The Michigan House and Senate have approved legislation to provide Michigan income taxpayers investing in qualified businesses a credit against their Michigan Income Tax, the Venture Investment Credit.
Similar to the Film Credit, which provided an incentive for movie producers to film on location in Michigan, this new bill (which is expected to be signed into law) provides a similar incentive for investments in qualified start-up businesses.
The Venture Investment Credit is intended to generate new investment in Michigan. Whereas the Angel Investment Credit provided tax relief only if the investment was successful, this credit mechanism is viewed as making Michigan more competitive in attracting venture capital with other states that have similar investment credit provisions, says Walter M. McGrail, JD, CPA, a senior manager at Cendrowski Selecky PC.
“This provision, assuming it is signed into law as expected, will reward the risk entrepreneurs take in qualified Michigan businesses,” says McGrail. “The legislation anticipates that the state may certify credits up to $9 million per year. This translates into certifiable investments of up to $36 million per year.”
Smart Business spoke with McGrail about the Venture Investment Credit, how it works and how it compares to other tax credits.
How does the Venture Investment Credit work?
The proposed legislation is effective for investments made during calendar years 2011, 2012 and 2013. Taxpayers will be able to claim a credit against their individual Michigan Income Tax for 25 percent of their investment in qualified start-up businesses. For example, if an investor makes a $100,000 investment in a qualified start-up venture, that person would be permitted a $25,000 credit against their individual Michigan Income Tax.
The credit is subject to maximum limitations. First, no more than $1 million may be certified for qualification in a start-up business in any given calendar year. Therefore, the maximum credit any one person or group of investors may claim relative to a single qualified investment is $250,000.
Investments of as little as $20,000 may qualify for the credit. There are also rules preventing investment in start up companies owned by family members.
The maximum amount of Venture Investment Credit that a taxpayer may claim for any given tax year in the aggregate is also limited to $250,000. For example, a taxpayer may invest $1 million in a single qualified business or $200,000 in each of five qualified businesses.
The taxpayer needs to provide his or her tax return preparer with a copy of the state certification to be attached to the income tax return claiming the credit. The credit claimed must be taken equally over two taxable years beginning with the year of certification.
The credit is a nonrefundable credit, so the credit claimed may only offset the amount of the tax due. If there is no taxpayer liability, the credit may not generate an overpayment, but unused credit may be carried forward for up to five years until it is used up.
What types of investments qualify for the Venture Investment Credit?
To qualify, an investment must be made in a Michigan-headquartered ‘Early Stage Business’ with fewer than 100 employees, that has a value of less than $10 million and that has been in existence for less than five years. Additionally, the business cannot have fully established commercial operations, it must be headquartered and domiciled in Michigan, it must have the majority of its workers working in the state and it cannot be a retail establishment. Businesses in existence for up to 10 years may also qualify if they have been linked to qualified university R&D programs.
Similar to the Film Credit, the Venture Investment Credit requires certification from a Michigan agency, in this case, the Michigan Strategic Fund. Investors must seek certification within 60 days of making the investment in order to qualify for the credit.
How does the Venture Investment Credit compare to other tax credits?
The Angel Investment Credit, passed in February 2009, provided for a reduction in the amount of gain recognized, if any, from a sale of the investment several years after the investment was made. In contrast, the new Venture Investment Credit provides for a percentage of a qualified investment as a credit against Michigan Income Tax. The credit is claimed in the year the investment is made, not the year the investment is harvested.
Additionally, while the Angel Investment Credit provided tax relief only if the investment was successful, the Venture Investment Credit may be utilized even if an investment does not achieve a successful harvest.
Assuming it is signed into law as expected, entrepreneurs taking the risk of investing in qualified Michigan businesses will be rewarded for their efforts, and not necessarily their results. The rationale behind the structure of this latter credit is that it will incentivize entrepreneurs to create businesses in Michigan, a fraction of which will likely help energize the state’s economy.