Ever since the 1990s, when venture capital and private equity funds became increasingly common in Sweden, carried interest has been part of the compensation that fund managers receive from the fund. In Sweden, however, there has been significant uncertainty regarding the taxation of carried interest. The Swedish Tax Agency has also taken a very strict stance, and has more or less ‘pursued’ individuals with carried interest income. In this article, we will examine how carried interest is taxed in Sweden, as well as the tax risks associated with the taxation of carried interest.
What is Carried Interest?
Carried interest is a form of compensation that fund managers in investment funds receive for their management services. In addition to carried interest, so-called "management fees" are also typically paid to the managers. Carried interest is performance-based, usually awarded as a share of the fund’s profits or returns. In this way, carried interest acts as an incentive for the fund’s managers. There is often a "hurdle rate," which is a minimum return threshold that must be met before carried interest is paid to the fund’s managers.
Most investment funds are structured in a similar way, typically as a partnership owned by the fund’s investors—referred to as "limited partners" (LPs)—and by a company, the "general partner" (GP), which is owned by the fund’s managers. The general partner usually contributes significantly less capital than the limited partners. Carried interest is paid to the general partner as part of the profit-sharing between the fund's co-owners.
If the fund performs well and generates high returns, carried interest can amount to very substantial sums. As a result, the taxation of carried interest becomes highly relevant for the managers of an investment fund.
How is carried interest taxed in Sweden?
In Sweden, there are no specific tax rules governing the taxation of carried interest, either for a company acting as the general partner or for an individual who directly or indirectly receives carried interest from the general partner company.
Each venture capital and private equity fund is structured in its own way, but generally, carried interest is received by holding companies owned by the fund’s managers. The carried interest is then usually distributed to the holding company’s owners.
For a long time, there has been legal uncertainty surrounding the Swedish taxation of carried interest. The uncertainty has mainly revolved around which entity should be taxed, i.e., whether it should be the individual or their company. Moreover, it has also been unclear whether carried interest should be classified as employment income or capital income, under Swedish tax law.
Is Carried Interest Taxed as Employment Income in Sweden?
In 2023, the Swedish Tax Agency argued in many cases that carried interest paid to a holding company constituted employment income for the holding company’s owner. The Tax Agency thus argued that the company was not the correct taxable recipient of the funds, and that the individual should instead be considered the recipient of carried interest as employment income. The Tax Agency effectively disregarded the civil law structure through which carried interest had been paid. However, there are court cases that contradict this view on the taxation of carried interest. Also, the current Swedish government has initiated an official review of the rules, with the explicit intention to enable Carried Interest being taxed as capital income, although with the so-called 3:12-rules, when applicable.
Is Carried Interest Taxed as Capital Income in Sweden?
The Swedish Tax Agency has also, in some cases, taken the position that carried interest should be taxed under the Swedish closely held company rules (known as the 3:12 rules), which result in part of the distribution being taxed as employment income.
Since a so-called "cap amount" has been introduced under the 3:12 taxation rules, 3:12 taxation can, in some cases, lead to a reasonably moderate level of taxation. At the same time, in certain instances, the Tax Agency has argued that the 3:12 rules do not apply. While the reasoning has been somewhat unclear, it can be summarized as the Swedish Tax Agency’s position that the 3:12 rules cannot apply if the ownership in the funds has been through companies lacking legal capacity.
Each case requires individual analysis to determine whether carried interest should be taxed as employment income or capital income. The same applies to whether the 3:12 rules are relevant for carried interest taxation.
How is Carried Interest From a Foreign Fund Taxed in Sweden?
With the rise of remote work, there are now instances of individuals residing and working in Sweden as managers for foreign investment funds. As with Swedish fund managers, an individual analysis must be conducted to determine how carried interest should be taxed. In some cases, a tax treaty may influence the taxation of carried interest.
In summary, the Swedish Tax Agency has taken a very aggressive stance to "crack down" on managers who have received carried interest. Various arguments have been put forward by the Tax Agency, and the legal landscape concerning the taxation of carried interest remains highly uncertain. Therefore, it is crucial to conduct an individual analysis for each case to determine how carried interest will be taxed in Sweden.
Are you a recipient or will you become a recipient of carried interest? Don’t hesitate to reach out to us at NomadTax to understand how you will be taxed.
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