Are Hawaii's Tech Tax Credit Worth the Cost?

Comment

Comment by GB Hajim on February 20, 2009 at 2:16pm

I'm coming to realize where all the tax credit money is going: Honolulu lawyers and accountants!

They are charging us $175-$375/hr to process all the elements that go into making these businesses function to the letter of the laws that are set up.

So, the tax credits are generating even more unaccounted for jobs.....just not in the high tech sector.

Can't I just make these movies?

Have a great weekend yall.

Comment by Daniel Leuck on February 17, 2009 at 4:23pm

Laurence A. Lee: Just trying to get this straight so it can gel a bit more. According to your numbers, we are seeing $3 in outside investment pumped into the State for every $1 credited through Act 221? How much of that money actually stays in the State, I wonder?

The law requires that most of it stay in Hawaii. For example, if you qualify based on being an R&D company (you perform work that is considered qualified research under federal guidelines), at least 75% of that research must occur within the state.

Laurence A. Lee: Hawaii doesn't manufacture much in High Tech - certainly not in Equipment and Machinery. I'd imagine a good portion of the vested capital is spent on importing specialized Equipment, or outsourcing the manufacturing process.

Many Act 221 companies don't manufacture anything. They are brain trusts such as Kuenhle Agro Systems or Blue Lava that utilize licensing models. They hire smart local people and bring in talent from the mainland and abroad as necessary.

Laurence A. Lee: For example, a local company producing nanotech-based cooling systems (sorry, their name escapes me at the moment), would be designing their products here, but have the designs manufactured elsewhere.

You are probably referring to Pipeline Micro, a company that produces a two-phase microchannel heat sink, and that is exactly what they do.

Comment by GB Hajim on February 17, 2009 at 2:56pm

Most of you know my story by now. Taking kids from our local community and training them in production.

How do we stack up talent wise? I just returned from LucasFilm's Skywalker Ranch where we will be doing the final touches on the film (less than 5% of our budget on this out of State expense). They are giving us tens of thousands of dollars of in-kind services for free. Why? Because our project stacks up against the best of them. They believe we are a good investment. They believe we will be back with our sequels and bigger budgets. Maybe they are wrong, but the people that we are working with there have about $30 billion of films under their belt.

None of this would have been possible without the tax incentives.

And I'd like to re-iterate for the umpteenth time, this tax credit is not a freebie. Even though we have Grammy and Academy Award winning people, A-list actors and actress, we still struggle to raise money. Very few Hawaii residents are interested in getting involved. For every 100 people we reach out to we might get one or two people on board. Getting money from the mainland to come here? It is near impossible.

Maybe to become a QHTB you should be able to show a commitment to Hawaii. The principle management must have been working and paying taxes here for 10+ years for example. I'm all for revising the tax credit. Another thing that was suggested that your tax credit dollars cannot exceed your Hawaii based payroll. I think that is a good one. There are many ways to make it a more solid investment for Hawaii, but killing it all together?

I guarantee you won't see any more movies made here (Australia, Canada, and New Zealand all have great tax incentives AND lower costs). Anybody in the HTA will tell you that the less movies made here, the less tourism we will have.

I'd love to have somebody pull up the numbers on LOST. Tax credits versus income generated. On my last flight home, I sat next to a tourist who couldn't wait to see all the places that he had seen on LOST.

Peace yall.

Comment by Bill Spencer on February 17, 2009 at 2:53pm

In Silicon Valley it takes 8 years for a company to go from start-up to a liquidity event. Act 221 will not be 8 years old until July 2009. 1000 business plans reviewed for every 8 investments is not a gamble and 2 out of 8 home runs shows just how hard it is to pick winners even when mitigating risk is the objective. Tax department data shows that to date $296M in credits have been claimed, $1.2 billion has been invested and those companies spent $1.4 billion in the local economy on employees, goods and services GET and payroll taxes. You don't a fruit tree today and expect fruit tomorrow. It will take time for 221 companies to mature and be acquired or go public. Give it time to work. Let's not pull the plug or uproot the trees we've planted before they have time to bear fruit.

Comment by Laurence A. Lee on February 17, 2009 at 2:14pm

Bill,

Just trying to get this straight so it can gel a bit more. According to your numbers, we are seeing $3 in outside investment pumped into the State for every $1 credited through Act 221? How much of that money actually stays in the State, I wonder?

The only resources I can think of that Hawaii has to offer are Natural Resources, Commercial Real-Estate, and Employees.

Hawaii doesn't manufacture much in High Tech - certainly not in Equipment and Machinery. I'd imagine a good portion of the vested capital is spent on importing specialized Equipment, or outsourcing the manufacturing process. For example, a local company producing nanotech-based cooling systems (sorry, their name escapes me at the moment) would be designing their products here, but have the designs manufactured elsewhere.

Considering that, by your own estimates, 2 out of every 8 VC-funded companies actually succeed and hit "Home Runs", I'd be very curious to see how this "2 in 8" ratio stacks up to the "outside investment dollars retained".

On the surface, we're looking at a 1-in-4 chance of success. That's still a a gamble, IMHO -- despite the research that went into the Venture Capitalists' selection of the final 8 out of 1000 applicants that receive funding. I'm sure it's a risk that High Net-Worth individuals can afford; but I have to question whether it's a risk that the State can (and should) afford.

I'm sure you'll agree that it is difficult to measure just how much "stimulus" is generated through Act 221; and judging from the length of this thread, we all have differing opinions on how to measure, and what the figures actually are.

