Troan - Journal of Multistate Taxation Article 1 2015

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HECKPOINT. November/December 2014

Journal of Multistate

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HECKPOINT NOVEMBER / DECEMBER 2014 VOLUME 24 NUMBER 8

SITE SELECTION AND NEGOTIATION

BEST PRACTICES FOR OBTAINING AND EVALUATING CREDITS AND INCENTIVES 6

GEOFFREY J. TROAN AND JANETTE M. LOHMAN

According to the authors of this article, a business should prepare an incentives analysis every time it considers making a capital investment.

GLOBAL COMPETITION

CANADA - FAVORABLE TAXES AND INCENTIVES

LESLIE WAGNER The collaborative effort of the federal government and the sub-federal entities it supports is proving to be successful in building a strong economic environment for growth and competitiveness throughout Canada.

ECONOMIC DEVELOPMENT AND POLICY

AS THE US AND UK RE-UP FOR EZS, WHAT LESSONS FROM THE PAST HOLD PROMISE FOR THE FUTURE?

DIANE LUPKE, CEcD, FM This article examines the lessons that can be learned from the individual enterprise zone programs in the U.S. that have served businesses and residents well, and from those new zones seeing early success in the United Kingdom.

STATE TAX CHART Credit Allowed for Enterprise Zones

PRACTICE MANAGEMENT Communities Seek a Competitive Edge

FROM THE EDITORS

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28

39

42

5

FACTORING THE

POTENTIAL FOR

OBTAINING FINANCIAL

ASSISTANCE FROM

STATE AND LOCAL

GOVERNMENTS COULD

PROVE WORTH THE

TIME AND TROUBLE.

ver the past several decades, more and more states have been offering tax credits and incentives to encourage

economic development in their ju

risdictions. Accordingly; a business should prepare

an incentives analysis every time it considers making a capital investment or growing jobs. This applies to every material capital outlay in any type of real estate, machinery or equipment.

That is, the business should investi gate and evaluate whether the federal, state and local governments where the investment will be located (or could be located) will partner with them by providing financial and other incentives to encourage the businesses to locate (or relocate) within their boundaries. Oftentimes, businesses can overlook these opportunities because the proposed acquisition has to be kept confidential, or time is of the essence and there is not sufficient leeway to negotiate incentives. Even so, factoring the potential for obtaining financial assistance from state and local governments could prove worth the time and trouble.

Business Climate Optimization: An excellent term that describes the search for incentives or economic development assistance is "Business Climate Optimization" ("BCO"). Since the 1950s, based on the pioneering work of William Edwards Deming and Peter F. Drucker, 1 businesses have utilized business process optimization (BPO) to optimize production and maximize profit. Another major factor affecting production efficiency and ef-

fectiveness is the underlying business cli mate. BCO extends optimization from the business process to the business cli mate. In today's world economy, it makes no sense to optimize business processes in a high -cos t labor environment, with antiquated labor agreements, high taxa tion and antiquated infrastructure.

Partnering with governments to foster economic development can play a key role in extending BPO to the business climate, ensuring that a new or expanded facility will be the low-cost production operation the taxpayer intended. if a business does not explore the business climate, its competitors assuredly will, and it may suffer damaged profit margins or simply be run out of the marketplace.

Heritage Practice: "Heritage Practice" involves firms selecting a location for new production based on a "heritage facility" or an existing location. It also involves locating a new facility where the product research and development occurred. Utilizing this method, however, could be an impediment to optimizing incentives.

Even if business executives are 100% sure that they intend to expand production from a given location, the business should perform a site selection study using a "Matrixed Probability Analysis:· to determine which potential sites optimize business climates for production and reduce manufacturing costs. Busi ness executives must assume that their competitors will locate in an optimum business climate, and they should choose their expansion locations based on that model. That information is key in approaching local, regional, and federal governments for BCO assistance, otherwise known as incentives.

GEOFFREY f. TROAN recently retired as Vice President of Economic Development for a Fortune Fifty aerospace company, and now operates a private consulting business from Celebration, Florida. JANETTE M. LOHMAN is a partner with the law firm ofT/10mpson Coburn LLP in St. Louis, Missouri. This article is based on a presentation made by the authors at the 2014 Summer Institute in Taxation of the New York University School of Continuing and Professional Studies.

JOURNAL OF MULTISTATE TAXATION ANO INCENTIVES November/December 2014

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Credits and IncentivesWhat They Are and the Types That Might be Available There are essentially four broad categories of credits and incentives: those that are a matter of entitlement, those that are discretionary, latent incentives that are created through legal construction and those that must be enacted by new legislation.

Caution: State and local governments generally keep their discretionar y, legal construct and legislative incentives "close to the vest"-they may not offer them at all if they think that the business is going to invest within their jurisdiction anyway, so these incentives are harder to discover and generally only surface in highly competitive situations.

Entitlement incentives. Entitlement incentives, also referred to as statutory incentives, are a matter of entitlement. These incentives will be granted to the applicant if the applicant meets the initial statutory requirements. The relevant government has no legal authority to deny the incentive to the applicant if the applicant otherwise meets the programs' require men ts. Examples of entitlement programs are the federal historic preservation tax credit program ,2 some of its state counterparts3 and certain locationspecific incentive programs such as Enterprise Zones or Empowerment Zones.•

ln general, these incentives are created to provide a whole lot of businesses with just a little bit of help. There is generally a standard application that must be completed and filed with the granting authority. Thereafter, a staff administrator evaluates the project's qualifications for the program, and either awards or denies participation. A common misconception of those who believe incentives are "icing on the cake'' is the perception that an analysis of entitlement incentives defines the market. Entitlement incentives, however, are simply the tip of the economic development iceberg.


For instance, if a developer has acquired a building that qualifies as acertified historic structure and meets the rest of the federal statutory requirements regarding a restoration of the structure for commercial purposes , the project wi ll qua li fy for a federal income tax credit equa l to twenty percent (20%) of the amount of qua I ified expenditures spent to perform the rehabilitation.

Similarly, Enterprise Zones are a good example of ent itlement incentives that are quite popular with many states. At last count , over 38 states offered some type of area-specific program to encourage businesses to bu y, expand or re locate into blighted or distressed communities. Location-specific incentives, however, might not be the most lucrative form of assis tan ce. For instance, in order to qualify for income tax credits, property tax abatements or sa les tax exemptions, the business must agree to spend a certain amount of capital and hire a minimum number of employees. Many governments place restrictions on the use of those incentives that might cause the business to quali~r for lots of incentives that they cannot utilize (e.g., non-refundable, non-transferable income tax credits).

SITE SELE CTIO N AND NE GOTIATION

Discretionary incentives. Discretionary incentives are incentives that the government has available but will only grant to applicants if, but for the incen tives , the applicant would not proceed with an economic development project (the "But-For"). Most state constitutions provide that public funds may only be expended for public purposes, and prohibit their instrumentalities from spending tax dollars for private purposes. Fortunately, "economic development" is generally considered to be a public purpose, and the concept of economic development includes projects that wi ll increase capital spending and job creation, and that wi ll promote increased tax revenues to the jurisdiction in the future.

In order to obtain discretionary incentives, the business generally has to propose a project that is considered to be "strategic" for the regional or federal government. Strategic projects either advance a community's participation in a targeted industry, materially impact the region's average per-capita wage or bolster an ail ing heritage industry that is otherwise being ravaged by competition from outside the region.

