What's Really Going on With Mitt Romney's $102 Million IRA

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Tax experts and private-equity executives say the question is not how he got the money there, but why he wanted to do so in the first place.

Mitt Romney bain capital.jpg
Romney poses with fellow Bain Capital executives. (Bain Capital via the Boston Globe)

You know something is pretty unusual about Mitt Romney's extraordinary $102 million IRA when Steven Rattner, his fellow former private-equity mogul, can go on national television and marvel at just how Romney was able to do it.

Admittedly, Rattner is a somewhat partisan skeptic -- he was Obama's car czar and has been busy reinventing himself as a limousine-liberal pundit since his own bribery scandal forced him out of government -- but as the founder of the soon-to-be-defunct Quadrangle Group in New York (in which I am a small investor), he also has been anything but shy in the past about availing himself of whatever financial perks are available to the tiny cohort of finance executives lucky enough to work in private equity. Rattner has pegged his own net worth -- released as part of his vetting by the Obama Administration -- at between $188 million and $608 million, on a par with Romney's.

But the Romney IRA has him stumped. "If you say to your tax people," Rattner told Fareed Zakaria about Romney in a late JUly edition of GPS, "as he seems to have done: 'I want every trick in the book. I want to push this to the edge,' I will tell you that, as a private-equity guy, I'm familiar with many of the things that he did and I know many people who've done many of the things that he did. I do not know anyone who did everything that he did and some of what he did -- like the IRA -- I've asked fellow private-equity guys, none of us had even known this was a possible 'trick' if you will. So he's pushed the envelope all the way to the edge to his benefit and I think Americans would find that very distasteful."

I have also wondered how Romney did it, and after Rattner remarks, determined once and for all to get to the bottom of this mystery: How can an individual retirement account that was limited by law to annual contributions of at most $30,000 grow into a fund with more than $100 million in it?

This is not something your average American can do, and not only because the average American in not likely to have Romney's investing prowess or his ability to hire people with exceptional investing skills.

The truth about Romney's IRA is that its massive size has very little to do with choosing the right investments and a lot more to do with the alchemy of the private-equity business itself and the opportunities that come out of that insular world for people like Romney, who was the founder and chief executive of Bain Capital for at least 15 years.

If we stipulate that when he was at Bain from 1984 to 1999, Romney put the maximum $30,000 a year into his so-called SEP-IRA, then as a baseline his IRA should have had a value of $450,000 by the time he left to run the Salt Lake City Olympic Games. If he was a talented investor and his IRA grew tenfold -- something not many people can achieve -- his IRA would be have been worth $4.5 million, a far cry indeed from the upper range of $102 million he says it is worth. (The lower range Romney put for disclosure purposes on his IRA was $20 million.)

So how did Romney do it? According to the private-equity executives I talked to, the secret is likely in the compensation arrangement the industry has cut with its well-heeled investors. In private-equity land, the general partners of, say, Bain Capital -- people like Mitt Romney and his cohort of 30 or so well-heeled Harvard MBAs who invest the limited partners' capital -- get what is called "carried interest," or 20 percent of the profits on deals, while putting up only a fraction of the equity needed to do a buyout. It's akin to getting "sweat equity," only with very little sweat. "Your carry is basically buying stock for five cents that other people have paid $1.10 for," explained one partner in a private-equity firm.

Here's how it works: In rough terms, if, say $100 million is needed for the equity account of a $500 million buyout of a company -- a typical buyout ratio of equity-to-debt -- Bain's limited partners -- essentially wealthy investors in its funds -- would put up $99 million of the $100 million. The Bain general partners -- like Romney -- would put up the $1 million balance. In return for that $1 million, instead of getting 1 percent of the equity ownership of the purchased company, they would get 20 percent of the upside. So even though the math would dictate only a 1 percent ownership stake, the Bain guys, like others in the industry, would get a 20 percent stake in deals despite putting up very little money. (Actually, over time, Bain's investors agreed to give the Bain partners 30 percent of the upside in some of their funds, but that's a different story.)

Since Romney was the founder of Bain Capital, it would not be at all unusual for him to take something like a third of the partnership's "carried interest" for himself. So of the 20 percent stake that the Bain partners would keep, it is likely Romney, as the founder, would get at least a third of it -- in every deal during his 15 years at the helm. And this is where the calculus for Romney begins to get very interesting, especially if he used his IRA to invest in these buyouts.

Michele Davis, a Romney campaign aide brought on to defend his record at Bain, declined to get into specifics when asked about the IRA. "Mitt Romney has been scrupulous about observing the requirements of the tax code," she said. "As we have said many times before, Governor and Mrs. Romney's assets are managed on a blind basis. They do not control the investment of these assets, the investment decisions are made by a trustee. The IRA, like all IRAs, is tax deferred and Governor Romney will pay taxes on those funds when they withdraw the funds."

The private equity partners I spoke with laid out what they see as the most probable scenario explaining the growth of his IRA: When it came time for Romney to invest his portion of the $1 million needed (in our hypothetical example) for a Bain leveraged-buyout, instead of using money in his bank account, he used the money -- the $30,000 -- he had put in his IRA. Where once he had $30,000 in cash in his IRA, now he would have had something he valued at $30,000 but that was really his portion of the "carried interest" in the deal; if the deal worked out, the IRA could quickly be worth a lot more than $30,000.

For instance, in the hypothetical $500 million deal, with $100 million of equity, say that company did nicely and Bain sold it for $1 billion after a few years. The $400 million of debt on the company would be paid, leaving $600 million in profit for the Bain investors who put up the $100 million in equity. By the terms of the agreement between the Bain general partners and the Bain limited partners, the Bain general partners would take 20 pecent of that profit, or $120 million, leaving $480 million for the limited partners. By Romney's agreement with the other Bain guys, he would take one-third of the $120 million, or $40 million himself.

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William D. Cohan, a columnist for BloombergView, is a contributing editor at Vanity Fair and the author, most recently, of The Price of Silence.

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