The Biden administration’s recent tax legislation, the Omnibus Budget Balancing and Business Act (OBBBA), has created a seismic shift for specialty finance firms. After spending two weeks speaking with industry executives and tax experts, one thing is clear: adaptation will separate the winners from those left scrambling.
“We’re facing the most significant tax code changes for financial services in over a decade,” explains Morgan Stanley’s chief tax strategist Jennifer Calkins. “Specialty lenders need to completely rethink their structural approaches.”
The legislation’s core provisions target several areas that directly impact alternative lenders, equipment financiers, and other non-bank financial institutions. Most notably, the carried interest provision now extends the holding period requirement from three to five years for preferential tax treatment—a direct hit to private equity-backed specialty finance operations.
Data from the Federal Reserve shows specialty finance companies now account for nearly 22% of all commercial lending in the United States, up from just 11% a decade ago. This growth has placed these firms squarely in regulators’ crosshairs.
The corporate minimum tax rate of 15% on book income exceeding $1 billion particularly affects larger specialty finance platforms. According to RSM’s financial services analysis, approximately 43 specialty finance firms will immediately fall under this provision, with another 28 approaching the threshold within two years.
Speaking at last week’s Financial Services Forum in Manhattan, Treasury Secretary Janet Yellen defended the measures: “These provisions help ensure that profitable corporations pay their fair share while protecting smaller businesses and promoting economic stability.”
For mid-market specialty finance firms, the changes to interest deductibility present perhaps the most immediate challenge. The new limitation reduces the allowable deduction from 30% to 25% of adjusted taxable income, potentially increasing tax liabilities for debt-heavy business models.
“This strikes at the very heart of our business model,” admits Robert Chen, CFO of MidMarket Funding Partners, a commercial equipment finance company. “We’re built on leverage, and these changes directly impact our margins.”
Industry analysis from Bloomberg indicates specialty finance companies typically operate with leverage ratios between 3:1 and 7:1, significantly higher than traditional banks. This structural reality makes them particularly vulnerable to the interest deductibility changes.
Tax experts I’ve consulted suggest several strategic responses. First, many specialty finance firms are accelerating their international expansion plans. The OBBBA’s global minimum tax provisions create unexpected opportunities for certain cross-border structures.
“We’re seeing clients shift portions of their operations to strategic locations where the effective tax rate exceeds the 15% global minimum,” explains Deloitte partner Samantha Williams. “This counterintuitive approach actually provides greater predictability under the new regime.”
Second, industry players are revising their entity structures. The shift from pass-through to C-corporation status now makes sense for many specialty finance operations given the new tax landscape. Data from PitchBook shows 37% of specialty finance deals in Q1 2023 involved structural reorganizations, compared to just 8% in the same period last year.
Equipment finance companies face unique challenges under the new depreciation recapture provisions. The legislation modifies how certain leased assets are treated for tax purposes, potentially increasing effective tax rates by 3-5 percentage points according to equipment finance association data.
“For years, our industry benefited from favorable depreciation treatment,” says Thomas Rivera, president of the Equipment Finance Association. “The new rules effectively end that era, forcing our members to compete on different terms.”
Consumer lenders also face significant changes, particularly those utilizing offshore structures. The OBBBA strengthens GILTI (Global Intangible Low-Taxed Income) provisions and eliminates certain exemptions previously used by specialty consumer finance companies with international operations.
JPMorgan Chase‘s latest specialty finance sector report estimates these changes could reduce after-tax returns by 75-150 basis points for affected companies—a meaningful impact in an already margin-compressed environment.
For investors in specialty finance, these tax changes demand new evaluation metrics. The traditional focus on pre-tax yields now requires sophisticated tax-adjusted return analysis. Several major investment banks have already revised their valuation models for the sector.
“We’ve completely rebuilt our specialty finance valuation framework,” confirms Goldman Sachs analyst Patricia Hernandez. “Tax efficiency is now a primary differentiator rather than a secondary consideration.”
Small business lenders may find some relief in the legislation’s targeted provisions for businesses with less than $500 million in assets. These carve-outs include simplified reporting requirements and phased implementation schedules.
The Federal Reserve Bank of New York estimates these small business lending exemptions will protect approximately 65% of specialty finance firms by number, though they represent just 23% of the sector’s assets.
Despite these challenges, industry leaders remain cautiously optimistic. “This industry has always been about adaptability,” notes FinTech Lending Association president Michael Zhang. “The firms that thrive will be those that view these tax changes as a catalyst for necessary evolution.”
For specialty finance executives, the path forward requires immediate action. Tax strategy can no longer be relegated to year-end planning. It must now be integrated into core business operations, product development, and capital raising decisions.
As we enter this new era for specialty finance, one certainty emerges: yesterday’s tax playbook is obsolete. The winners will be those who recognize that in today’s complex tax environment, structure determines destiny.