Larger infrastructure incentives can generally be obtained more readily through

November/December 2014

discretionary funds rather than through entitlement programs. Here, the business will define an infrastructure need that will sharply bolster production efficiencies or effectiveness, or overcome a labor cost disadvantage. The agreements for dis cretionary incentives consist of custom legal documents, drafted jointly by the public coalit ion sponsoring the incen tives and the business receiving them.

legal construction incentives. Often, inflexible economic development im pediments can be overcome by aggres sive legal construction. lf a community has no statutory allowance for property tax abatement, business property can be placed in the name of an entity that is tax exempt. For example, a local economic development organization with a tax-exempt charter might take ownership of a business's production assets and lease them back to the company. This can eliminate sa les and use taxes on the acquisition, and reduce real or personal property taxes either in perpetuity or over a fixed number of years.

legislative incentives. Very large, highly strategic projects quickly exceed a public sector coali tion's abi li ty to utilize existing legislation and tax structures to create an adequate business climate to precipitate

JOURNAL OF MULTISTATE TAXATION AND INCENTIVES 9

In today's world economy, it makes no sense to optimize business processes in a high-cost labor

environment, with antiquated labor agreements, high taxation and

antiquated infrastructure. the work. Examples of these types of projects would be Boeing's move of the 787 Dreamliner plant from Washington State to South Carolina,5 or Scripps Pharmaceutical's relocation of its research and development operations from California to Florida.• Both these economic development agreements represented huge risks for the companies and the creation of entirely new business segments for the public coalitions.

The value of the Boeing agreements (to Boeing) has been estimated at between $400 million and $900 million, and the Scripps deal was estimated to be valued at $350 million (to Scripps). To pursue agreements of this magnitude, state legislatures must enact new, project-specific legislation that enables public -private partnering agreements on a grander scale. These are always large, complex, custom incentives agreements drawn up between the company and the State's Attorney Gen

eral or other delegated agency. • In order to enact new economic de

velopment legislation, the business must first negotiate the incentives with the Executive branches of government with respect to the state and local governments of the designated areas. This process will identify champions in the State House and Senate, and du plicate custom legislation is drafted for both bodies. Coalitions are built within both houses of the Legislature

supported by the Company and the State and Local Chief Executives.

• Once the legislation is negotiated and passed by the State Legislature, the State Executive signs it into law, and State Commerce Staff executes the custom agreements with the Company. Economic benefit analysis tests.

Some state and local governments require projects to meet "economic benefit analysis" tests-that is, the projected future tax revenues for the project have to meet certain levels before the government is au thorized to offer these incentives.' lt is

10 JOURNAL OF MULTISTATE TAXATION AND INCENTIVES

imperative for a corporate economic development professional to gain access to the model and determine the key coefficients to maximize the incentive.

To a large extent, these models are theoretical studies with a lot of room for interpretation in the input variables. By understanding how the state evaluates a proposed business venture, the business can predict wide variances in economic impact. It is also wise for each business to perform its own economic impact study to use as a baseline for the state's evaluation.

Timing m ay be crucial. Businesses should not "break ground" before the incentives are absolutely granted. Generally, there is no way to appeal a situation in which a government reneges on an incentive. "Handshake" deals are non -bind

ing and if the business proceeds with the expansion before the incentives have been formalized, it risks losing them.

Hierarchy of incentives. The Good. Th is includes anything that the business can utilize and will never have to repaythat is, anything that will either bring cash to the project or otherwise reduce mandatory expenses. These types of incentives include, among others, real and personal property tax abatements; sales tax exemptions, refunds or rebates; state and federal income tax abatements or credits; direct grants or direct cash payments out of dis cretionary resources to pay relocation; discount leases; accelerated state infrastructure development; leverage zoning; utility subsidies; training or similar expenses; tax increment financing ("TlF') that uses taxes

generated by the expansion to pay for the infrastructure that supports it and refundable or transferable income tax credits, and similar cash-generating items.

Caution: The manner in which the in centive is structured may affect how much of an incentive the business really gets. If a business has a choice between a property tax abatement that is equal to the percentage of taxes that would otherwise be


assessed, or an absolute -dollar property tax reduction for a fixed number of years, the business should choose the percent

age reduction. That is, with a percentage reduction,

the taxpayer would be guaranteed to get an actual tax reduction each year. lf, however, the business is awarded a fixed dollar amount of ta,"< reduction each year, there is nothing to stop the state or local government from simply increasing the taxes in the following years to absorb the fixed dollar incentive, rendering it meaningless.

Caution: Oftentimes, the most lucrative incentives require complicated legal structures that involve significant amounts of time, legal and accounting fees, and postaward compliance. The businesses should ensure that the incentives that they are offered are worth the commitment of resources to earn them. In general, entitlement incentives can be negotiated in a time frame ranging from a few weeks to six months. The necessary time frame can extend to as much as 48 months for large, complicated legislative incentives, with discretionary and legal construction incentives falling somewhere in the middle.

The Bad. This category includes any incentives that do not guarantee that the business will be able to actually receive

SITE SEL ECT I ON AND NE GOT I AT ION

or utili ze the benefit that the government ha s promi sed (e .g. , non -refundable or non -transferable income tax credits with limited income utilization that could be offered in Enterprise Zone or other areaspec ific incentives programs).

The business should calculate and understand what these benefits reall y are and how they may be utilized. Also, many in centives programs have onerous post-award compliance requirements, so businesses should be co nservative in the promises they make "up front" to the governments in terms of how soon the y will create new jobs and how many new jobs they will create or retain over a specific number of yea rs. The key to dealing with "bad" incentives is ensuring that the agreements are structured as a public/private partnership and not a mere purchase of jobs.

Because the press likes to categorize economic deve lopment as a form of

1 These gentlemen are considered by the authors to be two of the top management theorists of their time.

2 Section 47 of the Internal Revenue Code of 1g95 as amended (the "Code")

3 Over 30 states have state historic tax programs that either match or supplement the federal program in some manner.

4 Over 35 states have some type of location-specific tax credit or exemption program.


cor porate welfare, so me members of the public-sector coalition working the agreements are likely to see k hard lan guage which simply trades jobs for cash. This defiles the essence of an economic deve lopment agreement, which is meant to be a partn ership between the three historical smokestacks of busi ness , the post-K 12 educational system and local /regional government, to bring increased core busin ess activity to the reg ion.

The goal of economic development is to create a V\lin -Win- \Vin-Win Ag reement that allows: • a business to operate in an area with a

less than optimal business climate at reasonable margins; the workforce and Post-Kl2 educational system to improve worker skills to perform needed tasks (improving their income potential );

5 "Boeing Moving Engineering Work Outside of Washington," http://www.seattlepi.com/ business/boeing/article/Boeing-moving-engineeringwork-out-of-Washington-4565734.php.

6 "Scripps Research Institute and Takeda Pharmaceuticals Announce Expanded Research Collaboration," http://www.scripps.edu/news/press/2013 /20130312takeda.html.

1 For example, see Ala. Code§ 40-98-6 and Ala. Admin. Code § 810-4-3-.05.


the business's customers to stretch their budget through lower pricing; and

• the loca l/regional government to enjoy sustainable improved taxation and community development through the economic multiplier effect. Good and honest negotiation among

the parties (with lots of available time) is the first ingredi ent of a good recipe for productive agreements. The business may warrant that it will demonstrate that the full va lue of the economic development package will be passed onto customers in the form of lower pricing. In return , the public sector coalition may offer softer language in employment targets and force majeure that will forgive employment variances related to factors beyond the busi ness's control. The simple substitution of "may" versus "shall" related to clawbacks or recapture may prevent a business from having to pay back incentives during really harsh economic ti mes.

Likewise, having the state's Commerce or Economic Development staff administer and audit a company's compliance for purposes of imposing penalties is preferable to having the Department of Revenue perform that task. None of this helps, however, if the business simply cannot use the incentives because the business model doesn't generate enough profit to use them. Th is usuall y involves future tax credits. Here, a legislative change may be necessary to allow the business to utili ze a tax credit against its entire business income generated in the region, rather than just permitting the busi ness to utili ze the credit against the business division that generated it. It is even better for the business if the credits may be transferable to third parties.

