IRS LIMITS DEDUCTIONS FOR FUND-OF-FUNDS MANAGEMENT FEES
The IRS recently ruled that the management fees of a fund-of-funds are not deductible as business expenses but should be treated as any other itemized deduction. The result is that investors in a fund-of-funds (as well as the fund itself) may only deduct the management fee to the extent that the fees added together with other itemized deductions, exceed 2% of AGI. Core to the IRS’s reasoning is that a fund-of-funds, unlike a single strategy fund, is not engaged in a trade or business for tax purposes.
OUR TAKE: It is unclear whether treatment of the management fee for tax purposes will affect fund structures. However, fund managers may consider performance fees structured as a carried interest rather than a non-deductible management fee.