Tariffs and the incredible (and little-known) tax benefits of RICs

Deep thoughts on tariffs

Deregulation can fuel growth: Tariffs, less so

In terms of general economic policy through the lens of growth (and without any political opinion), so far, the Trump administration is attempting to boost growth through deregulation and extension of the Tax Cuts and Jobs Act (TCJA). Deregulation is the major sentiment-and-growth boosting tool at their disposal and they have been moving at a breakneck speed.

Extending the TCJA is necessary to prevent a large tax increase on individuals that could result in a mild economic downturn and market correction. Time will tell whether Republican leaders in the House and Senate can navigate historically small majorities to extend the TCJA before year’s end.

In contrast, the threat and implementation of tariffs is likely to lead to at least a modest pullback in business sentiment and business investment—not to mention the potential for making sticky inflation stickier for longer.

Tariffs may have only a minor effect on GDP

However, just to explain how tariffs could work out from a gross domestic product (GDP) math standpoint—since the U.S. has consistently run somewhere between massive and enormous trade deficits, pretty much forever—trade is almost always a drag on GDP growth over any reasonable time horizon (with a notable exception being 2023).

For instance, in 2024, U.S. real GDP advanced by 2.3% and trade detracted 0.39% from growth that, without a trade deficit, would have been 2.7%—a reduction of almost 15% from domestic growth driven by consumption, investment and government spending.

Since the U.S. trade deficit was 3.1% of GDP in 2024, if domestic tariffs on imports (and retaliatory tariffs by U.S. trading partners) reduced both imports and exports by 10%, U.S. economic growth would actually increase over the shorter term by approximately 0.3%. Obviously, there would be knock-on effects—not least of which could be higher unemployment and stickier inflation—but I just wanted to point out that from a pure GDP growth perspective, countries running trade deficits are far less impacted by symmetrical tariff implementation than countries running trade surpluses.

This unsurprisingly provides the U.S. tremendous leverage over countries that have massive trade surpluses with them (here’s looking at you China … and the E.U. … and Mexico … and Taiwan … and Japan … and South Korea … and the vast majority of countries with which the U.S. trades)—and from a near-term growth calculation standpoint, it is certainly far less than catastrophic.

The tax benefits of a RIC structure

Alright, now that our “deep thoughts on tariffs” segment is out of the way, I want to share with you a topic that I have been rather surprised that very few in our industry are aware of: The tax benefits of a RIC structure.

For a little background, RIC stands for registered investment company, and is effectively the master structure for mutual funds and a vast majority of democratized alternative strategies. In contrast, prior to the recent democratization trend, the majority of alternative investment strategies were accessed via partnership structures.

Most institutions, financial advisors, wealth management platforms, registered investment advisors (RIAs) and alternative investors are well-versed these days in the potential benefits of various RIC structures.

• Qualified client or accredited investor suitability (as opposed to the far higher standard of Qualified Investor for most partnerships)
• 1099 tax reporting (as opposed to a K-1)
• Unlimited IRA and ERISA capacity

• Lower minimums
• Unlimited investor slots
• Regulatory oversight and transparency requirements
• Mandated liquidity provisions (in some cases) that cannot be adjusted

However, very few investors appear to be aware of what may be the biggest benefit of the corporate RIC structure for taxable U.S. investors (particularly for those that reside in states and cities with additional significant income tax rates above and beyond the federal government).

Within the corporate fund structure, investors will find that management fees, incentive fees and operating expenses are netted out against the least advantageous form of taxable income or gain. This skews the tax treatment of the RIC’s calendar year net return in the direction of unrealized gains (yeah baby, no tax on that) and long-term capital gains (23.8% at federal level), and away from ordinary income and short-term capital gains (which are treated the same within a RIC and have been taxed at the same punitive level for quite some time).

Private equity gets a boost from RICs

These impacts are particularly powerful for evergreen RIC structures that are private-equity focused. That’s because private equity is almost by definition a longer-term buy-and-hold strategy, focused on long-term capital appreciation or growth, as opposed to other income-generating strategies or high-portfolio-turnover hedge fund or actively managed equity strategies. Additionally, short-term capital gains really aren’t a thing in private equity like they can be for public market equity strategies. The majority of calendar year net returns tend to be unrealized and when capital gains are realized, they tend to be long term in nature. However, a meaningful amount of income can be generated from run-of-the-mill corporate dividend payments or more complex dividend producing recapitalizations (dividend recaps).

So with the RIC structure, the fact that fees and expenses net out against the income is powerful indeed and can aid investors in compounding capital in a tax-efficient and tax-deferred manner.

And hey, don’t take my word for it. For all of you that have recently embraced evergreen private equity vehicles (hopefully in strategies that focus on the middle market), you may have enjoyed a recent positive surprise when you received your 1099 for 2024: Very little if any ordinary/short-term capital gains and a small-to-modest calendar year 2024 long-term capital gain tax liability with the vast majority of total net return being unrealized!

RICs compared to partnership structures: Structural benefits

In contrast, partnership structures come with higher minimums, and typically a Qualified Purchaser¹ standard that provides K-1s do not benefit from the corporate structure fee netting effect. The three main reasons for this are:

• No benefit from corporate structure: Partnership structures typically pass through income, realized gains and expenses to the underlying limited partners and do not have a corporate structure like a RIC, where revenue/income and expenses are captive within a corporate structure prior to any income or realized gain distributions.
• Fees cannot be used to offset income: In most partnership structures, incentive fees are not fees at all, but are instead incentive allocations as a percentage of gross returns and thus cannot be used to preferentially offset income or short-term capital gains (STCG).
• No write offs/Tax benefits: The 2% adjusted gross income (AGI) rule where investors could itemize and write off investment and advisory fees that exceeded 2% of AGI was at least temporarily eliminated by the TCJA from 2017 through 2025. Additionally, even prior to that, if investment and advisory fees, unreimbursed job expenses and tax prep did not exceed 2% of AGI, there was no tax benefit anyway.

So, if you are a fan of investment structures with potentially advantageous tax treatments and “the longer the better” in terms of tax liability realization (like I am), you could argue that this is actually the most important benefit of a RIC structure for compounding wealth.

Don’t get me wrong. The logistical benefits/user-friendly features are dynamite, but when you look back in 10 years at the after-tax compounded net returns in a RIC versus a partnership, you will almost certainly have a smile on your face—put there at least in part by this structural benefit.

Investing in alternatives is different than investing in traditional investments such as stocks and bonds. Alternatives tend to be illiquid and highly specialized. In the context of alternative investments, higher returns may be accompanied by increased risk and, like any investment, the possibility of an investment loss. Investments made in alternatives may be less liquid and harder to value than investments made in large, publicly traded corporations. When building a portfolio that includes alternative investments, financial professionals and their investors should first consider an individual’s financial objectives. Investment constraints such as risk tolerance, liquidity needs and investment time horizon should be determined.