The Ugly. This category includes any incentives that the taxpayer might have to repay (e.g., industrial revenue bonds, low or no-interest loans or any incentives with recapture provisions).

Cheap financing can be useful if in terest rates arc high , but again, any time

JOURNAL OF MULTISTATE TAXATION ANO INCENTIVES 11

that a business receives monies that it will have to repay, the business should prepare internal cost/benefits analysis to determine whether it is worth the cost to pursue these options.

Recapture provisions can be particularly onerous-to the extent that promised job levels fall below the agreed upon level, the business may well have to repay all of the incentives received to-date plus penalties and interest. Again, good and honest negotiation between the public sector coalition and the business can turn the ugly to bad, and the bad to good.

Corporations should deal with the ugly as they would with any other business risk: adequately rnon it or, control and reserve for it. Unfortunately, this makes it very difficult to turn the incentive over to the customer in the form oflower pricing. It tends to favor profit conversion. If a product represents a major sales transaction (like the design, delivery, deployment and maintenance of a new weapons system), a business may be able to liquidate the incentives reserve to the customer over time, but any "point-sale" product will not support this model, because there is no assurance of the incentive until well after the sale has taken place.

Tax and Financial IncentivesLocal Incentives Though each state/ provincial governmental region is unique, generally, developers and others seeking to expand their businesses in new areas should seek local support first, because state incentive programs are often dependent upon demonstrating a minimum level of local support. Some of the local incentives available include the following:

Property-related incentives. Property tax abatements and exemptions reduce expenses that the business would otherwise have to pay and are generally granted for a period of more than one


year. Given that most local governments impose real estate and personal property taxes, this is one of the most lucrative of all the incentives that state and local governments can offer.

Property tax incentives are often easy to overlook in the site selection negotiation process because states do not advertise them (i.e., they do not want to get in the middle of competing local governments within their boundaries) and the local governments do not want to advertise them if they think that the business is likely to relocate or expand there anyway.

Unlike state income tax credits, local property tax exemptions or abatements could be perceived as taking money right out of the pockets of the local school, ambulance, fire, junior college, library and other taxing districts. Granting a large tax abatement to a new or expanding business might cause considerable controversy. For instance, if the new expansion results in an invasion of new students from the new business's employees, the government might have to make do with only half or less of the property tax revenues that the business would otherwise have paid to support them. In some jurisdictions, the taxing districts have actually filed lawsuits to block the property tax abatements.•


Here economic impact studies play a key role in justifying the business's position that the abatements/exemptions are necessary for sustainable operations, and that the community will still benefit from the economic multiplier. Businesses should prepare their own economic impact study as a basis of comparison to similar analyses prepared by the regional or local government. • If the company represents a core busi

ness bringing in new cash spend and exporting product from the region, the company may generate as many as three indirect and induced jobs for every direct employee, which could result in new regional cash spent equal to five times the company's annual payroll.

• Because local and regional taxation tends to be event-based, all that ancillary economic activity generates additional tax revenue. Thus the corporation may argue that even though its new venture is paying little or no new tax , the net impact of in duced and indirect employment combined with new cash in the economy leaves the locality in a better economic situation.

• Other negotiations tactics include PILOTS and FlLOTS which are "payments" or "fees" paid "in lieu of" regular

SITE SELECTION AND NEGOT IATIO N

"taxation;' to partially compensate the government for abated taxation and balance the community model. Here are some other things to think about:

• The business should provide its worker demographics ifit is a high -tech company.Well -educated workers tend to have small families with children that do not present problems for the school system.

• The busin ess should also provide worker demographics for its skill sets aging and argue that, long term , the business will generate more retirees than children in the school system.

• A philanthropy chart (if the business co llects worker volunteer hours) can demonstrate that the company's tech nical workforce is very active volunteering in the schools. For example, the company might consider donat ing a new chemistry lab to the high school from its charitable trust.

• Businesses should remember that, generally, they are going to hire about 80% of their workforce from the regional population, so only about 20% of their employees will be bringing "net" new students to the school system. As indicated above, the key to al l successful economic development agreements

SITE SELECTION ANO NEGOTIATION

Entitlement incentives are simply the tip of the economic

development iceberg.

is ba lancing the agreements, or the Win-Win-Win-Win. Tnx Increment Financing (Tl F) and other

infrastructure programs: This entails a temporary diversion of property tax revenues (and sometimes sa les tax revenues) to fund bonds to pay for site improvements. Because schoo l districts derive a large share of their revenue from property tax, this type of incentive might warrant a special agreement to satisfy the school dis trict's needs. Usuall y, the developer must advance the project costs in advance. Almost all states authorize local governments to adopt TIF-type financing, particularly in blighted areas.

E111ine11t domain: If additional land assemblage is needed, the local government might be able to assist a taxpayer by using its power of condemnation against un willing property owners.

local sales tax exemptions and re

bates. To the extent that a local government imposes sa les and use taxes, that government might be willing to waive such taxes or rebate such taxes against construction materials, manufacturing equipment and other supplies necessary to build or expand in the region.

Fee/license waivers. Working closely with the local governmental officials could make the permitting process a little easier down the road as the development occurs. It is obviously a good practice for the business to determine what permits, li censes and fees are required before the development commences, and work through those issues as well as negotiating the incentives.

Additiona ll y, in areas where the permitting process is slow and complex, an "expedited permitting agreement" can be invaluable. This type of agreement usually categorizes the project as strategic to the community and assigns a specific high level individual in the county/city planning and zoning department to oversee the required permitting. App lications are hand carried through local bureaucratic chan-


nels, and inspectors are forced to prioriti ze the sites. This incentive can sharply reduce the time-to-market for new products.

Community development block grants.

This program is funded by the Department of Housing and Urban Development (" HUD") and is administered by the state and local governments in each ju risdiction. The local government applies for these out of available federal allocations to each state, and the funds are genera lly used to make public improvements.

Utility subsidies. Both as a cost factor in the initial construction of a production facility and as a recurring cost over its production life, utilities can be a major factor in the business climate. The public coalition supporting the economic development agreement often includes the local utilities , who maintain economic development units. The combined efforts of the coalition can often result in subsidized utility installation and operation.

Tax and Financial IncentivesState Incentives State incentives may include income tax credits, sa les tax exemptions and abatements, grants, discount or economic de velopment leasing, leveraged zoning and low-interest loans.

Income tax incentives. By far, the most popular form of state incentive is a credit against the income taxes that the state imposes. Each income tax program has its own unique set of characteristics and, accordingly, each program should be carefully evaluated to ensure that the developer can actually utilize the credits offered.

Investment credits based on jobs and/or capital improvements: l'\ormall y, states award income tax credits based on the amount of capital expended or the number of jobs created, or some combination of the two. Sometimes these credits are awarded over a period of years to encourage permanent and lasting employment.


Good and honest negotiation among the parties (with lots of

available time) is the first ingredient of a good recipe for

productive agreements.

• Refundability: The best type of income tax credit is a refundable credit-that is, ifthe business cannot use the credits, the state provides the business with a refund in cash of any excess credits. Transferabi lity: If income tax credits are free ly transferable, this means that if the business cannot utilize them, the business can sell them to another taxpayer who can. Sometimes, however, states with transferable tax credit programs limit the number of times that the credits may be transferred. Also, some states have restricted selling tax credits that are in carry-forward status.

• Tax credits subject to bifurcation: These are income tax credits that can be disproportionately allocated to one or more investors. Caution: There are serious differences in the federal and state income tax treatment of transferred credits ve rsus bifurcated credits.

