INSIGHT: Five Keys to Generating 25% of Annual Capital Expenditure Budget Through Credits & Incentives

Ranging from the leading powerhouses at the Big 4 to the greatest minds at corporate chief accounting offices, a consensus of experts have codified a powerful new financial ratio. That ratio examines the proportion of qualified expenditures, usually those in capital expenditure (CapEx) to be specific, which should be funded through tax credits and incentives (C&I). Referred to by these experts as The Golden Ratio, its minimum value has been set at 1:4 to the surprise of the great many organizations out there who consider C&I a financial afterthought. Stated more plainly:

Experts agree that a minimum of 25% of CapEx should be paid for by C&I.

While some may disagree, the Teslas and Amazons of the world are busy reaching that very number.

This article answers the crucial question of how. Not only how to reach the 25% golden ratio, but how an organization can begin the process of driving significant value through their C&I portfolio. How can you go from 0% funded to 10%? From 10% to 15%? Or from 25% to 27%? Here we will outline the five key areas of focus in any organization’s journey to fully realize the critical value in CapEx of which C&I is uniquely capable.

C&I Discovery

Throughout the 1970’s and 80’s, C&I emerged in popularity as a growing reality of globalization

raised new questions for local, state, and federal governments vying for activity created by significant business. Yet many organizations falsely believe that there simply isn’t applicable C&I to their business, industry, or overall CapEx plan.

Take this excerpt from a 2020 South Carolina report on C&I as a means to begin contextualizing the gross value of C&I currently being left on the table by organizations:

“[One South Carolina program] approvals included up to nearly $6.2 billion in potentially reimbursable eligible costs with $223 million actually claimed.”

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At $223 million claimed on a $6.2 billion eligible cost denominator, that constitutes a mere 3.6% conversion on one program in one state in one country. While extrapolation may be an imprecise instrument in correctly divining overall value, clearly the magnitude of missed opportunity in one agency in one state in one country must point to the extraordinary potential of C&I. Suffice to say, any organization can discover applicable and ample C&I. Here’s where to start looking:

Significant C&I are available in all U.S. states as well as globally, especially in the European Union and Asia. Between manufacturing, tourism, film, technology, and energy, C&I is a tangible part of economic development plans in all 50 states and nearly every country. Researching C&I can be arduous, but generally partial lists can be found of state C&I packages by searching state economic sites (take Arkansas, for example). It may seem obvious, but start with a simple Google search and see what you can find. There are also software tools available for research and external advisors who can aid in discovery as well.

Key 1: Recognize that no matter your industry or location, it is probable that significant and applicable C&I opportunities are available. A reasonable portion of those opportunities can be found through rudimentary searches of jurisdictional economic development resources.

Compliance

C&I is an inherently complicated asset class to optimize, leaving businesses vulnerable to dramatic variance in realized vs. booked value. From the larger federal credits of the Work Opportunity Tax Credit and the now permanent Federal Research & Development Credit, to the statutory credits like California’s Enterprise Zone Credit and the Illinois EDGE Credit, one thing that all C&I share are rigorous, ongoing compliance requirements.

Meeting hiring thresholds and filing deadlines may seem like simple tasks, but if an HR team member is furloughed or non-responsive for any other reason, and the company fails to meet one single compliance item, the entire credit can be put into noncompliance. This results in clawback, forfeiture, and a lack of strategic confidence in the FP&A, SP&A and/or capital planning groups.

Achieving compliance is foremost a logistics project and can be accomplished through external advisors or through internal systems. In either event, don’t take compliance lightly. Build in fail-safes, multiple levels of visibility and clear through lines of accountability. Create a secure system of record where all documentation exists. Do not take compliance lightly.

Key 2: As much as possible, centralize compliance. Clearly delineate roles and accountabilities early on in the lifecycle of the credit or incentive and be sure to create multiple streams of visibility. A credit can take five years or longer to mature—a lot can happen to your team over the course of five years.

Reporting

Bill Hewlett, co-founder of Hewlett Packard is credited with saying “You cannot manage what you cannot measure…and what gets measured gets done.” This profound statement holds true for C&I:

Only 7% of companies measure the value of their C&I portfolio. This directly relates back to the staggering amount of C&I left on the table as C&I has historically been underutilized, undervalued, and under-measured by organizations of all sizes.

As with reporting on any asset, reporting on C&I can take a myriad of shapes and forms. While the use case for an organization will invariably involve some specificities, it’s recommended to begin with these KPIs in C&I reporting:

1. Total C&I Size in Dollars and Numbers

2. Monetization Schedule

3. Total Amount Monetized

4. Total Amount Forfeit or Clawed Back

5. Variance Tracking

Businesses should report the above metrics on a total portfolio basis, a project basis, and a jurisdictional or issuing agency basis.

