Transferable Tax Credits
28 Feb, 2009By: James H. Renzas
Providing Assistance Where Assistance is Needed
The Credit Crunch of 2008 has hit the world of economic development hard. Companies that were considering expansion of existing facilities or new facilities have rushed to the sidelines due to uncertainty in the capital markets, general economic malaise and investor concern. A recent study conducted by DCI on behalf of the Greater Houston Partnership shows that 38 percent of site consultants expect to see a decrease in the demand for their services as a result of recent changes in the world-wide economic climate. Over two-thirds of all site consultants have seen projects either terminated or placed on hold in the last six months.
Yet, studies show that there continues to be strong demand for new locations in the energy, medical, biotechnology and services sectors. Recent estimates of energy-related projects indicate that over $15 billion per year is expected to be spent each year over the next decade on alternative energy projects in the United States alone. In addition, an aging population and changing financial conditions bodes well for the med-tech and services sectors of the economy.
The Drive for Growth Industries
Many states have shifted their economic development attraction programs towards these industries. Massachusetts, for example has recently launched aggressive attraction programs in both the life sciences as well as the alternative energy industries. Grants, tax credits, tax abatements, R&D credits and other programs are typically targeted towards these emerging industry companies as a method to attract high-paying technology jobs in critical industry segments.
California, for example, offers a generous Research and Development tax credit which provides companies 15 percent of the excess of current year research expenditures for qualified research conducted in the state of California. The State has rightly promoted itself as the center for biotechnology and has touted the industry’s impact on the State and its research institutions. Yet, few life sciences companies show a profit in the 15-year life-cycle typically required for the creation of a new biotechnology product. Most companies in this segment are research intensive organizations that aim to get the product through a rigorous FDA approval process and then capitalize upon the value- added research by selling or licensing the technology toa much larger organization.
As generous as it is, California’s Research and Development tax credit does not provide the needed stimulant to the biotech industry because these credits cannot be monetized. This is because the California Research and Development credits are non-transferable.
Other states have recognized this problem and have implemented tax credits which can be monetized through the sale of the credits to companies with current tax liability in the state.
In 1999, a New Jersey state law went into effect allowing emerging technology and biotechnology companies to transfer, "sell," their unused New Jersey Net Operating Loss carry forwards (NOL’s) and New Jersey Research and Development Tax Credits (R&D Credits) for cash. Profitable companies, paying New Jersey corporate tax, can "buy" these credits at a discount thereby reducing their state tax obligation. Administered by the State Economic Development Authority and passed by the Senate and General Assembly of the state of New Jersey ( P. L. 1997, c334, Senate No. 1709-Final Version Chapter 140), the intent of this law is not only to stimulate economic growth within the state, but also to aggressively expand the State’s emerging technology and biotechnology industries.
The response to the program has been quite favorable. According to an Ernst and Young study conducted on behalf of BioNJ, the number of life sciences companies located in New Jersey has increased for the third year in a row to 238, with over 6,155 employees. R&D expenditures at public life sciences companies have increased to $1.2 billion in 2007 versus just $737 million in 2005. The aggregate market cap of publicly traded life sciences companies in the state had increased to $29.7 billion versus $16.9 billion in 2005.
In response to questions that look at why companies locate and remain in New Jersey, 61 percent of the 2008 respondents indicated that the New Jersey state government provides and supports the industry, a statistic that has increased every year since 2003. A key component of this support is the Tax Credit Transfer program that allows companies that are not making a profit to sell Net Operating Losses (NOL’s) and Research and Development Tax Credits.
What are Transferable Tax Credits?
Transferable tax credits allow the company which generates the state tax credits to sell these credits on the market to companies that have state tax liability. Transferability allows an entity that has more tax credits than tax liability to sell what it cannot use. Transferability also allows entities that receive multiyear credits for capital projects to sell the credits and obtain the financing they need.
Transferable tax credits differ from refundable tax credits in that the state will not provide a cash refund of unused tax credits where the company has insufficient tax liability to take advantage of the program. Many states have enacted both transferable and refundable tax credits as a way of providing stimulus to industries where job creation and investment are important to the state’s economic development program.
Transferable Tax Credits Drive Oregon Renewable Industry
The State of Oregon offers the Business Energy Tax Credit to those who invest in energy conservation, recycling, renewable energy resources and less-polluting transportation fuels. A transferable tax credit of 50 percent is available for companies in the following industries:
High Efficiency Combined Heat and Power
Renewable Energy Resource Generation
Renewable Energy Resource Equipment Manufacturing Facilities
Through 2007, there were more than 14,000 Energy Tax Credits issued in Oregon.
Located at 23365 NE Halsey Street in the city of Wood Village, just east of Portland, Oregon, XsunX is establishing its initial 25 mega-watt TFPV solar module manufacturing facility.