• "Use it or lose it" credits: This is the least beneficial category of credits because these credits may not be transferred , and if the business cannot use them within the designated time period , they wi ll expire. Contribution credits: Contribution

credits are tax credit programs in which the taxpayer makes a contribution of cash, or sometimes marketable securities or real estate to a governmental or tax-exempt agency in exchange for a percentage of the va lue of the contr ibution in state tax credits. An example of this wou ld be the Missouri Development Finance Board ("M DFB") Infrastructure C redit /Tax Credit for Contribution Program.9 In certain instances the M DFB may use its dis cretion to awa rd tax cred its for private contributions to publicly owned infra structure facilities.

This tool has been used by many de velopers to finance public parking lots located adjacent to new commercia l developments in St . Louis and Kansas City. That is, the developer would con-


tribute land to the MDFB Infrastructure Development Fund in exchange for 50% of the value of the land in cash. The MDFB would build the public parking lot, and the developer would sell the tax credits and use the cash to help fund the devel opment of an adjacent commercial build ing. As with the investment credits, these credits can be either transferable or non transferable.

States sales tax exemptions and

abatements. Sales tax exemptions and abatements are some of the best incentives because the business is guaranteed to get the benefit that the state has promised.

Specific or negotiated exemptions: Sometimes sales tax exemptions ca n be entitlement cred its (e.g., statutory exemptions for area-specific expansions) and sometimes they can be negotiated.

Manufacturing: Virtually all of the 45 states that impose sales and use taxes also provide some type of exemption or reduced tax rate for manufacturing machinery, manufacturing equipment and/or materials and suppli es consumed in the manufacturing process .

Location-specific (e.g., enterprise zones): Many states that provide location -specific exempt ions offer sa les tax exemptions or rebates for either otherwise ta xable tan gib le personal property and/or services either purchased in the area or utilized in the area. It is always preferable to be in some form of enterprise zone, even ifthe business cannot identify immediate in centives tied to enacting or expanding it.

Enterprise zone legislation, which goes by many names, acts as "enabling legislation" for a community to pump economic development efforts into a single depressed area, without having to extend the benefits to the general corporate population. Thus, a business may later pursue additional legislation for the zone after it has establi shed its participation.

Often, a major fear of pub I ic sector coal itions in enacting new incentives pro-


grams is that such incentives will be used, and therefore abused, by a much largerthan-anticipated segment of the corporate population. By tying benefits to the enterprise zone, the corporate popula tion is limited to qualifying businesses lo cated within the zone.

Project-specific exemption: Sometimes a statute may authorize the Department of Economic Development or Co mmerce to authorize sa les tax exemptions on a project-by-project basis.

Form of incenlive: Obvious ly, sooner is better than later-"up-front" exemptions are far better than situations in which the business has to pay the taxes up-front and then file claims for a refund or rebate thereafter. A very few states offer reduced rates for certain types of machinery or equipment, and this, of course, is better than nothing.

Grants. Grants may include withholding tax retention, training reimbursement, relocation expense reimbursement and discretionary grants.

\\'ithholding tax retention (based on 11e1v jobs): Sometimes states may permit new or expanded businesses to retain the withhold ing taxes (e.g., personal income taxes) of their "new" employees. Missouri's Qualify Jobs Program 10 combines retained withholdings with income tax credits for companies that provide new hi gh-income jobs to applicants who are expanding within Missouri.

Training reimbursement: Traini ng gra nts are ava il ab le in a ll 50 states and in most countries internationall y. More properl y termed Workfo rce Development, regional/local training programs recognize the need to enhance poor quality K- 12 education with job specific ski ll s.

Workforce development money is one of the few sources of economic development funding that does not require the business to satisfy a "but-for" test related to the incentive.


These grant programs are generally available for both retraining existing workers or new hires (although the business may have to push to get adequate retained worker funds). These programs may be administered by a community college, a state training agency, a university, or paid directly to the participating corporation.

Training programs are usually pretty versatile, so if the corporation's desired form of training differs from the enacted form , the program can be altered (e.g. , a community college might subcontract a workforce development class entirely to the participating corporation , with the floor supervisor acting as professor, etc.)

In most localities, the grants will pay for all the cost of training, except the em ployee's time off the job. That would in clude cost of the classroom, the cost of the instructor, curriculum development, training aides , training equipment and textbooks. This category of economic development agreements also includes a

8 For example, see Wilmington City School District Board of Education v. Board of County Commissioners of Clinton County et al., Ohio Court of Appeals, Clinton County, 12th Appellate District. No. CA99-12-037 !May 5, 2000)

9 Mo. Rev. Stat. § 100.286. 10 M o. Rev. Stat.§§ 620.1875-B20.1900.

SITE SELECTION AND NE GOT IA TI ON

higher level of educational partnership aimed at sustaining the business with a long-term employment pipeline.

While training grants can satisfy a business's short-term specific hiring needs, a company cannot sustain a workforce longterm on annual retained worker grants alone. This is where the third leg of the economic development stool, Post K-12 education, enters the picture. A good workforce development program includes "embedded university and community college partnerships:·

These generally begin as "indefinite quantity indefinite delivery" ("IQJ D") contracts under which an educational entity and a business work together so that offered pre-employment educational curriculum incorporates direct job skills for positions ranging from blue-collar machine operators to white-collar engineers. Speci fie task orders are issued over the product line's lifecycle to help link curriculum to job skills. Sample task orders might look like this: • the university will provide to the com

pany a technical analysis of product performance under specific conditions with this work incorporated into future case study curriculum for senior year engineering students;


• the community college will create a new program in exotic welding procedures in coordination with the company 's manufacturing engineering group and make this a required course for their two-year aerospace techni cian's degree; and /or

• the company will brief a senior in dustrial engineering class at the uni versity on the proper process for composite materials manufacturing, and the university class will provide sample Manufacturing Process and Quality Process Plans to the company as their senior project. The "best in class" work will be incorporated into the company's actual process plans, with star performing students granted internships or cooperative employment. By incorporating these types of pro

grams into the company's workforce development business plans, the corporation will create a sustainable pipeline of new, young, low-wage employees, who begin immediately as productive workers , blending with senior workers to balance the workforce and retain heritage knowl edge. Because all the training is pre-em ployment, the corporation can pick the best-of-the-best potential workforce,


Generally, developers and others seeking to expand their businesses in new areas should seek local support first.

with little or no investment in the stu dents.

Further, as an ancillary benefit to the corporation, R&D and production devel opment work can be performed by theeducational system at lower faculty/student rates and production assets may even be owned by the university system. The uni versity can tout a partnership with a branded corporation that guarantees its students opportunities for direct post-graduation employment by teaching skills that are sought directly by the host corporation.

All this is accomplished with economic and university endowment funding combined with some corporate R&D (which would have been expended in any case). The regional and local governments win by improving the demographics of their workforce, improving the regional average wage and encouraging more busi nesses to locate there.

Relocation expense reimbursement: ln these days of international competition and world economy, most corporations are forced to continually look for an optimized business climate in order to ensure that their competitors do not force deterioration in their margins and/or permanently damage their debt/equity capital structure and stockholder confidence.

Translated, this means that companies should be considering whether to move work from heritage locations that have less than optimal business climates to locations where companies can com pete sustainably. A major part of that cost is relocating equipment and core employees to the new location. Economic development funds can be ob tained to offset those costs, and improve the location score of a potential new site. These programs are not found among the entitlement incentives offered by most states. These incentives are generally "one-offs:· funded by discretionary grants or special general revenue allocations (legislative incentives). These

16 JOURNAL OF MULTISTATE TAXATION ANO INCENTIVES

incentives can be as flexible as a business's needs.

