To stay innovative, we have to reward research

Contributing WriterApril 2, 2014 

Because legislators did not renew research and development tax incentives this year, Washington will soon become one just six states with no R&D incentive. That’s odd positioning for a state Bloomberg ranks as the most innovative in the nation.

The other states without the R&D incentive? Kentucky, Nevada, Oklahoma, South Dakota and Wyoming. None of them ranks above No. 39 on the Bloomberg list.

Legislators opposed to the extension say they doubt that the incentives matter much to technology firms. They argue that the money doesn’t drive investment decisions. I guess we’ll see come next January, when the incentives expire.

Forget that. We don’t need to wait. We can learn from Texas, another state with a robust tech sector (Bloomberg ranked it No. 12). The Lone Star State offered R&D tax incentives from 2001 to 2007, when the credit program was rescinded.

Research conducted last year for Texans for Innovation by Austin-based TXP Inc., concluded that loss of the credit cost Texas “at least $1.3 billion in R&D activity,” with greater losses when ripple effects from the activity are calculated. TXP analysts write, “there can be little doubt that (the absence of R&D credits) puts Texas at a significant competitive disadvantage versus other states across the nation.”

Texas lawmakers acted last year to rejoin the mainstream by adopting new R&D tax incentives. That leaves Washington as the sole outlier among the top tech states.

The two programs allowed to sunset this year were initially adopted in 1994 and renewed for 10 years in 2004. One was a business and occupation credit for R&D in technology fields, including biotech and computing. The other was a sales tax deferral for the construction of R&D facilities and associated machinery and equipment. If the project remains in qualifying use for eight years after construction, deferred liability is waived.

The credits make a difference. Between 1995 and 2009, more than 2,000 organizations benefitted from the B&O credit, which is capped at $2 million a year for a single firm (only three have reached the maximum). And 383 taxpayers used the sales tax deferral, mostly larger firms capable of undertaking significant construction projects. These numbers include 212 businesses that participated in both.

In calculating the cost of an incentive program government analysts typically look at foregone tax revenue, a static analysis that assumes businesses would have made the investment without the incentive. It’s a flawed approach that fails to appreciate the increased business activity spurred by the tax policy.

Even at that, the R&D incentives turn out to be relatively modest. The value of the B&O credits averaged about $24 million annually from 1995 through 2012. The sales tax deferral amounted to about $28 million a year.

Some reluctance to extend the incentives can be attributed to a report done for the legislative agency charged with evaluating them. The Upjohn Institute reviewed the B&O credit and estimated that in 2009 only 484 jobs in the state resulted from the credit.

It would have been useful for the group to consider the sales tax credit. More important, though, the report failed to account fully for the economic benefits stemming from R&D.

A 2007 study by the Federal Reserve Bank of San Francisco found that a 10 percent decrease in R&D costs increases a state’s R&D activity by 25 percent. While economists and purists (not the same thing) may deplore the trend, it’s clear that incentives influence a firm’s decision on where to locate R&D.

Robert Atkinson, economist and president of the Information Technology and Innovation Foundation, critiqued an international study recently, pointing out that “employment is not the only, or even the dominant reason for R&D tax incentives. Innovation, productivity and high wages are also important.”

Washington has benefitted from strong tech-sector growth. Between 1990 and 2011, the cluster accounted for 63 percent of job growth and 55 percent of compensation growth. The TechAmerica Foundation reports that 8.2 percent of the private sector workforce here is employed in tech, the fifth-highest concentration nationally.

But things can change. To secure its tech sector, even Texas lost its swagger. We can’t afford to be smug. And we can’t afford to lose the R&D incentives.

Bainbridge Island resident Richard S. Davis is president of the Washington Research Council. Email him at rsdavis@simeonpartners.com.

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