I'm just not convinced that the State (as a whole) is actually receiving a positive ROI, rather than the handful of companies able to take advantage of Act 221. Certainly, there are a few companies that are thriving as a result of this legislation. Are those few success stories worth what the State paid for them, along with what was paid for the less-successful companies?

Bill Spencer said:

It is not easy to raise money, even with the tax incentive. In Silicon Valley ithas been said the only8 out of 1000 business plans submitted get funded with the expectation that maybe two of those 8 will hit home runs. Companies have to have a high degree of good governance when OPM is invested. Board's are composed of shareholders who would never allow excessive compensation or bad risk taking.

Comment by Bill Spencer on February 17, 2009 at 1:09pm

Hi John,

1. Act 221 was designed to incent investors who traditionally invested in Hawaii real estate to look at investing in companies in Hawaii's budding tech sector. What I'm trying to explain is that the credits generated from these investments is not a pot of money that is necessarily being denied the state or that could be used for something else as qualified investors might simply find other ways to shelter their income and reduce their tax liability.

2. Real estate is just one way investors can minimize their tax liability. Options include 1031 exchanges, investing in rental properties that lose money in the short term but appreciate in the long term, etc. I don't know of any others. Low income housing tax credit are used by banks pretty extensively, but it are only a 10% credit, it is also a federal program.

The claim is and always has been that Hawaii high net worth individuals and to some extent corporations like insurance companies were not investing in our own back yard or in Hawaii based tech start-ups. Between 1988 and 2001 less than $280M was invested in Hawaii tech companies. The desire to build a tech sector and diversify our economy could not be funded from local sources as most high net worth folks tended to invest in other vehicles such as mainland venture funds or real estate to make their wealth. We also were not attracting mainland investment capital because our high net worth investors and companies were not investing in deals in their own back yard, hence companies like Digital Island moved to the mainland where VC money was more plentiful. By creating the tax credit incentive of Act 221, we were able to attract more local investment. By allowing the shifting of credits between those who didn't need them and those who didn't want them, we were able to attract more money from outside Hawaii ($3 from outside for every $1 invested locally). Not all "rich people" are using this incentive but it certainly can be argued that it has worked and many fine companies have been funded that might otherwise have never gotten off the ground her in Hawaii.

Comment by John on February 17, 2009 at 12:36pm

"This is not a pot of tax dollars that could be used for something else. If the Act goes away, the investors may not invest, but they will certainly find other ways to shelter their tax liability."

A couple of questions:

1. Are you saying that it is guaranteed 100% that investors will always find and use another shelter? Could it be the some investors simply pay more taxes if 221 did not exist?
2. If we assume that real estate shelters have no public value, wouldn't we want to eliminate that as well.

It seems that this claim comes down to: "rRch people are going to find ways to avoid paying taxes anyway so we might as well as get money for the technology sector."

Am I misunderstanding this?

Comment by Bill Spencer on February 17, 2009 at 12:10pm

Hi Laurence, the problem with what you are saying here is that you assume your tax dollars are being used to fund these companies. That simply is not so. Investors fund the companies and get tax credits spread out over five years. This is not a pot of tax dollars that could be used for something else. If the Act goes away, the investors may not invest, but they will certainly find other ways to shelter their tax liability. Real Estate used to be the method. There are hundreds of accountants and lawyers that make their living helping high net worth individuals pay less taxes. Act 221 is not funded by the State. You might argue that it is income lost to the State that could be used elsewhere, but that assumes high net worth individuals would pay their taxes as opposed to find some other shelters.

It is also not fair to suggest that investing in high tech companies is "gambling". If you had been through a VC or investor financing, you would know that it is all about "risk mitigation" not rolling the dice. Hawaii Angels (of which I'm a board member) has looked at almost 2,000 business plans since 2002, invited 150 entrepreneurs to present and funded 40 companies with about 30 million dollars (not all 221 companies) All of those companies are still in business. I would not characterize this as "gambling" at all.

Comment by Laurence A. Lee on February 17, 2009 at 11:57am

Coming from Howard Dicus, I thought the article was a nicely put together Opinion Editorial, at best. Howard didn't go into enough detail with hard numbers; and the "facts" presented are passive, anecdotal accounts about Hawaii's past.

Is there a benefit to Act 221? Certainly -- if there were zero benefit, we wouldn't be having this discussion.

The original question posed is, "Are the Credits worth the cost?"

I see numbers posted by the Department of Taxation; and an alternative, conflicting set of numbers posted by the Hawaii Venture Capitalists.

In the end, I don't really care about numbers in reports. What I do care about, is what the State is squandering my Tax Dollars on, and whether or not it's a good investment compared to other State-Funded projects.

I'm not a Venture Capitalist, nor am I a Professional Investor. I'm just an Average Joe Taxpayer who happens to know a thing or two about Technology, and am going by traditional Money-Management philosophies for my own personal finances.

When I see roads in disrepair, along with Schools and State Libraries facing cutbacks, I have to question the efficacy of Act 221, and whether it makes sense to put up State dollars to fund the handful of jobs.

To all the advocates of Act 221, let me pose the question in an alternative light: In a time of financial hardship, which would you choose: find a way to pay the bills that you're obligated to pay; or neglect some bills and go Gambling on a risky "High Tech" startup that happens to be in your neighborhood?

That's what you're asking the State to do. Me, I'd rather the State have a balanced budget before we start talking about risky investments.

Comment by GB Hajim on February 15, 2009 at 4:47pm

Awesome reporting.

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