dw-this is an older article, but still interesting

Franchises Would Suffer Under "Carried" Interest Tax

By Feltenstein, Sid
Publication:
Franchising World

Date: Saturday, December 1 2007

Legislation proposed this summer would alter the way private-equity
compensation arrangements are taxed, raising the taxes on "carried
interest" payments for managing partners and essentially penalizing
entrepreneurial risk-taking. 

Proposed 'carried interest' tax increase threatens thriving franchise market.

All eyes are focused on Wall Street and the credit crunch. People who have never thought seriously about the stock market
are tuning in with each closing bell. But they'd worry a lot less if
they shifted their attention to Main Street, where the greatest engine
of the nation's economy--small business--is calmly and consistently
doing what it does best: opening the doors and serving customers.

Nearly 27 million American small businesses are in operation today,
according to the U.S. Small Business Administration. Their owners
aren't oblivious to what's going on in the credit markets; their fates
are also tied to any movement in the economy. But they have their hands
full with the daily demands of running a small firm and are acutely
aware that every ounce of effort they put into the business becomes sweat equity that can help the business grow.

Main Streeters labor under no illusions about the principles of
entrepreneurship. They willingly take risks and, if successful, create
value and are rewarded for their efforts. Were that not true, there
would be far fewer small businesses to meet the growing, changing needs
and tastes of consumers.

Although small, these enterprises represent 99.7 percent of all U.S.
employers, provide jobs for half of all private-sector employees and
pay more than 45 percent of the nation's private payroll.

While small-business owners may not be able to articulate the theory
of risk-versus-reward, they know it instinctively. As one who has spent
the majority of his career helping people become small-business owners,
primarily through franchised establishments, I have witnessed
first-hand the motivating power of entrepreneurial risk. It is more
than just a great financial driver; it is a phenomenon that instills
pride and self-worth.

With the current turmoil threatening our economy, it would seem
prudent for anyone in a position of authority to seek to calm
investors, ease consumers' fears and inspire pride and self-worth among
those small-firm operators who contribute the entrepreneurial effort so
important to the nation's financial stability.

Yet, an idea circulating around Washington, D.C., recently has the
potential to add fuel to the credit crisis and, if enacted into law,
cause a negative impact on all businesses and be especially damaging to
franchising, now one of the nation's most successful and
growth-oriented industries.

Legislation [passed by the U.S. House of Representatives] that
proposes to change the way private-equity compensation arrangements are
taxed is a dangerous idea. These payments provide a framework for
general partners to share the rewards,
and risks, of joint ventures. This proposal would specifically raise
taxes on "carried interest" payments earned by managing partners from
the current 15-percent capital gains rate to personal income tax levels
up to 35 percent.

With the credit crunch bearing down on all businesses, each day
could bring more difficulty getting the necessary financing to operate.
In franchising, this means more than just providing funds to restock
inventories; it means that new, fledgling franchises may never get off
the ground. In many cases, struggling brand names that have great job-creation and wealth-building potential could falter and disappear.

A number of companies that I have been involved with--Long John
Silver's and A&W Restaurants, for example--at one time were
troubled. Yet with a private-equity stake, my partners and I were able
to bring them back to life and re-establish them in the marketplace as
businesses that not only contributed significantly to the net worth of
the franchisees who ran them, but also provided new jobs for many
employees and security for their families.

Hundreds of thousands of independently owned and operated small businesses
dot the nation's landscape and represent an economic engine that
provides goods and services worth more than $1.5 trillion, according to
the International Franchise Association's Educational Foundation.
What's more, these establishments, which operate in more than 80
different business segments from automobile repair to children's
education to senior care, employ some 18 million Americans.

Virtually all franchise companies are the result of entrepreneurial
risk-taking. Many legendary brands began with little more than an idea
in the minds of visionaries, but when they adapted the franchising
business model, their growth and development kicked into high gear.

Franchising relies on building an enterprise that can be somewhat easily replicated and run by others who invest
both capital and sweat equity. In some respects, this arrangement is a
version of a private-equity partnership: The franchisee enters into an
agreement with the knowledge that there is risk, but also has a
willingness to invest capital, time and effort in proportion to offset
the possibility of failure.

Many of these brands, including several that I helped restore to
viable, profitable businesses over the years, could be in jeopardy if
the idea to change the way private-equity compensation arrangements are
taxed becomes law.

Jon Luther, chairman and chief executive of Dunkin' Brands Inc.,
testified before the U.S. House Committee on Financial Services in May
that a private-equity arrangement provided enormous benefits for the
company and spurred a new financing
program that will provide flexible and competitive financing options to
franchisees. Over the next 15 years, he said, the company could expect
to add hundreds of new franchises and as many as 250,000 jobs.

Franchising overall has benefited greatly from significant capital
investments provided by private-equity partnerships. This capital is
not always available from traditional sources, such as commercial
lenders and, judging by the current turmoil in today's economy, it is
going to become much more difficult and expensive to obtain in
conventional markets.

The current tax code promotes entrepreneurial risk and should be
preserved. The willingness of investors to assume risk is one of the
key factors that have made the U.S. economy so dynamic. While it might
raise a small amount of tax revenue, increasing the tax on carried interest is fraught with danger.

Congress should understand that fund managers are just the tip of
the iceberg. Below the waterline are tens of thousands of franchise
owners who may not even know the extent of the private-equity capital
fueling their brands. But they will most assuredly feel the pinch of an
ill-considered tax hike.

Sid Feltenstein is chairman of private-equity-based Sagittarius Brands, the parent company of Captain D's and Del Taco.