The total potential cost of Hawai'i's technology tax credit program rose to $1.29 billion through last year, according to a report released by the state tax department last week.
Tax and technology-industry officials said they don't expect the actual cost of the tax credits for investing in local movies, music productions and high-technology companies to reach that level. However, the actual costs won't be known for years because the credits can be claimed over five years and can be carried forward indefinitely.
Through 2008, the credits cost the state an estimated $661 million in tax revenues, according to tax department data.
Starting this year, the program will be substantially scaled back as part of state budget-cutting efforts.
Last year, before those cuts took effect, the state issued $255 million in new income tax credits under the program, known as Act 221, which is equal to the amount invested in local qualifying businesses. Those new figures were released in a report that also made public the identity of 48 more companies that have benefited from the tax credit.
So far, the names of 141 out of 364 companies believed to be involved in the program have been disclosed. Despite recent reforms meant to improve transparency, it's likely that fewer than half the names of companies that have benefited from the program will be made public.
Efforts to increase transparency over the program include new forms that companies benefiting from the program are asked to file. However, it's estimated that only half filed the forms that include employment, wages and other data, according to the state Department of Taxation.
State tax director Kurt Kawafuchi said officials are taking a variety of steps to get more companies to file the forms. That could include assessing penalties of up to $6,000 per company in certain cases. The lack of more data makes it difficult to asses the benefits of the credits.
"Unfortunately, it's hard," Kawafuchi said. "I don't have any comment (on that) because we don't have the complete picture."
The incentives, which were created in 1999 and significantly expanded in 2001, provide a 100-percent tax credit to Hawai'i residents investing in local technology companies and another 20-percent research tax credit. They were created with the goal of boosting Hawai'i's economy and moving it away from dependency on tourism.
However, the credits also have been criticized as being overly generous, failing to produce offsetting economic benefits, being shrouded in secrecy, and in some cases, creating only temporary movie industry jobs.
What's high-tech?
The list of companies benefiting from the program points to the successes of the tax credits, but also highlights concerns that in some cases the program is benefiting companies that don't fit the traditional high-technology mold.
Many companies on the list — such as medical device maker Hoana Medical, tissue engineering company Tissue Genesis Inc., ocean engineering company Navatek and digital media developer Blue Lava Technologies — fit the mold of innovative companies that can spur the growth of a high-tech sector.
The list also includes a host of TV- and film-production companies, including the producer of ABC's "Lost" series as well as music recording firms.
Other companies benefiting from the program include a former guava farm, a timber grower and an O'ahu exporter of deep-sea water. The list also includes a company that sells swimming lessons on DVD, the producer of comedian Andy Bumatai's TV talk show and a company formed by Hilo mixed martial arts fighter BJ Penn.
First Hawaiian Bank, insurer AIG Hawaii, DTRIC Insurance and Royal State Insurance are other nontraditional high-tech companies benefiting from the program.
In some cases, nonhigh-tech companies qualify for the program by creating what's sometimes referred to as a "drop-down" subsidiary, in which a portion of their information technology operations are placed into subsidiaries that qualify for technology tax credits.
Some question whether such a strategy stretches the intent of the program by shifting employees into a subsidiary that provides similar services or sells services primarily to the parent company. That could allow a parent company to get investment tax credits on what otherwise would be operating expenses.
"I think the fantasy was that we were going to create companies like Microsoft — more technology-related, as opposed to companies creating a new (electronic) filing system," said Lowell Kalapa, director of the Tax Foundation of Hawai'i. "There's certainly nothing wrong with modernizing the age-old tasks you have to do, but does that really create the cutting-edge, high-technology jobs that we think the high-technology industry is supposed to be creating?"
Information released by the state is limited to company names and excludes details such as what each business does, how many people it employs and how much money it raised.
The data show that companies benefiting from the credits reported having 1,375 full-time employees as of late last year. Another 2,781 people were employed as independent contractors. However, 2,111 of those jobs were in the performing arts as opposed to the technology sector.
filings incomplete
Not all companies benefiting from the program are required to file forms disclosing employment and other data, while other firms may no longer be in business, said Jeff Au, managing director for Honolulu venture capital firm PacifiCap Management Inc. That means the benefits of the program are underreported.
"The filings aren't complete," Au said. "That means the benefits are being underestimated. In reality, more jobs would have been created rather than less."
Companies in the performing arts received the most investments last year — nearly $110 million — followed by nonfossil-fuel companies, which raised $47.8 million.
Au said the credits generated much-needed investment capital for local businesses, especially during tough economic times. From that standpoint the credits are a success, he said.
"If you look at the costs, the costs are high, but if you look at the benefits, the benefits are even higher," Au said. "When you take all the benefits and all the costs, do the benefits exceed the costs? I think when you look at the numbers, the benefits clearly exceed the costs."
According to the report, companies benefiting from the credit spent $363 million last year against $194 million in revenues. Overall, these companies reported paying $2.1 million in excise taxes. The report doesn't include information on taxes paid by contractors, payroll taxes and personal income taxes paid by qualifying companies and their employees.
Under changes to the tax credit program implemented this year, investors in eligible technology companies can receive tax credits only equal to the amount invested. Before the change, investors could get a maximum tax credit equal to 200 percent of their investment.
Additionally, the new law limits the amount of credits that can be claimed annually to a maximum of 80 percent of an individual's state income tax liability. The changes also prevent Mainland investors from trading state tax credits with local investors in exchange for greater equity in a company.
Industry advocates complained that the changes would drastically reduce the amount of money local and Mainland investors will pump into Hawai'i technology companies.
The expectation is the changes, along with a slowing economy, will significantly reduce future costs of the tax credits, said tax director Kawafuchi.
"Definitely," he said. The credits "are still very generous, but it's not as generous as in the past," Kawafuchi said.
"I think in these current economic conditions, there's less of an appetite because people have less profits and less taxable income."
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