BUSINESS BLOGS
BUSINESS BLOGS
category: business
22 Sep 2008

I always wondered about what happens to your holdings when you accept a government job.  I figured you had to sell them… but I did not know about the tax free loophole.

Henry Paulson sold his 3.23 million shares in Goldman, worth about $500 million at the time, when he took the Treasury job, according to regulatory filings. He was exempted from paying capital gains tax on the sale of those stakes under a rule meant to avoid penalizing wealthy people who take government jobs and are forced to sell assets.

Hmm… I think I need to get me a government job.   Read more.  On the one hand, it seems like a great way to avoid paying taxes (accept a government job even if your heart is not in it), it’s not, after all, like the government ever appoints unqualified people.

Update 1: More on Slate, and here is the government paperwork.  I wonder if there’s an equivalent thing in Canada.

Update 2: Thank Goodness, it’s not an open-ended exemption, it’s simply a deferral: “the act lets you defer capital-gains taxes triggered by the transaction.” More interestingly, the Slate article was written in 2006 and suggests letting Paulson keep his shares, asking “what’s the worst thing that can happen”:

The most likely scenario is that Paulson will sell his Goldman shares and place the money in a blind trust. That would be a smart move, and a profitable one, since he’d gain some tax benefits. When you sell assets to conform to government ethics requirements, the U.S. Office of Government Ethics issues a certificate of divestiture that lets you defer capital-gains taxes triggered by the transaction. That will likely save Paulson several million dollars in the next few years. And when your annual salary is falling from $35 million to $183,000, every penny counts. The blind trust would also give Paulson an excuse to dump all his Goldman shares at once and diversify, just as things are getting choppy—something he couldn’t do if he stayed on the job.

Once he sells, Paulson—or whoever will manage his blind trust—will have a new problem. In order to qualify for the certificate of divestiture, the cash must be invested in a diversified fund, such as a stock mutual fund. But Paulson’s portfolio is so large that it doesn’t make sense to put it into a mutual fund, or even into a whole bunch of funds. A nest egg of this size should be broadly diversified—some real estate and a few hedge funds, a few private equity funds, commodities, stocks from all over the world, a private island or two. And of course, all of these have the potential to be affected by Paulson’s actions while he is in office.

Given recent activities in Washington, the notion of suggesting that we make exceptions to ethics rules seems highly dangerous. But here’s a bold idea: Maybe we should just let Paulson keep his shares. That would be the simplest and least costly thing to do—for him and for the government. The transparency provided by Goldman’s daily trading would act as a great inhibitor to favoritism.

What’s the worst thing that could happen if Paulson held on to his Goldman stock? It’s possible that a government in which the treasury secretary had a gigantic stake in Goldman might recklessly cut marginal income taxes on the very rich so that he and his fellow executives could keep more of their bonuses. Or he might push to cut income taxes on capital gains and dividends so that Goldman employees and clients would pay fewer taxes. He could help enact legislation to reduce and ultimately eliminate the estate tax so Goldman’s private banking clients would be able to pass on as much cash to their heirs as they want. Why, such an administration might run up massive deficits so that the bond desks of Wall Street firms like Goldman would have plenty of material to buy and sell! Oh, wait—the Bush administration has already done all that.

Judging by events that are unfolding this week, I’d say the answer to that question is a “flagrant conflict of interest”.