Here are some examples: • cost to relocate employees to the new

location; • local/regional "get to know the com

munity program" for potential trans ferring employees (DOC); waiver of out-of-state tuition requirements for company's employees and their children relocating to the new site (otherwise known as immediate residency) (DOE);

• road and bridge improvements to accommodate shipping of large equipment to new location (DOT);

• reimbursement of shipping and instal lation expenses for relocated equipment;

• sales and use and property tax ex emptions and abatements for relocated equipment (DOR);

• capital investment tax credits for relocated equipment (DOR);

• in -flight escort and refueling of train ing aircraft to new location (State National Guard); and

• expedited permitting for oversize vehicles and escorts on state highways (State Police); etc. Discretionary grants: Cash is always king

for the corporation because it has to pay dividends and must reduce its capital in vestment and expenses in order to improve its return on investment ("ROI"). Regional and local economic development cash grants, however, generally come with a penalty- federal and state income taxes.

General rule-grants are taxable: If a company receives miscellaneous revenue from a regional government, and has no additional offsetting expenses , the receipt of the grant will be subject to federal and state income tax, which reduces the value of the grant by as much 40%. Therefore, the company may not wish to accept the cash directly but, rather, have the public sector coalition purchase and lease to the company some


of the assets necessary to operate the business.

Code Section 118 exemption: Alternatively, at least in the United States, the lnternal Revenue Code provides a slim exemption under Section 118 that allows a company to accept economic development cash awards as "non -shareholder contributions to corporate ca pi ta!." In order to meet the requirements of Section 118, a taxpayer must demonstrate in the agreements and the accounting records that the grant money is going solely to fund the purchase of long-term business assets. Caution: Be sure to read the ln ternal Revenue Service guidelines and hire a good tax attorney to help you qual ify for this incentive.

Characteristics of grants: Cash grants can come from three of the four forms of economic development incentives: entitlement, discretionary, and legislative. The incentives documents always involve a custom agreement between the corporation and the public coalition, and the complexity of the contract is proportional to the value of the award. • Generally, in order to get the largest

cash grants, a company must be considered a strategic project with a solid corporate brand.

• These incentives are generally bound by more flexible legislation than enti tlement incentives, so the custom agreement will likely grant the company more flexibility in performance requirements. Because these agreements are substantial and are inuring to the benefit of a single company, they al most always include some sort of an nual jobs and investment reporting requirements by the company.

• The corporation should ensure that the agreement is understood by all parties as a business partnership, a balanced Win-Win-Win-Win agreement that benefits the customer, the community, the corporation, and the workforce.


~ -PliNf)l\1 llllllNfJ

• Those in the public sector should note that while iron-clad agreements make an uninformed press happy, they are not really in the best public interests in encouraging economic activity. Likewise, the public sector coalition is not a subcontractor making 40% margins, and negotiations must be tailored to recognize that all parties have fiduciary roles in supporting community development. Discount leasing or economic devel-

opment leasing. There is a scene in the film "Back to School" where Rodney Dangerfield, a retired real-estate developernow college student-berates a cloistered professor explaining the ownership business model to his impressionable young students by saying, "Why buy, !easel" Leasing is a method of gaining plant and equipment that is generally shunned by accounting purists, who point out that most landlords want a significant return of capital recovered at investment rates much higher than the corporation's debt cost of capital or more properly debt/equity average cost of capital. Thus, it's a bad deal for the shareholder.

But what if your landlord is an economic development agency that is financing your equipment with a series of grants and tax-exempt bond financing or general revenue allocation with an imputed cost of capital of I% or 2%7

Further, what if your corporation is taking a great corporate risk to anchor


a new industrial segment targeted by the regional government? The development is located in a blighted community incorporating an embedded workforce development program. The program is a partnership with the State University System that has developed a new curriculum that will encourage other companies to come to the region in the future. ln th is case, the normal rules of finance don't apply, and the company is engaging the larger rules of macroeconomics.

Discount leases: In a discount lease, instead of taking a large cash grant from the public coalition, the economic development team assigns a local or state economic development agency or State University (where applicable) to be the owner of plant and /or equipment, and the cash is given to that agency rather than the corporation. • The corporation or a subsidiary serves

as a consulting design and procurement agent for the landlord , constructing, procuring and installing the leased assets to the corporation's specifications, with title held by the public sector landlord. The corporation, now a tenant, signs a discount lease with the agency that normally covers some of the landlord's operating expenses and some debt service on the bonds (if app li cable), gaining long-term access to production


assets far below the normal cost of acquisition, without the cash drain.

• ln a good jurisdiction, the landlord will be a tax-exempt agency, and the corporation can incorporate the third form of incentive, "legal construction'.' by using an ownership structure that exempts the corporate tenant from all sales/use and property tax on construction and production in perpetuity.

• Variations on a straight discount lease involve heritage public sector-owned assets, such as Brownfield sites, that are redeveloped by public sector coalitions for private sector use under an equally discounted lease, or antiquated corporate assets that are donated to a public sector coalition, redeveloped and leased back by the corporation for far less than the economic development cost.

• By using these discount lease arrangements, the company improves its ROI, eliminates the need for large cash outlays, and receives a tax holiday. The public sector coalition, however, now owns the company's production assets, so the public sector is almost guaranteed that the company is not likely to relocate any time soon. Because the company did not accept any cash , there is no transaction subject to federal or state income tax. Fi nally, it is easier and more politically correct for a regional government to invest in production infrastructure than it is to provide cash to a new business.


Each income tax program should be carefully

evaluated to ensure that the developer can actually utilize

the credits offered.

Leveraged zoning. Leveraged zoning is a complicated form of economic development incentive that applies when a heritage Brownfield or other multi -use site is being developed for more businesses than just the target industry recipient. The land for the new site is zoned in some heavy industrial category, has environ mental issues and has been slated by a highest-and-best-use study for sustainable redevelopment for mixed use with retail and commercial development present. These agreements generally involve the following parties participating in the following manner:

(I) The target industry corporation has high paying jobs.

(2) The local executive and legislative coalition control zoning.

(3) The state executive and possibly the state legislature control building the roads and other infrastructure and regulate and supervise the environmental clean-up.

( 4) The site economic development consortium not-for-profit serves as the financial intermediary and land title holder.

(5) The commercial developer finances and develops construction of the new facility.

(6) In a simultaneously executed series of agreements: • The developer agrees to buy the com

mercial retail property from the notfor-profit entity at a price reflecting retail zoning in return for state-funded highway infrastructure and environmental clean-up, and the local government enacts and implements zoning changes that allow the developer to maximize the real and personal property development in commercial and retail areas.

• The developer agrees to provide to the targeted industry a discount lease on plant and equipment to locate highpaying white- and blue-collar jobs in the industrial professional section of the redevelopment site, using the cash received from the developer.


• The state agrees to accelerate appropriating Department of Transportation funds to the redevelopment site as part of its agreement with the targeted industry to create a new industrial sector anchor in the region.

• The local government agrees to provide zoning concessions to the developer only if the state agrees to update the transportation infrastructure in the community.

• The targeted industry agrees to generate high -paying jobs.

• The not-for-profit acts as an intermediary, bringing all the parties together in a single series of agreements.

• Thus, the public sector coalition is able to build a redevelopment site with minimal use of public sector funding, and everyone enjoys a Win-Win-Win-Win deal. Variations of this include a heritage industrial site owned by the targeted industry that can be partially redeveloped with adequate state and local infrastructure and zoning, with the proceeds benefitting plant modernization. Low- or no-interest financing. Some

regional governments offer low-interest loans to finance required new capital.

Federal programs: The modern era practice began with some of the federal programs that are sponsored by federal agencies including, but not limited to, HUD, EDA, and EPA, that encouraged part of their statelevel grant funds to be issued as loans, so they could create a revolving incentive fund that replenished itself

State programs: Some state-financed economic development programs follow the federal programs, and are known by various names such as Sunny Day Funds, etc. The theory is that the re gional government recovers its principal with interest from the tenant corporation. The remaining cost of capital is recovered through additional tax revenues as the new project generates


significant direct, indirect and induced economic activity.

