What Makes a State Sexy to Eager Entrepreneurs?

Apparently business owners don’t have a one-track mind when it comes to location, location and location.

According to some economists, what a state demands a business pay in taxes ranks far down its priority list of attractive qualities. Business owners, they say, look at the whole package when choosing where to locate, taking into account quality of life, school systems, public safety and other services that said taxes end up paying for. If low taxes were the only thing that mattered, economists contend, we’d see mass migration to southeastern states, where it’s dirt cheap to start up a business.“One could argue that the more traditionally high-tax communities like Massachusetts, New York, Wisconsin, do a much better job at attracting and retaining small firms” than those states with lower taxes, explained Rutgers University finance and social policy Professor Henry A. Coleman, who has also served as senior economist in the Office of the Chief Economist at the U.S. General Accounting Office. “What are you getting for the taxes that you pay? I think businesses are a lot more sophisticated than some of the simple thinking associated” with taxes.There are other less-obvious, tax-related measures that come into play, as well.

For example, does a state allow a business to file as a business, or pay taxes through the personal-income tax? And does it offer small businesses the option of carrying over losses from one operating period to the next?“We need to be mindful and flexible in looking at the total picture of all of those factors that influence those locational decisions. Are there any businesses that leave because those taxes are high? Sure,” but “I just can’t believe that taxes are the pivotal issue because otherwise, they would all be leaving for Louisiana and Mississippi,” said Coleman, who has also served as executive director of the New Jersey State and Local Expenditure and Revenue Policy Commission.“If you look around the country, many of the states, say in the southeast ... have legendary low tax rates but not all big companies and certainly not all small companies move to those states,” he said.

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But Cap Willey, director of the National Small Business Administration, says that while taxes may not be No. 1 concern on entrepreneurs’ priority lists, they certainly rank among the top five.“They’re high on most lists around here,” he said. “Getting a proper tax structure that incentivizes business to work here would go a long way. If I can get my marginal-tax rate down to 6%, even though it’s not a huge difference between my two neighboring states, I can do a lot better job selling the state.”

Some U.S. residents may indeed have proof that they are at an economic disadvantage when neighbor states offer more attractive tax systems, such as no income or capital-gains taxes, or lower sales-tax rates. Take Nevada and California, for example. While both states are suffering from a housing glut, “it’s striking how much better [off more entrepreneurial-friendly] Nevada is than California,” said Ray Keating, the SBE Council’s chief economist. It’s no coincidence that Nevada has been a high-growth state overtime in terms of opportunity and overall economy, he said.Rhode Island is another state that may be suffering from better-tax neighbor malaise. The tiny Ocean State – which ranked 44th on the SBE Council’s list – is bordered by Massachusetts and Connecticut. Its marginal-tax rate can reach 9%, compared to Massachusetts’ 5.3%.Willey, who is also managing director of the CPA firm CBIZ Tofias in Rhode Island, said that in his state businesses don’t get much in return for paying higher income, property and sales taxes -- and dealing with more regulatory burdens than other states impose. So, he said, many people commute to Boston or other cities in neighboring states to set up shop.“We’re not getting the performance in our education system and we’re not necessarily getting the performance in our government - and that’s frustrating,” Willey said.Throw in the Internet and the whole-new-world of opportunity e-commerce offers, and it adds up to more reasons states should work on being more attractive to small businesses and new capital.“It’s no longer the state next door – you have to worry about all the states,” Keating said. “You can’t just be better than your neighbor, you have to be better than the rest of the world.”