Brown's first tax reforms triggered boom in private equity, MPs told

Gordon Brown unwittingly kicked off the current private equity boom with his controversial decision to scrap the dividend tax credit 10 years ago, one of the industry's leading figures told an influential committee of MPs yesterday.

Jon Moulton, the head of Alchemy Partners, said the then Chancellor's decision had fuelled the massive growth in debt-financed buyouts of public companies that have subsequently become hugely controversial.

He told MPs on the Treasury Select Committee: "Debt became more favourable in the UK when the tax credit was taken off dividends. The system has been changed to favour debt over equity."

Mr Moulton's comments are set to fuel the controversy over the withdrawal of the credit - available to pension funds and other non-taxpayers - which was dubbed "the Chancellor's smash and grab raid on pension funds".

The stealth tax has costs funds billions and forced final-salary schemes - that offer workers guaranteed pensions - to close in favour of alternatives where final payout depends on the performance of investment markets.

Mr Moulton was backed up by HG Partners' chief executive Ian Armitage, who did not attend the hearing but said: "He's right. What it has done is make debt a much more attractive asset class for people like pension funds. It means that there is much more debt around."

However, Mr Moulton also warned that banks were becoming increasingly reluctant to lend money to fund deals. He said: "It's near the top. There are some difficulties beginning to emerge in the debt markets."

Rival firms Permira and Apax Partners abandoned plans to buy the retailer New Look after failing to raise the £1.8bn they were seeking. Mr Moulton said the company "may be the straw in the wind of people struggling to raise debt".

Mr Moulton was appearing alongside David Blitzer, senior managing director of Blackstone, Peter Taylor, managing partner of Duke Street Capital, and Donald Mackenzie, managing partner of CVC. All four men agreed that the controversial "taper relief", under which some private equity partners pay as little as 10 per cent tax on their investments, should be abolished but only in favour of a simplified lower rate or capital gains tax.

"The regretable effect [of doing this] would of course be to put several hundred highly paid accountants out of work," said Mr Moulton. He suggested a figure of 20 per cent compared with the current 40 per cent.

But in response to a question about whether private equity firms deserved to get generous tax rates that were really designed for entrepreneurs, he said: "Look at it the other way. At least you are getting some tax. If you change things you might not get any."

All four men insisted that they risked "substantial amounts" of their own money when their firms took over businesses, despite the high levels of borrowings used by private equity funds.

Despite Mr Moulton's robust defence of the industry, the hearing was noticeably less confrontational than an earlier appearance by private equity bosses and the initial hearing featuring the British Venture Capital Association, which was infamously accused of "behaving like ostriches" by Labour committee member Angela Eagle.

The committee had earlier heard from Sir David Walker, who is conducting a review of the industry under the auspices of the BVCA. He said his forthcoming voluntary code of practice would call on firms to provide twice yearly updates on financial performance of private equity-owned businesses to employees and "other stakeholders".

He also believed that the partners in private equity firms that own companies should be identified, although he stopped short of saying investors in private equity funds should also be made public.

Sir David, who is an investor in private equity himself, denied that the review was an industry stitch-up and insisted that "I am very independent" despite his City background and interests in the industry.

He denied that a voluntary code would be toothless, saying: "The scrutiny from a better informed media will be intense."