Hawaii's Controversial Tax Credit Generates $821M in Investment

Hawaii's research and investment tax credits for high-tech companies have been a issue of debate for nearly a decade. In a survey conducted earlier this year, 45 percent of a sample of high-tech business owners said these credits played a "major influence" in their decision to grow and expand in Hawaii. Opponents, however, claim that the program's generous tax breaks overstep their bounds by extending incentives to movie and television companies.

 

A new report from the Hawaii Department of Taxation suggests that, despite these concerns, the two credits have been successful in generating greater technology investment. The department claims that participating businesses attracted more than $821 million in investment, paid out $506 million in salaries, and have been a major driver of technology business in Hawaii since the credits were introduced.

 

Hawaii residents claimed $195.6 million in investment tax credits between 1999 and 2005. The tax department reports that qualifying businesses spent $1 billion on salaries and infrastructure and created more than 5,300 jobs in Hawaii. The most frequent applicants have been computer software firms, which have created 921 new jobs and attracted about $232 million in investment. Qualifying biotechnology firms created 217 jobs and spent about $80 million. Other firms participating in the program include companies in sensors and optics, ocean sciences and non-fossil fuels.

 

The report, however, includes several caveats to those findings, particularly its figures on employment. More than half of the new jobs cited by the department were created within performing arts companies. This represents about 2,800 new jobs. Performing arts businesses, however, employed only 307 people in 2006. The report explains that many of these jobs existed only for a short time. The tax department admitted that the jobs figures were not reliable since they also included jobs created outside of the state and by company suppliers. Also, the report does not differentiate between part-time and full-time jobs.

 

Though performing arts attracted an amount of investment on par with the more conventional high-tech industries and a large number of jobs, these jobs tended to pay much less than those industries. Between 2003 and 2006, the average salary paid to employees in the performing arts was only $17,412, compared to $32,191 in biotechnology and $31,935 in computer software.

 

Both the research and investment credits have been reformulated several times over the years to keep pace with the business interest in the program and to respond to the objections of many in the state who believe that the program definition of qualified expenses remains too inclusive to be beneficial to the state economy.

 

As interest in the credit grew, the state expanded the program in 2001. Act 221 increased the credit for qualified investments from 10 percent to 100 percent. The investment credit now provides a full return on cash investments over five years: 35 percent in the first year, then 25 percent, 20 percent, and 10 percent in the final two years. Up to $2 million in credits are available for each qualifying high-tech business per year. Businesses that qualified for the investment credit include computer software design, biotechnology, ocean sciences, sensor and optics technology and, over the objections of many in the state, the performing arts.

 

This flexibility led to increased concern that the incentives, particularly the investment credit, were not being properly targeted to benefit the high-tech economy. In 2004, the state legislature amended the credits to tighten the restrictions qualifying businesses. Act 215 requires firms to first apply for status as qualifying high-tech businesses (QHTBs) in order to receive either credit. All applicants for the credit must now demonstrate that more than 50 percent of their total business activities are qualified research and that 75 percent of that research occurs in the state of Hawaii. Additionally, more than 75 percent of a firm's gross income from qualified research must be generated by sales, manufacturing or production within the state of Hawaii.

 

While these restrictions did reduce the number of qualifying businesses, they did not eliminate the inclusion of performing arts firms as QHTBs. Opponents claim that these firms often provide only temporary employment while filming movies or television series and rarely contribute to the state's long-term high-tech growth. By providing an investment tax credit to these firms, the state merely creates a tax loophole for movie and television production companies.

 

A frequent objection to the administration of the credit has been its lack of transparency. Throughout most of the program's history, Hawaii's Department of Taxation did not release the names of businesses and investors participating in the program. That changed this summer following a report from the Tax Review Commission that criticized the program's lack of appropriate metrics, according to the Honolulu Advisor. The department will now identify participants so that the program can be evaluated in the before the sunset of the program in 2010.

 

Read the Hawaii Department of Taxation's report on the High Technology Business Investment Tax Credit at: http://www.hawaii.gov/tax/pubs/2007hitec_rpt07a.pdf