy Lee, a Latest York City-based asset manager who will not be involved within the suit, expressed concerns to NBC News about the small print it outlined.  

“If the allegations are true, we might discourage such behavior on the a part of management,” said Lee, the chief investment officer of Parallaxes Capital, a financial firm that buys TRAs. “They’re presupposed to represent the interests of public shareholders.”  

$283 million, tax-free, to Leon Black 

 The $344 million Carlyle payout sprang from two related events, the lawsuit states. The primary was a change in Carlyle’s corporate structure, from a publicly traded partnership to a company. The second was the buyout of a tax receivable agreement the insiders had previously struck with the corporate. 

Youngkin was one member of an eight-person committee of high-level Carlyle officials working on the TRA deal, the lawsuit says. 

If company founders or early investors are subject to a tax receivable agreement, as they sell their holdings over time they pay taxes on the gains. Under tax rules, those payments create a profit for the corporate, often known as a tax asset, that the corporate can use to offset what it owes the IRS when it generates profits.  

TRAs have gotten increasingly popular amongst public firms, regulatory documents show. Some 180 firms referred to tax receivable agreements of their Securities and Exchange Commission filings to date this yr, in keeping with Sentieo, a provider of a financial evaluation and investment research platform. That is double the 90 firms that mentioned the agreements for all of 2017.

The transactions have received scant attention within the financial press, and few deals have been controversial, because they’re disclosed and so they deliver a profit to public shareholders, market participants said.  

But a handful of recent TRA transactions involving prosperous private equity firms are coming under scrutiny, Delaware Chancery Court filings show.   

In early March 2021, for instance, Apollo Global Management, the massive private equity firm co-founded by multibillionaire Leon Black, agreed to purchase out tax receivable agreement rights held by a bunch of the corporate’s top officials, court documents say. Citing documents received by an Apollo shareholder under a books and records request in Delaware Chancery Court, a filing within the matter last fall says that five Apollo officials received almost $600 million, tax-free, when the corporate purchased their tax receivable agreement rights under a change in the corporate’s structure.  

Black received $283 million in Apollo stock, tax-free, in that March 2021 deal, and 4 other Apollo executives and directors — two of them multibillionaires, in keeping with Forbes magazine — shared in one other $295 million, the filing says.

A number of weeks after the transaction, Black stepped down from the firm. That January, the corporate’s law firm had issued a report detailing Black’s long-standing financial relationship with the late Jeffrey Epstein, the financier who died by suicide while awaiting trial on federal sex trafficking charges. It cleared Black of wrongdoing, but he stepped down in March 2021, citing “the relentless public attention” on his Epstein ties. 

A spokesman for Black didn’t reply to an email searching for comment in regards to the TRA deal.  

Asked in regards to the Delaware filing, a spokeswoman for Apollo disputed that the payout was made under a TRA. Relatively, she said in a press release, it was “to facilitate Apollo’s transition to a single class of common stock, amongst other corporate governance and structure changes — which benefited all shareholders.”

The corporate founders “gave up their right to regulate Apollo and, together with certain other senior Apollo professionals, forfeited a helpful economic asset to which they were legally entitled. As well as, the payments were negotiated solely by a committee of independent directors with independent advisors.” 

‘Infected by conflicts of interest’  

Tax-free payouts to executives of top private equity firms are notable since the tax code already allows them to pay much lower tax rates on their earnings. The tax treatment has helped propel many top private equity executives to billionaire status lately. 

Private equity firms use large amounts of debt to purchase firms that they hope to sell at a profit in a number of years. The firms have taken over large swaths of the U.S. economy, acquiring firms in almost every industry, including health care, fast food, retailers, residential rental properties, nursing homes and pet care.  

The firms say they resurrect struggling firms, but academic research shows they also can have a pernicious effect on the businesses they buy, including job and profit cuts, in addition to pension depletions. 

Three private equity firms benefited in one other recent TRA payout, in keeping with a Delaware Chancery Court suit filed in June by an International Brotherhood of Electrical Staff pension plan. Unlike the Carlyle and Apollo deals, the transaction was not tax-free; as an alternative, it was problematic, the lawsuit says, since the payout was far too wealthy. 

The suit is against the board of directors of GoDaddy, a hosting firm that issued shares to the general public in 2015. Early investors in GoDaddy included KKR, Silver Lake Partners and Technology Crossover Ventures, three wealthy private equity firms. Not one of the firms was named as a defendant.  

In July 2020, GoDaddy paid $850 million in a tax receivable agreement generating $201 million to KKR, $212 million to Silver Lake and $92 million to Technology Crossover Ventures, the lawsuit said. The payout was the most important ever by a public company under a tax receivable agreement with pre-IPO owners, the suit noted.

In response to the criticism, GoDaddy did not have enough money to make the payment, so it borrowed $750 million for it. Much more troubling, a yr before the payout, GoDaddy had valued the TRA at $175 million, based on its independent auditor’s assessment, the lawsuit said. 

The pension fund sued GoDaddy’s board, saying the transaction was unfair and that it had been “infected by conflicts of interest.” It alleged the board didn’t seek approval of the deal from GoDaddy stockholders, for instance, and a board committee formed to oversee the transaction decided against hiring a financial adviser to opine on its fairness. On top of that, the board and the special committee “had historical and ongoing financial and skilled ties to the founding investors that benefited from the overpayment,” the lawsuit contends. 

Representatives of GoDaddy, KKR and Silver Lake Partners declined to comment. Technology Crossover Ventures didn’t reply to an email searching for comment. 

Payments under tax receivable agreements can have significant impacts on firms’ financial results, said Nick Mazing, the director of research at Sentieo. “We now have seen examples where the associated TRA liability is a major percentage of an organization’s overall liabilities,” Mazing said, “and where the continuing TRA payments eat double-digit percent shares of the money flows generated by operations.”  

SEC filings by El Pollo Loco, a restaurant chain, show that for the three years ending in 2019, it made $24.1 million in tax receivable payments. The payments reduced its money flow from operations by 15% over the period, the filings show.

Given the rise in TRAs and the litigation surrounding them, investors are prone to pay more attention to them, said Jonathan Choi, an associate professor on the University of Minnesota law school and an authority on tax law.

“I feel that early on these agreements were drafted without knowing how they might play out,” Choi said. “Going forward, law firms and corporations will take more care to specify what’s going to occur in an early termination and be more careful about what was disclosed to shareholders.” 

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