Are Hawaii's Tech Tax Credit Worth the Cost?

Comment

Comment by Lance Furuyama on January 6, 2009 at 7:57am

Hi John,

Thank you for your response. I believe that your suggestions would be a good starting point for revising ACT 221/215. However, being somewhat of an Industry Newbie, I'm sure that there are some counterpoints that I'm overlooking.

Best Regards,
Lance

Comment by John on January 5, 2009 at 4:54pm

Hi Lance,

There is an easy way mechanism to ensure that the state does not lose its money. The student or the company (depending on who takes the grant) would be required to repay the money if they left the state prior to a designated term. This is common for a number of programs.

As for the students/employees/companies leaving the state, It's certainly a valid concern.

I think a key solution to this is to focus on building smaller companies that are viable for Hawaii's current technology skills and are less dependent on geographical bounds.

In that respect, I think ACT 221/215 can actually be harmful for tech companies. By making money 'cheaper', it pushes companies to take bigger risks than the talent and infrastructure of Hawaii can support.

This is why I think SaaS is such a good fit for Hawaii (though ironically not covered by 221). SaaS companies can sell and deliver their products over the Internet - ideal for Hawaii's geography. Additionally, SaaS companies can be profitable and manageable by small teams of people targeting niches. You are not going to get billion dollar companies but you could get dozens of multi-million dollar companies that could provide a stronger foundation for the tech sector.

Speaking from my own personal experience, I have gone the SaaS route - knowing full well the talent situation here, the issues around getting investment and the challenges of the geography. It's only been 8 months but I am already quite profitable directly from the site itself and it's growing quickly.

I think lots of other people could do the same or better. Take small steps, focus on opportunities where Hawaii is a good fit and expand over time. A tax credit that supported that and helped young Hawaii students would be a great help to that end.

Comment by GB Hajim on January 5, 2009 at 3:17pm

I'm all for scholarships. I have personally funded scholarship programs at both of my alma maters. Like the company in your example: What keeps these college educated people here after we've paid for (or at least subsidized) their education? I know a majority of the graduates from the Academy for Creative Media either leave the State or cannot find work in their field. Well paying jobs will keep them here.

I think John and Lee's ideas of credits being tied to employees is a good one. I'd also add to put in a cap on compensation packages for the management team: That until the company has been operating in the State without tax credit monies for at least some significant amount of time the compensations must be in the form of equitable wages - not pay outs. The wages must be living wages, but not excessive.

I think if you included a $90k cap on annual compensation including wages and benefits for managers, you'd eliminate 95% of the people applying for the credits and cut out the most of the people who try to "game" the system.

As I understand it 75% of all money raised through the tax credit must be spent in Hawaii. I think that should be 100%. That's just common sense, eh?

There are many ways to fix this thing and probably cut the amount of credits applied for by a very significant amount.

All this blogging about it. If we can come to a consensus about even two or three recommendations, would you all be willing to sign a joint letter to the Finance Director?

Your thoughts?

Comment by Lance Furuyama on January 5, 2009 at 3:17pm

"John: The question becomes: How do we structure financial incentives to do more of what GB is doing - training and building experience for young technologists at minimal burden to the State?

Just with the $300M already spent, how many young people could have been funded to get into technology? Let's say the State paid $25,000 in training/subsides direct per Hawaii student in technology/software development, that would already be 12,000 new technologists. Given that we are on the way to 1.2 B in tax credits, that would be nearly 50,000 Hawaii students trained."

I believe that the State would still risk losing this best of this "homegrown talent" to companies on the mainland and not see the ROI that they would hope for, although this approach would better serve the general public than the way that Act 221/215 is currently written.

Comment by Laurence A. Lee on January 5, 2009 at 2:58pm

In like terms, having the State spend $25K per Technology Student is on par with a Full Scholarship at UH Manoa.

As someone who worked his way through College, I wouldn't mind seeing the Tax Credits of 221/215 re-established as Tax Credits or Scolarships for (Hawaii Resident) students enrolled in "Qualified High-Technology Majors". This would help build a local talent base to pull from.

Though, I thoroughly agree that the work that GB is doing is very unique, especially for these islands. For such businesses, I really liked the earlier "Obama-Plan" inspired idea of offering credits on a per-Qualified-Employee basis, as that ensures 100% of the Tax Credits are applied toward hiring local talent.

From my reading of Act 221/215, the State only requires 50% of "business activity" of a QHTB to be Qualified Research -- 75% of such Qualified Research (37% of all busines activity) must be done in Hawaii.

Comment by John on January 5, 2009 at 2:17pm

Hi GB,

I think it's great that they you are mentoring and helping so many young people get into technology. As we have been discussing, a critical mass of talented technologists is what Hawaii needs to grow a strong technology industry.

It seems we agree that (1) We do not have this today and (2) ACT 221/215 has been inefficient at best in developing such a talent pool.