Grants vs.forgivable loans: In addition , more recently, regional governments have been converting some of their entitlement cash grant programs into "fo rgivable loans ." Because busi nesses do not like clawbacks on grants, governments have adapted by changing the form of the transaction to a loan that is forgiven ifthe business reaches its employment targets, from a grant that must be repaid if the business fails to meet the employment targets.

Effect 011 corporate debt structure: The Securities and Exchange Commission, other federal regulatory bodies, and banks highly regulate the corporate debt of pub-1 ic companies. Most large corporations can only accept loans through the Treasurer's Office, and those offerings generall y reside in the hundreds of millions to billions of dollars. These proposed small economic development loans have to be recorded , because they are formal corporate debt, unless the corporation's Legal and Treasury offices are willing to excuse them via internal memorandum as essentially grant/clawbacks or non -material transactions.

Most large, publicl y traded corporations are not set up to be cost-effective in managing a large number of incentives loans in the $5 million to$ I 0 million range.

Also, if interest rates are extremely low, this drives down the cost of corporate debt.

Many corporations still rate their in ternal discount rate for purchasing longterm plant and equipment at their debt rate offinance versus a weighted average rate, and publicly financed debt is not as attractive due to generally limited returns on invested corporate cash reserves, unless the business is cash poor or debt strapped.

Publicly financed debt is more attractive to the more flambo yant start-up corporations that are operating solely on equity and venture capital at 20%.


In many cases too, low- to no-interest loans from the economic development departments of regional governments can work for three-party transactions. For instance, assume that a major corporation is operating under a discount lease for a new training facility utilizing the regional economic development organization as its landlord. The company has managed to construct a grant portfolio that covers half the cost of the training facility, but there is still a need for financing. If the public sector landlord lacks bonding au thority or simply lacks real assets and a borrowing history, the Sunny Day Program may resolve the issue.

Assuming that the new facility is financed with 50% grant money, and 50% from a Sunny Day loan to the public landlord with 1 % interest for 20 years, the structure might work. The lease payment on the facility would be equal to 50% of the acquisition cost of the training center, with almost no cost of capital. That is an effective package to lower training costs, and en courage significant usage by third-party customers. Furthermore, the structure qualifies as an operating lease under current accounting treatment and will not contribute to invested capital on the balance sheet. Caution: FASB is currently reviewing this treatment under the Statement 13 ruling.

Economic Development Incentives via Legal Construction Latent incentives that are obtained through legal construction can be powerful tools to reduce operating costs, especially in regions where no entitlement-level tax abatement programs exist. Further, legal construction provides for a perpetual exemption from all taxation (in a field ), whereas entitlement-level abatement programs tend to only reduce the tax , and only for a specified period. Legal con struction incentives can be as various as the parties on an economic development team wish them to be, within the applicable statutes. Weve listed a few of the common forms below.

Capital leaseback. The corporation builds a new facility, and then sells it to a public economic development agency for $10.00. The economic development agency is exempt from sales/ use and property taxes. The corporation leases the asset back for$ I a year for 20 years, with the right to repurchase the building for $10

SI TE SELE CTIO N AND NE GOT IATI ON

at any time during the life of the lease. At the conclusion of the lease, the asset reverts to the corporation. For those familiar with accounting practices , this is a deliberate and obvious capital lease.

Under those guidelines, the corporation owns the facility, but for state and local tax purposes in many jurisdictions, the exempt public entity holds legal title to the facility, and thus qualifies for property tax exemptions. Assuming a $50 mil lion asset is purchased, the savings would be about $1 million a year in property tax abatements. Over twenty years, the cost differential would be $20 million.

Public ownership. Under this structure, a public landlord constructs or acquires the asset that is built to the corporation's specifications and leases it to the corporation at its cost of capital, with an equity position derived from grants. The result is improved further. There would be an exemption for sales tax (an other $4 million) as well as the property tax ($20 million) , and the resulting lease is in an operating format , so the corporation does not have to capitalize it, and the corporation has no cash acquisition expenditure.

University ownership. Universities are increasingly becoming economic development/workforce development players, which expands the opportunities for companies to partner with tax-exempt entities. Many prestigious university webpages now provide economic development offices, and a director or dean who leads the function. Earlier, the authors outlined how training grants and embedded workforce development partnerships work. By adding legal construction to the partnership, the bond between the university and the corporation is further strengthened.

(1 ) For example, assume that the partnership project is a training center where the corporation will train autonomous submarine operators for the military and oi I industry.

(2) The corporation has already developed a partnership with the university to improve the quality of the curriculum and its presentation. The key hurdle now is to acquire the submersible simulation equipment to complete the jointly operated submariner's school.

(3) The simulators are expensive but depreciate slowly, and have a hearty but poorly documented resale market with military offices around the world, as well

November /December 2014

as oil companies simulating emergency work and regular training.

( 4) The university and corporation determine the expected residual value of the equipment, the appropriate lease term (i.e., the initial term of the partnership) is 7 years.

(5) The university and the corporation negotiate a conservative discount lease based on a combination of grant funds and low-interest financing provided by the state's commerce department. Because the venture is building new curriculum majors for the university, the state may provide grant funds in the form of endowments. • The corporation's operating lease is

constructed to cover the university's monthly debt commitment on the equipment plus a retention fund to cover any buy-back provisions if the corporation's lease is not renewed after the first 7 years, and to provide coverage for any variance in residual value resale.

• At the conclusion of the initial partnership, the corporation has fully conveyed the training skills necessary for the university to continue the operation. As the corporation renews the partnership, the value of the equipment is fully amortized. If not, the university may proceed with the curriculum with a modified corporate partnership, or seek to sell the assets to a military or commercial customer in coordination with the corporation.

• Private acquisition of the training equipment, a major cost which dulls many a new training venture, is blunted by the lease arrangement, which , in turn , firmly binds the university to the corporation.

Legislative Incentives Legislative incentives technically cover everything from minor adjustments required to improve eligibility or performance on en titlement and discretionary incentives, to those major complex efforts aimed at creating a new business sector in a region.

Minor changes to statutes. A common saying around those in the economic development profession is that "it's never too early to pursue incentives and often too late:·

Many corporate "new business" de velopers want to have the final site preliminarily selected before they go to state


The incentives negotiation process strangely

resembles traditional hwnan courtship rituals.

and local governments to address the busi ness climate. This is poor form , because it provides undo positive bias to heritage sites, and risks violating the "but-for" provision prevalent in so many incentives programs.

Further, it also negates the possibility of eliminating unfavorable cost variances via the pursuit of higher level incentives to correct the business climate for affordability.

Worse, often the difference between a significant economic development package and a poor one might simply be a few minor changes to existing entitlement and discretionary statutes. Participation here depends on a project's ability to qualify to the letter of the statute and con form to the program requirements during execution, without incurring unreasonable risk.

If the corporate site selector reads the provisions of the contracts presented in detail, he or she will find 'gotchas" placed in the statute that prevent participation. These gotchas can result from the following: • document construction by the pub

lic/private committee; • fringe anti-economic development

legislators' attempts to disable legislation; and

• misguided legislators adding requirements that cannot be met through commercial business practices. For example, one of the authors had a

state add a provision to a $5 million tax rebate that indicated that the corporation would represent the state in all claims related to incentives, even those related to the state's errors, omissions and misapplication. • The clause required the corporation

to represent the state in any constitutional challenge to its incentives statutes, or for their employees' mistakes. The reason given by the state for the inclusion of this clause was that the state "was just giving this mone y" to the corporation , so if there were any problems, the corporation should pay the bill.


Another state statute required that none of the net new jobs coming to the state from the corporation's new project could be relocated from any other state.

