More than a decade ago, Hawaii adopted tax incentives for high-technology businesses in hopes of diversifying the state’s economy and creating new, well-paying jobs. The effects of Act 221 have been in doubt ever since. Now a new study that suggests many claims may be spurious should trigger more aggressive and transparent oversight into the program, as well as a re-examination of how such tax credits should be managed.
Suspicions have festered about Act 221’s revenue collections and the use of the credit for unintended purposes. The state Department of Business, Economic Development and Tourism now reports that 82 of 141 companies accepting the tax breaks had no full-time employees in 2008.
Many of those companies may be fraudulent, says Tu Duc Pham, a former state tax research officer. Indeed, the Lingle administration calculated six years ago that as many as 20 percent of the claims for research credits could have been illegal, based on an audit of only a portion of them.
The law allows a company to take tax breaks over a five-year period — 35 percent credit in the year of investment, 25 percent of it the following year, 20 percent the third year and 10 percent for each of the next two years. It is designed to provide full 100 percent return for investments of up to $2 million by high-tech businesses. By foregoing tax revenues, the state has in effect invested potentially $1.2 billion in more than 370 companies partaking of the credits.
While DBEDT’s report raises serious questions, it isn’t completely negative. The other 59 of the 141 companies created 697 jobs, based on unemployment insurance records. And while that includes movie and TV producers, it does not include those hired through staffing companies or subcontractors.
Island Film Group principal Roy Tjioe told legislators in March that his firm was involved in producing a television serial, three television movies and big-screen movies "Princess Kaiulani" and the upcoming "Soul Surfer," resulting in "the hiring of thousands of local tax-paying workers in a dedicated effort to build our local film and television industry." All of those were financed by using the state tax incentives, he said.
James Karins, CEO of Manoa-based Pukoa Scientific, said his company, which develops software for military sensors, used research tax credits to grow to 23 full-time employees since its 2004 start and takes in annual revenue of $2.8 million. However, he suggested that some companies may be taking the tax credit merely as tax shelters.
The Legislature this year approved a bill that would have suspended Act 221 for three years. Lt. Gov. James "Duke" Aiona vetoed the measure, rightly pointing out that changing the tax credit rules retroactively could tarnish Hawaii’s already dismal reputation of being unfriendly to business, downgrade the state’s bond ratings and invite lawsuits.
Nonetheless, too many years have passed and too little has been done since problems with Act 221 were suspected. State administrators and legislators need to adopt tougher accountability rules for future targeted tax credits, which can provide a useful incentive for economic growth.