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Forbes - From the Desk of Dean Zerbe - Top 7 Ideas for Tax Incentives to Create Jobs

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DEAN ZERBE, SEPTEMBER 2, 2011 | REPRINTED FROM: FORBES.COM

Today's terrible job news only underscores the need for action on encouraging employment. However, the proposals being put forward by the White House of new spending or a continuation of the payroll holiday have little to zero chance of becoming law (unless significant concessions made to the Republican House). Lawmakers in Washington need to decide do they want an issue for the elections or do they want to do something now to help the unemployed. To the goal of doing something today this column puts forward proposals that actually have a realistic chance of passing and can have a good impact on jobs and the economy (while not breaking the bank).

Before President Obama and the Congress hop down the bunny trail of tax incentives designed to encourage job creation it's perhaps useful to ask, “Where do jobs really come from?” (No, the job fairy doesn't bring them.) 11 images Gallery: The 10 Biggest Individual Tax Expenditures

There are two key engines for job and economic growth: New businesses and (with obvious overlap) small and midmarket businesses. The importance of encouraging entrepreneurism and startups for job growth was underscored by an August 2010 NBER Working Paper, Who Creates Jobs? Small v. Large v. Young. (Spoiler alert: Young wins).

But the gas for those engines of jobs and economic growth is research and development (R&D) , improved technology and applying that new or improved technology to the work at hand (and fostering greater productivity). Innovation, R&D and greater productivity is especially vital if we are going to encourage manufacturing jobs in this country. Happily, studies have shown that encouraging new businesses goes hand-in-hand with spurring innovation.

Unfortunately, the main proposals being discussed in D.C. for tax incentives for job creation do little to nothing to help new, small and medium companies – and certainly not those innovative companies that are new, small or medium.

We can do better: Here are seven good ideas for job creating tax incentives — three to encourage investments in new business and four to foster and encourage innovation and productivity.

1. The Pryor-Brown 25% income tax credit proposal.

Senators Pryor (D-AR) and Brown (R-MA) have put forward legislation — The American Opportunity Act– which in a nutshell will provide a 25% federal income tax credit for investing in qualified small businesses, including companies in the advanced manufacturing, aerospace, biotechnology, clean energy and transportation sectors. Qualified small businesses can receive up to $2 million per year in tax credit-eligible cash equity investment, of which no more than $1 million can come from a single investor. (With a 25% credit, if any investor kicks in $1 million, he'll get $250,000 in tax savings.)

While not perfect, this bill gets us going in the right direction. Payson Peabody who represents the Angel Capital Association (and my former colleague from the Senate staff) makes the right point that any tax incentive to be successful in encouraging new investment in this difficult economy must be significant. In addition, the incentive should not be limited by the alternative minimum tax (AMT); and should be targeted to businesses most likely to lead to job growth (meaning in high-growth and innovative industries as well as manufacturing); broadly applicable; and, not have a lot of hoops to jump through administratively.

2. The 100% exclusion for gains in small business stock.

The Kauffman Foundation has put forward a number of proposals to encourage entrepreneurship – known as the startup act – and in the area of tax the Foundation proposes continuing the 100% exclusion for gains on investments in small business stock – Section 1202. The exclusion is set to expire this year (the White House has championed the 100% exclusion).

3. An exclusion for taxable income of a qualified small business.


Another startup act proposal – 100% exclusion on corporate taxable income by a qualified small business ($50 million valuation) in its first year of profits and a 50% exclusion for years two and three. (As the folks at Kauffman state, in making this recommendation they are cribbing off of the National Advisory Council on Innovation and Entrepreneurship at the Department of Commerce – a surprisingly interesting group).
11 images Gallery: The 10 Biggest Individual Tax Expenditures

4. Create tax incentives for innovation at small and medium businesses.

Continue to allow small and medium businesses to benefit from the R&D tax credit by extending beyond 2010 the temporary exclusion of the R&D tax credit the AMT. Allowing small and medium businesses to take the R&D tax credit against AMT (included in the Small Business Jobs Act of 2010) has been a godsend for thousands of innovative businesses across the country. This change in law allowed many small and medium companies to take the R&D tax credit for the first time. Unfortunately, the provision was for only one year. Extending this AMT exclusion for the R&D tax credit would cost less than $200 million but would be a boon for jobs and innovation. Talk about bang for your buck.

5. Make the R&D credit refundable to help new startups.

While the AMT exclusion for the R&D tax credit would greatly benefit a large number of small and medium businesses, many startups would still be ineligible for the credit because they are not making a profit. Several states, and particularly Louisiana and Minnesota, have had great success with an R&D tax credit that is provided even if a company doesn't owe tax. I've seen first-hand that this expanded, refundable R&D credit has meant companies keeping their doors open or expanding and creating new jobs in Louisiana and Minnesota. A similar credit – refundable against payroll taxes paid by companies – and capped at $250,000 could provide much-needed cash for credit-starved innovative startups.  Such a proposal would ensure that some of our most cutting edge new companies would actually receive the benefit of the R&D tax credit – as opposed to being on the outside looking in.

6. Make the R&D alternative simplified credit (ASC) – available for everyone.

A few years ago, Congress created the R&D ASC to make it possible for more companies – especially small and medium businesses – to qualify for the R&D tax credit. In a nutshell, the ASC is (as advertised) a simpler way for a company to compute its eligibility for the R&D tax credit without having to look at base years from the mid-1980s.

Unfortunately, by regulation (first put in place by the previous administration and recently confirmed by the current administration) the Treasury Department has barred companies from taking the ASC on an amended return. I know this sounds terribly wonky, but the effect of this mindless regulation is that thousands of small and medium businesses are effectively barred from fully benefitting from the R&D tax credit. Congress' Government Accountability Office, in a recent report on the R&D tax credit, recommended that companies should be allowed to take the ASC on an amended return. The Obama Administration, given it proclaimed zeal for going after bad regs, should just repeal this job-destroying regulation. So far, that hasn't happened. Barring Treasury officials getting a wake-up call from the land of common sense, Congress should make it clear that companies can take the ASC R&D tax credit on amended return.

7. Increase the R&D credit and help innovation across-the-board.


The Obama Administration and many members of Congress on both sides of the aisle have called for increasing the R&D tax credit – a good idea. The current R&D tax credit is pretty thin soup compared to the R&D credits offered by other nations and could do with some giddyup. Increasing the ASC from 14% to 20% as proposed by Senators Baucus (D-MT) and Hatch (R-UT) would be good move, as would similarly increasing the underlying R&D tax credit.

There you have it, seven proposals that are modest in cost but could have significant short and long-term benefits for the jobs and economy – encouraging new investments, startups and jobs today and fostering innovation and improved productivity for the future.

I encourage readers' comments on these proposals and their ideas for other approaches that should be considered and can be passed into law by a politically divided Congress.

I've also been thinking about what can be done for the huge number of self-employed who are struggling in this economy and would appreciate your insights and views on that.