• This statute required that the company could not relocate any of its existing employees to the new facility. Other minor changes may be required

to improve the definition of net new em ployment, count telecommuters, count contract hire personnel and subcontract personnel, clearly determine the defini tion of retained and new employment and clearly define what is included in investment. The state legislatures generally are not opposed to these changes, once explained, but many legislatures only meet once a year, sometimes only once every two years. Companies require time to introduce and explain legislative changes, get them on a consent agenda , and build a consensus to get them passed.

Introducing new legislative con

cepts for later use. Conceptual legislative change is required to alter state statutes in order to encourage targeted business to grow in the region.

New legislation is sometimes proposed for a particular business model for which there is no single project large enough to pursue a special legislative change but for which there is a great deal of opportunity (assuming the existing statutory impedi ment can be removed).

Usually, the need for legislation is caused by a change in the business paradigm over ti me that renders historical methods of taxation obtuse, and a viable financial model impossible.

Simulation equipment example: A good example would be simulation training. Simulation training is a business that has grown exponentially over the last two decades, as computer power greatly increased and its cost decreased. Rudimentary simulators of the pre-Pixar era were quickly replaced by more realistic and costly devices, especially


by the military, because the new devices were able to offer a realistic experience of actual job performance. • Situations that were impossible to demon

strate in training (e.g., a major aircraft systems failure) or for which actual live training was extremely costly (e.g. , tank combat), were made "trainable" by modern simulators, with startling results.

• Medical and emergency response applications soon became available outside of the military, and the market for simulation applications continues to grow.

• This new paradigm of simulation training rendered obsolete the taxation systems in southern states with a long heritage of military training. States with a heavy emphasis on business property tax forecast a windfall of new taxation as military training equipment transitioned from protection under the federal exemption (military owned) to taxable corporate ownership. This was a function of equipment cost, international expansion and commercialization. Capitalism, however, is a very effective economic system, and the wi ndfal I never emerged because the business base moved.

• No specific training project for any company will ever be large enough to justify special legislation on its own, yet numerous private enterprises would consider locating in property tax-centric states if a simulation equipment exemption engendered a viable business model. But the tax law is based on an archaic paradigm that leads it to void any attempt at a viable business model. This overall business issue fits the par-

adigm for a legislative change, based on concept. These changes are generally pursued by an industry consortium, one of the few times private corporations competing with each other can work together for a common purpose. The answer here would be a special property tax exemption for military, allied military, civilian emergency response and medical simu-

SITE SE LE CTI ON A NO NE GO TI ATION

lation training equipment, from the standard taxation policies of the states.

Strategic special legislative deals.

Strategic specia l legislative economic development agreements are targeted at major business moves that anchor targeted industry investment in a state. To obtain th is status, the corporation has to be offering the state a major job retention or expansion project that preserves or creates a new business segment in the state.

Miscellaneous Federal Incentives Federal incentives may include income tax credits and grants and loans.

Income tax credits. The federal government offers numerous entitlement or competitive income tax incentives to encourage developers to make investments in particular types of projects. Examples of these programs include tax credits awarded for historic preservation of buildings that qualify as certified historic structures, low-income housing credits that encourage developers to build and operate affordable housing by supplementing the lost profits from market-rate housing with federal income tax that can be syndicated if the developer cannot utilize them, New Market Tax Credits that en-


courage investments in qualified businesses that relocated into blighted areas, and energy programs that include renewable energy production credits.

Grants and loans. Examples would include the tax-exempt bond financing discussed elsewhere. As noted above, this type of financing is available for the low-interest financing of public improvements, including roads, utilities, schools, parks, community centers, mass transit and public buildings. This type of financing wou ld require public ownership of the improvements, identi fication of a revenue stream to fund the improvements, and a state or local governmental entity willing to issue debt on behalf of the project. Often , the improvements would need to be funded initially by the business on a reimbursement basis.

Tax and Financial IncentivesWhere To Find Them Businesses should always do their own research to determine exactly what incentives are avai lable for each possible project and each possible site. Despite the concept of creating partnerships and coalitions, there is a natural tension in site-selection negotiations between the state and local government in which the proposed site is located


and the business. The governments want to grant as few incentives as possible to the business, and the business wants as many incentives as possible from the governments.

Accordingly, although initially asking the various state and local representatives for proposals for expansion incentives is always a good way to start, such individuals will not generally tell the business "everything" that they cou ld do for the business in the first conversation , and might not even do so in subsequent negotiations unless there is some visible and heated competition for the site selection.

Statutes, ordinances and secondary

sources. The easiest resources to discover are those that are "published '.' Statutes, ordinances and secondary sources generall y describe programs that the state and local governments advertise, but it is dangerous to rely on just these sources. Many of the best incentives are discretionary or hidden in needlessly technical statutory language, so it is best for the business to have its own employees and consultants do the research first, and then start talking to the folks "in the know:' Obviously, the local state departments of Economic Development or Commerce might be able to present the business 11~th a package of incentives, but their goal is (Continued on page 46)


Site Selection and Negotiation (Continued from page 21) to provide to new business the least amount of incen tives that will attract the new business into their areas.

local offices of the State Depart

ments of Economic Development or

Commerce. These are governmenta l agencies that have been designed and staffed specifica ll y to help encourage economic development within the state. Caut ion, however, should be taken when dealing with them - for instance, state officia ls will not want to get involved with competitions between local governments within their jurisdictions, so it is generally best to start at the local level first.

Chambers of Commerce. The local chambers of commerce are more forth right about what incentives other busi nesses have obtained for moving into their areas. Also, in some instances, the y can become the business's biggest advocates with the local officials.

local officials and politicians. Local officials can also be very useful contacts, not only during the incentives process, but later on when the business has become established in their jurisdictions and is experiencing difficulties. As noted earlier, negotiating the licensing taxes, permits, zoning restrictions and other restrictions are best accomplished before the business has made its decision to relocate.

Caution: Local politicians have a tendency to jump the gun- businesses should be careful about discussing confidential in formation with any elected official. Bureaucrats (or "appointed" officials) tend to keep matters more "close to the vest:'

local consultants. When all else fai ls, or if a business is not large enough to retain staff who do this type of work "inhouse," businesses can always seek the ass istance of local consultants, but the businesses should ensure that they are recommend ed by the other established

11 429 u.s 318 (1977) 12 468 U.S. 263 (19841. 13 486 U.S. 269 (1988) 14 512 U.S. 186 (1994) 15 DaimlerChrysler Corp. v. Cuna, 547 U.S. 332 (2006). 16 Cuna, et. al. v. OaimlerChrysler, Inc., 154 F. Supp.

2d 1196 (ND Ohio, 2001 ). 17 Cuna, et al. v. Da1mlerChrysler, Inc. et al., 386 F.3d

738 (6th Cir. 20041 18 547 US. 332 (20061


businesses in the community and also that their fee agreements are negotiated up front and in precise detail , unless the business wants to end up paying a consultant a significant premium for an incentive requiring only limited work.

Tax and Financial lncentivesHowTo Get Them: The Incentives Negotiation Process (In a Nutshell)

The incentives negotiation process strangely resembles traditional human courtship rituals. The participants include the business (e .g., the coquette looking for a suitable mate); the State Department of Economic Development and other state and local coalitions (the artful suitor looking for a suitable partner); the local politicians (e.g., Billy Carter- type family members) and the Department of Revenue (e.g. , the mother-in -law).

looking for a match (beginning the

site selection process). !fa business wants to maximize incentives, it is best to start early and play the field. The more "legitimate" competition is involved, the bettersometimes having competition is mandatory, but in other instances, the business can use a "but-for" type argument to support its request for incentives. That is, the company will either expand here or not at all , and the incentives make the difference.

lll -ti111ing can be costly: The earlier a business commences the incentives analysis and negotiations , the better. One of the most common mistakes companies seem to make is bringing in the incentives team at the last minute, after the site selection is almost signed in ink. Many discretionary incentives may be left off the table if the governments know what the business intends to do before the incentives have been negotiated.