The final recommendation for reporting is also a classic one: report up. C&I may live in the tax department but it absolutely belongs on the CFO’s desk. There’s a paucity of opportunities for the tax department to be considered a revenue generator rather than a cost center—C&I is one of those rare opportunities to be recognized by the C-Suite.

Key 3: Report on C&I at three levels—companywide, project specific, and jurisdictional specific. And very importantly, make sure that the report is seen by the highest level of leadership.

Strategic Confidence

As mentioned earlier, perhaps no single area of concern more reflects the success or failure of a C&I initiative than the strategic confidence of an organization. Is C&I included as a line item on the capital expenditure budget with every bit the same value as cash? Or is C&I kept out entirely and considered a happy surprise in the event of its ultimate monetization?

Better yet - is the tax department made aware of potential capital projects prior to site selection such that potential C&I can be included to ascertain overall project feasibility?

This is the hardest area of the five explored in this article to give tangible advice as it represents the most difficult to universally quantify. That is to say, the reason for lack of strategic confidence at a specific organization may range from a history of clawback or forfeiture to a simple ignorance or even an ill-gotten sense of controversy surrounding C&I. Understanding how to restore or create strategic confidence at any specific organization is unique to the history of that organization and the people leading decision making.

Key 4: The best C&I initiatives begin during the first stages of capital planning so that various sites can be compared from a C&I lens.

The Story

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If you were to ask the average person their perspective on corporate tax credits & incentives, the vast majority of responses would come back to Amazon HQ2 and the notion of “corporate welfare.” For those unfamiliar, the story of Amazon HQ2 included a public propositioning of states by Amazon to put forward competing C&I packages for the tech and retail behemoth’s second headquarters. This process resulted in prominent politicians decrying the packages as “corporate welfare,” leading to most states withdrawing C&I packages. This was most notable in New York, initially selected as the site for HQ2.

Unequivocally, C&I doesn’t represent “corporate welfare.” At its core, welfare requires recipients to maintain a certain level of need while C&I requires recipients to maintain a certain level of quantifiable achievement.

Understandably, many organizations shrink away from announcing their C&I fearing that news outlets will perpetuate this factually incorrect story of “corporate welfare.” Factor in that nearly every tax advisory, whether large or small, recommends discretion to clients regarding the announcement of any C&I package received and you can see an extremely problematic cycle:

1. The popular story is that big companies are making backroom deals to bilk taxpayers

2. Organizations face public backlash

3. Organizations become more reticent to share C&I activity

4. Media perceives additional secretiveness further feeding the initial narrative

The truth is that C&I embodies the very public-private alignment to create large projects, vital technology and environmental improvements vital to a better world. A huge amount of the progress made in solar technology was created by C&I, and the life-saving Covid-19 medication Remdesivir was developed through the Federal R&D Credit and has since been priced well below market value. Even Amazon HQ2 itself, with no cash expended by Virginia, has 1,000 employees living in Virginia still employed with well paid, Covid-19-protected white collar jobs providing the money with velocity any local economy needs to survive.

The story matters as much, if not more than the reality behind it. It’s imperative that any successful organization work aggressively and quantifiably towards driving the positive story of C&I in CapEx.

Key 5: Quantify the positive impact of the capital expense enabled by C&I on society and drive that story across all media.

Conclusion

In summary, C&I should be viewed by companies as accounting for a minimum of 25% of CapEx projects. In pursuing that benchmark, companies should consider the following five keys:

Key 1: Recognize that no matter your industry or location, it is probable that significant and applicable C&I opportunities are available to you. A reasonable portion of those opportunities can be found through rudimentary searches of jurisdictional economic development resources.

Key 2: As much as possible, centralize compliance. Clearly delineate roles and accountabilities early on in the lifecycle of the credit or incentive and be sure to create multiple streams of visibility. A credit can take five years or longer to mature—a lot can happen to your team over the course of five years.

Key 3: Report on C&I at three levels—companywide, project specific and jurisdictional specific. And very importantly, make sure that the report is seen by the highest level of leadership.

Key 4: The best C&I initiatives begin during the first stages of capital planning so that various sites can be compared from a C&I lens.

Key 5: Quantify the positive impact of the capital expense enabled by C&I on society and drive that story across all media.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Author Information

Laurence Sotsky is the CEO of Incentify, an enterprise technology firm dedicated to realizing the financial and societal goals of Tax Credits & Incentives (C&I).