The question becomes: How do we structure financial incentives to do more of what GB is doing - training and building experience for young technologists at minimal burden to the State?

Just with the $300M already spent, how many young people could have been funded to get into technology? Let's say the State paid $25,000 in training/subsides direct per Hawaii student in technology/software development, that would already be 12,000 new technologists. Given that we are on the way to 1.2 B in tax credits, that would be nearly 50,000 Hawaii students trained.

Thoughts?

Comment by GB Hajim on January 5, 2009 at 1:48pm

My $2.5 million budget has $1 million of in-kind (from LucasFilm and others). $500k from pre-sales. Leaving the cash raised to $1m.

Nothing prohibits a company from moving except for integrity.

Comment by Laurence A. Lee on January 5, 2009 at 12:09pm

Since you're so close to the issue at hand, there's probably no easy way to present an opposing viewpoint without this getting heated up. All I can say that the following is not a personal attack.

GB Hajim: Remember, the investor has to invest 5 years of tax liability in one year. Most people I know don't have that kind of equity. If they do, you have to convince them to not earn interest (4-7% easy in a solid money market / cash management fund) on that equity and instead give it to you. Even if they are going to invest at only $10k, that is a loss of well over a thousand of dollars over 5 years plus the risk that we go belly up in less than 5 years and they lose the remaining credits. The key to convince them to put in the equity, take the risk of losing the credit, and give up the earning power of the equity is the turning it into a 200% credit by matching it with investors on the mainland. Seems easy, eh? 200% guaranteed return with minimal risk.

One catch. You have convince people on the mainland, thousands of miles away, that your company, at the edge of a rain forest, staffed by young people out of some of the worst academic schools in the country, that my company, built in a shed that used to be used for a car painting business, is worth them taking the risk of putting up half of the money. If you think that is easy...well, you are my next Executive Producer.

While your accomplishments are noble and are a definite step in the right direction, I have some reservations about where the risk/reward is placed.

According to your numbers, the State is crediting $1.25M (50% of a $2.5M production)? So, assuming you had 50 employees (created 50 jobs), the State is crediting $25,000 per employee?

Your investors have a 5-year risk before they get 100% ROI via State Tax Credits (with any excess Tax Credits may "roll over" indefinitely until exhausted). The State, however, has a longer-term risk before it enjoys any substantial ROI.

At the end of 5 years, when all credits have been paid out, what's to stop the 5-year-old Startup from moving away from the State, and taking all that locally-grown talent with it?

In other words.. Say I started a Ruby-on-Rails Startup today, and received the full $2M in "100% refundable" startup investments, and built up several internal teams of young, capable programmers over the 5-year startup period. During the 5 years, the company just blows through the initial Startup Funds to keep things going; with little revenue.

At the end of 5 years, when all State Credits have been paid back to the investors, what prevents these businesses from simply closing shop ("Uh-oh! we blew through our Startup Money, and can't secure another round of funding!")? What prevents the successful ones from moving their operations to the Mainland, where overhead costs are lower?

Either way, those "created jobs" can disappear or move out of the State before the State can enjoy the benefit of Income Taxes from those newly-created jobs.

Furthermore.. with the way the Economy is going, EVERYONE needs to concede some kind of cutbacks in order to survive. This is a period of Belt-Tightening. Times have changed, and today's High-Tech Economy isn't "booming" like it was in '2000 when Act 215/221 were first enacted.

Seeing the State spend $300M to create under 2500 jobs over the first 6 years (an Expense to the State of more than $120,000 per created job) is tough to swallow, and I agree with John - the State money could be utilized elsewhere to achieve a greater community benefit.

I view Act 221/215 as a High-Tech Charity (or Welfare Program) that should not be renewed.

It isn't as effective as the State had hoped, and the landscape of the High-Tech sector is not the lucrative Land of Milk n' Honey that we thought it would grow into back when the program was started in '2000.

We can always draft a better, more effective program that meets the original goals -- after the we begin to recover from the current recession.

Comment by GB Hajim on January 5, 2009 at 12:48am

It was part UH money, part from the consortium of telescopes, and part Federal money (your tax dollars at work!), but the decisions were made by UH personnel.

Comment by Daniel Leuck on January 5, 2009 at 12:02am

This project was managed by UH. They turned me down even though my bid was much lower than the Toronto company that received the contract. More than two years of production time went by. Two months were left. Nothing besides some pre-production notes had been completed. The Toronto company hired a Vancouver company which hired me to do the work. I did my best even though I thought what the Canadian company had planned was rushed and ill conceived. At first they had me send them the work and then they sent it back to Hawaii as their own.

Was it UH money? As a fellow entrepreneur and tax payer this makes my blood boil. Did UH ever explain why they rejected a lower bid from a local company with a great track record? I've heard many stories about capable local companies loosing bids to outside companies, but the fact they subcontracted back to you while claiming credit is truly awesome in its badness.

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