By Iain Withers and Tommy Reggiori Wilkes

LONDON (Reuters) -Britain will increase tax on the performance fees that private equity fund managers make from asset sales to 32% from a current 28%, a smaller rise than many buyout bosses had feared.

UK finance minister Rachel Reeves said in her budget announcement on Wednesday that her government would increase the rate on “carried interest” from April 2025 as part of wider increases to capital gains taxes across most assets.

Further changes will be made to rules for carried interest from April 2026 to ensure it is “taxed fully within the income tax framework”, the government said in budget documents.

Carried interest is only paid by around 3,100 people in Britain, according to the government, but has helped mint a generation of private equity multi-millionaires.

Reeves had previously announced she intended to close a loophole that allows executives to pay 28% tax on their performance gains, raising expectations it could be aligned with the top rate of income tax, at 45%.

Today’s announcement will likely be greeted with a mixture of relief and caution by the investment funds industry – relief that the anticipated rise in tax rates was limited to 4% and caution about the impact of more sweeping reforms,” said Peter Morley, tax expert at law firm Pinsent Masons.

The changes in 2026 will mean carried interest will be subject to national insurance contributions too, which Michael Graham, a partner at law firm DLA Piper, said would mean a flat tax rate of 34.625% for all forms of carried interest.

The government will also consider changes such as co-investment obligations and extending minimum holding periods, with any changes subject to consultation.

The private equity industry had mounted a lobbying campaign against a big rise in tax rates, arguing that the sector was crucial to Britain’s need for private investment and that large rises could drive wealthy managers overseas.

It is welcome that the government has listened to our arguments on the value of the private capital industry,” said Michael Moore, chief executive of lobby group the British Private Equity and Venture Capital Association (BVCA).

Critics say the money executives make on fund performance should be taxed as income because it is a reward for doing their job and because private equity firms are mostly investing other people’s money.

In explaining its approach, the government said on Wednesday that there were “unique characteristics” of how carried interest was earned which set it apart from other forms of income.

Private equity’s well-funded campaigns against closing the carried interest tax break have proven effective elsewhere, including in the United States.

(Reporting by Iain Withers; Additional reporting by Anousha Sakoui; Editing by David Evans and Daniel Wallis)