The co-investing crisis

Rising taxes and falling returns are taking their toll on the co-investing craze.

"The amended capital gains tax rules will impact people participating in company co-investment schemes that qualify for business taper relief," says Chris Sanger, head of tax policy at Ernst & Young. "Assets disposed of before 6 April 2008 will be taxed at 10%, while those disposed of from 7 April 2008 will be taxed at 18%."

Co-investing is nothing new, but one compensation consultant says it's become infinitely more popular in recent years as banks have offered employees exposure to the upside afforded by their principal investments.

"In a typical co-invest arrangement you'll put a proportion of your post-tax bonus into one of the bank's own funds and the bank will then put in two or three times that on your behalf," says Jon Terry, a compensation consultant at PricewaterhouseCoopers. "If you stay with the firm for around two or three years, the company then gets its money back after interest and you get your own money - plus any upside on the total amount."

But with returns on in-house private equity funds now looking less assured and tens of billions of dollars of leveraged loans stuck on banks' balance sheets, the appeal of co-investing is waning fast. "If the underlying fund loses money, you will lose money too," says Terry. "People lost a lot of money through co-investing in the early 1990s and these schemes disappeared for a while," he adds.

Morgan Stanley, Goldman Sachs, JPMorgan, Citigroup, Lehman Brothers and Merrill Lynch are among those said by headhunters to offer co-investing schemes. If losses persist, Terry says plenty of people could get stung: "Traditionally these schemes were only open to very senior staff, but some banks have now made them available to anyone with $50k to invest."