Negotiating certain types of in centives can take longer than others: As noted earlier, some incentives, primarily legislative or legal construction incentives, may take longer than others to negotiate (e.g., Tlf di st ricts or complicated tax abatements that are implemented through sale/leaseback or bond -type arrangements).

Playing the field (if they think the

business has made its choice, they'll

take advantage of that and give you


little or nothing). "But for" analysis for discretionary ince11tives: As previously noted, in order to qualify for discretionary incentives, the business must prove that, but for the incentives, the business would relocate elsewhere.

Constitutional prohibitions against spending public funds for private purposes: Most states' constitutions or statutes prevent state and local agencies from spending public tax dollars for private businesses.

Cost/benefit analysis: As noted earlier, some states require certain levels of spending or certain levels of new or retained employment at given wage-levels in order to qualify for discretionary incentives. lt is important for the business to not only obtain the calculations applied by the state and local governments, but also to prepare its own cost/benefit analysis to supplement and support its case for the incentives.

Going steady (non-binding letters of

intent). The authors cannot stress enough the importance of not committing to the expansion, and in particular, not starting the expansion, until all of the incentives agreements are legally in place. In one instance, a large industrial manufacturer was seeking to expand one of three existing plants. The business reached a "handshake" deal with the state-local government's coalition for a very attractive incentives package.

Before the documents memoriali zing the incentives had been finally negotiated, however, the business started the expansion project. When , the documents were finally presented to the business, they reflected one-tenth of the incentives that the business had originally been promised. The state/local coalition justified reneging on their handshake deal because the company proved to them that the project did not pass the "but-for" test, and that the company was going to relocate there anyway.

Getting engaged and the prenuptial

agreement (binding incentives agree

ment-in which the business is promised

the Moon because the governments and

the company are now officially in love).

The caution at this stage is to actually read and understand the incentives agreements that the business is signing. Can the business meet the required levels of capital spending and hiring within the time frame required by the agreement< What are the penalties ifthe business fai ls to meet them< Has the company designated an in -house executive to supervise and monitor the


compliance required under these agreements, and wi ll this person be able to ensure that the state and local governments also meet their end of the bargain if circumstances change'

The wedding and reception (where

the bride first meets the mother-in

law-the Director of Revenue). Is the same agency that awarded the incentives package the agency that is going to enforce the business's agreements under the legal contracts defining the incentives package' In one instance, the award of jobs-related tax credits came so close to the statutory deadline (in the afternoon of New Year's Eve, the last possible award date) that the business did not have time sufficient to fi le an amended return to claim the "refundable" tax credits. Litigation is currently pending on this particular example.

How to Keep Them This section could also be titled: Is the honeymoon over before it began or will the business be living happily ever after with its governmental partners by reaping the rewards of the new expansion project?

The importance of having a desig

nated executive in charge of monitor

ing compliance. Again, the authors stress that it is vital for the business to ensure that a speci fie program manager or other executive is assigned the task of knowing and monitoring the incentives agreements to ensure that the business actually does what it has promised to do and that the governments have honored their commitments to provide the incentives that they have promised. Trying to renegotiate incentives deals after the fact is impossible.

Recapture, clawbacks and renego

tiations (what happens when the busi

ness did not keep the promises that it

made to the governments). These ugly recapture or clawback incentives provisions require businesses to pay back the incentives, sometimes with interest and penalties added, if the business does not fulfill the commitments made in the legal incentives documents. This can be particularly onerous ifthe economy is in a slump and the business is having to downsize or otherwise retract its operations in order to stay profitable.

Potential post-mortem constitu

tional challenges to the different types

of incentives. As mentioned earlier, even if the incentives have been properly negotiated and documented, there is always a risk that public interest groups can bring constitutional challenges against the state/local governments or the businesses after the incentives awards have been made. In addition to challenging incentives on the basis of private inurement, some incentives have been found to violate the federal Commerce Clause by discriminating against non-residents in favor of residents.

Historical perspective: Many constitutional challenges to incentives awards have occurred over the past several decades. Some of those decisions include the following: • Boston Stock Exchange v. State Tax Co111-

m/1. 11 A New York statute provided a partial exemption from New York's securities transfer tax for non-New York residents. The U.S. Supreme Court held that the law \~olated the federal Commerce Clause because it discriminated against nonresidents who chose to execute securities transactions in other states.

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• Bacchus Imports, Ltd. v. Dias. ' 2 Hawaii's exemptions from its liquor taxes for pineapple wine and a nasty tasting brandy made from an indigenous type of root violated the federal Com merce Clause because they discriminated against liquor imported into Hawaii from other states.

• Ne1v Energy Co. of ind. v. Limbach. 13

This case involved an Ohio tax credit for ethanol produced in Ohio. The credit violated the federa l Commerce Clause because it was only available for Ohioproduced ethanol, or for ethanol produced in states with reciprocal credits. West Lynn Creamery v. Healy. 14 In this case, the Massachusetts legislature imposed a "constitutional" tax on milk production, and then took the total proceeds of the tax and used it to provide a subsidy to Massachusetts farmers. The U.S. Supreme Court held that the two statutes, acting in concert, violated the Commerce Clause because, in effect, only the out-of-state producers ended up paying the tax. The Cuno15 decision: Back when Ohio

still imposed a corporate franchise tax, Ohio and Toledo granted to the DaimlerChrys ler Corpora tion ("DCC") almost $300 million total in franchise tax credits and loca l property tax exemptions over a multi-year period. The incentives included a ten-yea r I 00% local property tax exemption and a state nontransferable, non-refundable investment


tax credit equal to 13.5% of its investments that would be available to offset the then-existing Ohio franchise tax. The purpose of the incentives was to encourage DCC to retain and expand its automobile manufacturing business in Toledo.

The plaintiffs brought the case on the grounds that these incentives violated the Co rn merce Clause. The plaintiffs were Ohio taxpayers who argued that they had standing to bring the suit because the credits and the property tax abatements were an impermissible use of state and local tax dollars.

The fed eral District Court held that neither incentive violated the Commerce Clause. The property tax abatement was purely a local incentive, so the federal Commerce Clause was not involved. The income tax credit was also based on a purely Ohio investment-any businesses who wanted to increase their Ohio in vestments could participate in the program equall y. ' 6

The Sixth Circuit upheld the constitutionality of the property tax abatement, but struck down the non-refundable, nontransferable franchise tax credits under the Commerce Clause analysis. The Court held that the tax credit discriminated against out-of-state activity because in-state taxpayers could use the incentives immediately to offset pre-existing tax liabilities but out-of-state businesses could not. 17


The U.S. Supreme Court held that the plaintiffs did not have standing to bring the suit in the first place and that it was im proper for the Sixth Circuit to even consider the plaintiff's claims. 18

Protecting against constitutional challenges: Businesses should consider the following factors when determining whether to make an investment in incentives programs. • Have in -house or outside counsel mon

itor closely any current or pending incentives litigation.

• Analyze each incentive in order to determine which of the offered programs would most likely pass federal and/or state constitutional muster (e.g., incentives in which the governments or universities own and lease back equipment or facilities might be less susceptible to challenge that direct grants or tax credits).

• Beware of provisions that would make the business responsible for paying for any subsequent litigation, and negotiate "hold harmless clauses" with the relevant government agencies to protect against situations when the project "goes South :'

• Analyze whether any changes to the business's incentives programs will have an adverse financial statement impact (i.e., whether the accounting is proper and whether accounting re serves are necessary for recapture or clawbacks. •


Troan - Journal of Multistate Taxation Article 1 2015

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