There’s a lot of political talk these days about passing legislation to help businesses on Main Street. How do these 3 initiatives measure up?
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As politicians gear up for election season, business owners are likely to be prime targets for candidate photo opportunities on factory floors, in local restaurants and at retail shops. Beware. Just because politicians say that certain legislative accomplishments are “good for small business” doesn’t really mean they are in practice.
Here is a nonpartisan roundup of three legislative initiatives that directly affect the vitality of Main Street businesses.
The 35 percent health care tax credit
On the surface, Washington offering small-business owners a 35 percent tax credit on the cost of health insurance premiums for their employees sounded great. At last there was some relief for business owners who faced double-digit premium rate increases.
After April 15, I surveyed regional accounting firms around the country to determine just how helpful this tax credit was to Main Street business owners. The problem was execution. Both business owners and their tax advisors complained that complex rules for qualification significantly narrowed participation rates. One accountant called the credit “an empty promise” and “a waste of time” for his clients.
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In addition to having to complete a tedious payroll analysis, qualifying companies then had to file yet another schedule to their tax returns.
The reality is that paperwork kills small-business productivity. According to the U.S. Small Business Administration’s Office of Advocacy, small businesses with fewer than 20 employees already spend 45 percent more per employee than larger companies to comply with federal regulations, and they spend 67 percent more per employee on tax compliance. Let’s not make these stats worse.
Zero capital gains for small-business investors
As part of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, angel investors were given a considerable incentive to invest in privately held businesses, perhaps companies just like yours. The law set an unprecedented 0 percent tax rate on capital gains up to $10 million or 10 times total invested capital.
On the surface, the initiative made sense. When angels write checks to emerging companies, business owners go on a hiring spree. According to the Center for Venture Research at the University of New Hampshire, the average angel funding creates a little more than three new jobs after closing.
The problem with this initiative is that the fine print makes the deal available to just a sliver of businesses. The tax break is not available to investors in businesses that are structured as sole proprietorships, limited liability companies, partnerships or S corporations — just C corporations. Furthermore, the legislation excludes more industries than it includes. If Congress is serious about creating new jobs, it needs to create incentives that apply to the broadest range of Main Street businesses.
The definition of an ‘accredited investor’
Last year, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act. While the primary purpose of the act was to prevent future financial market meltdowns and Madoff-like schemes, it also included a few provisions that directly affect the small-business and venture finance communities.
One of these legislative changes will effectively reduce the number of angel investors who can invest in privately held Main Street businesses. Here are the fine points of the rule change.
Entrepreneurs who seek to sell stock in a business to investors need to register the securities with the Securities and Exchange Commission, plus comply with other often complex federal and state regulations. While this may seem daunting, the SEC allows companies to bypass some of the more costly regulatory requirements by soliciting “accredited investors.”
Under the old regulations, accredited investors were defined as individuals who have a net worth of $1 million or annual income of at least $200,000 in the two years prior to investment. The new rules require all accredited investors to have a minimum net worth of $1 million, which cannot include the investor’s equity in a primary residence. The SEC is expected to release final rules regarding accredited investor qualification this year.
The logic behind the net worth and income test presumes that wealthy investors are aware of the risks associated with investing in a privately held company and can “afford” to lose the investment. Granted, families of more modest means invest in Main Street companies all the time without meeting accredited investor tests. That’s because companies are generally permitted to raise money from up to 35 non-accredited investors in addition to an unlimited number of accredited investors.
Finally, most angel investment clubs are updating their club membership requirements to reflect this regulatory change, but individual investors may not know about changes to qualification requirements. So entrepreneurs who are seeking angel funding have to be careful that they don’t give old private placement subscription forms to prospective investors.
I was recently asked on a radio show why small-business owners are so poorly represented in Washington policymaking. My response focused on campaign donations. Because most small-business owners don’t have deep pockets for large individual campaign donations, it’s easy to overlook their needs during the legislative drafting process.
If you’d like your representatives to pay more attention to small-business owners, write to them. Tell them you vote, too.