Trade, business or rental property owners who pay taxes for a business site in Oregon are eligible for the tax credit. The business, its partners or its shareholders may use the credit. The applicant must own or be the contract buyer of the project (the project owner). The business must use the equipment for the project or lease it for use at another site in Oregon. A project owner also can be an Oregon non-profit organization, tribe or public entity that partners with an Oregon business or resident who has an Oregon tax liability. This can be done using the Pass-through Option.
The Pass-through Option allows a project owner to transfer their Business Energy Tax Credit project eligibility to a pass-through partner for a lump-sum cash payment. A project owner may be a public entity or non-profit organization with no tax liability or a business with tax liability that chooses to use the Pass-through Option.
According to an Economic Impact Study prepared by ECO Northwest in May 2007, the annual benefits of the Business and Residential Energy Tax Credit programs in Oregon far exceeded the costs of administering the program. Of the $73.8 million committed in 2006, for example, the net impact on the Oregon economy included:
Increased output in Oregon’s economy of $142.7 million
1,240 new jobs in Oregon
$18.6 million in new Oregon wages
An increase of $10 million in state and local government tax revenues
A decrease in commercial and residential energy costs of $48 million.
Solar manufacturers are increasingly considering Oregon as a location for manufacturing and production as a result of these programs. Solaicx, a manufacturer of mono-crystalline silicon ingots and wafers used in the solar industry, announced in June 2008 that it will establish its first high-volume manufacturing facility in Portland, Oregon. In March, 2008, Solar World Group, based in Germany, said it will convert an existing semiconductor plant in Hillsboro, Oregon to a solar-wafer and cell manufacturing facility. When fully operational, it will be the nation’s largest solar production facility. Solaicx will make products for the solar Industry in a high volume plant in Portland, Oregon.
SpectraWatt, an Intel spin-off, will make solar cells in Hillsboro, with an initial employment of 135, with potential for expansion. XsunX, is completing its factory in Wood Village, Oregon. The company has plans to expand up to 100 MW in solar panel production capacity. Average wages in the solar manufacturing industry in Oregon is in the $60,000 per year range.
Refundable Tax Credits Becoming More Popular
Refundable tax credits differ from transferable tax credits, in that refundable, or non-wastable tax credits can be applied to state taxes to reduce the tax owed to below zero, resulting in a moderate negative income tax. Because transferable tax credits can only be sold where there is a buyer who needs tax credits, situations can arise where there is insufficient tax liability to fully utilize available transferable tax credits. Refundable tax credits, however, avoid this problem because they allow the recipient of the tax credits to actually receive a cash rebate of unutilized tax credits, once all tax liability has been fully utilized. Companies in fast growing industries and those in emerging fields with heavy development spending can more easily utilize refundable tax credits because it does not require a willing buyer to take advantage of the credits. In addition, the tax credits are available at a 1:1 basis with cash versus 70 to 85 percent for transferable tax credits.
Among the states offering refundable tax credits are Michigan with its MEGA tax credit program; Indiana with its EDGE program and numerous state film production tax credits; Ohio’s Job Creation Tax Credit; Nebraska’s Advantage Program; New York’s Economic Development Zone; Utah’s Economic Development Zone tax credit; Maryland’s One Maryland Tax Credit, and many other programs.
These programs are among the most desirable as companies never have to worry about whether or not these credits can be monetized.
Tracking and Compliance is Key
The common thread between both transferable and refundable tax credits is the need for rigorous compliance to ensure that the programs are being used as specified by the tax code. In addition, many companies do not correctly calculate the value of these credits or provide timely reports as required by law. Recently, for example, we had a client who had successfully applied and pre-certified for a New York Empire Zone project which entitled the company to up to $3,000 per new hire in refundable tax credits. Due to management changes, however, the company failed to provide compliance reports to the state as required by law, and the Empire Zone project was de-certified. The dollar loss associated with the failure to file timely reports has been estimated to be in the millions of dollars.
In addition, many companies do not effectively communicate with state and local officials regarding the status of their projects. Many programs require verification of job creation or investment. In an uncertain market, companies may not always be successful in creating the number of jobs that they have projected during the incentives negotiation process. Regular communications between state and local officials can help stem the loss of all or a portion of investment or job creation tax credits. Alternatively, if the company creates far more jobs or investment that was originally contemplated, this regular communication program can help you qualify for more credits.
Whenever you or your company are considering establishing new or expanded facilities, a survey of all available tax credits should be conducted as a normal part of doing business. Companies like Bedford can handle this on a contract basis or this can be done by internal staff resources. Once your company has successfully applied for tax credits, it is important that you have a system in place to monitor and maintain these tax credits to ensure full utilization.