A Strategic Imperative for the USA: Funding Entrepreneurs

May 18, 2023
Steve Cinelli

Insights into Investment Strategies and Opportunities

In "A Strategic Imperative for the USA: Funding Entrepreneurs," Steve Cinelli underscores the critical role of entrepreneurs in shaping America's economy. From the nation's inception to its current technological advancements, entrepreneurs have been the backbone of innovation and economic growth.

Historical Impact of Entrepreneurs

Cinelli highlights how the USA was built by entrepreneurs across various eras, from early farmers and machinists to modern technologists. The entrepreneurial spirit, deeply embedded in American culture, has driven the nation's progress through successive industrial revolutions.

Current Economic Contributions

Today, two-thirds of the U.S. GDP is generated by Fortune 500 companies, many of which were founded by entrepreneurs. Remarkably, 45% of these companies were started by immigrants or their children, showcasing the diverse and inclusive nature of American entrepreneurship.

Challenges and the Need for Support

Despite the significant contributions of entrepreneurs, less than 0.05% of early-stage enterprises receive professional venture capital. Cinelli calls for enhanced support through crowdfunding and tax incentives to boost early-stage investments. He advocates for immediate tax deductions for crowdfunding investments to encourage more participation.

Proposed Solutions

Tax Incentives: Implement tax credits for investments in small businesses, similar to historical incentives for oil and gas investments.

Government Participation: Establish a $1 trillion venture fund for emerging businesses and technologies, leveraging shared research between government, academia, and industry.

Investment-Based Debt Forgiveness: Link student debt forgiveness and reparations to entrepreneurial activities, promoting business creation and job growth.

Conclusion

Cinelli argues that fostering entrepreneurship is essential for America's economic future. By providing robust support and investment, the nation can cultivate the next generation of Fortune 500 companies, ensuring long-term economic stability and growth.

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There is an ongoing narrative about on whose backs the USA was built upon, and even continues to be supported. No, this is not a progressively political commentary, rather hopefully an insightful, provocative review within historical context and suggestions for an improved future.

Simply, the USA was built upon the backs of entrepreneurs, from early farmers and machinists to weavers and technologists, and throughout the 1st, 2nd, 3rd and now 4th industrial revolutions. Their ability to see opportunity and capture it, by assembling the necessary resources, such as labor, equipment, methods and means, as well as capital, reflects a unique human instinct and a passion. And while not every entrepreneur is successful, this passion instills energy which endogenously and exogenously affects many. And of note, reverting to the contemporary reference on whose back was the country built, even the slaves during the 18th and 19th centuries demonstrated an entrepreneurial culture. Many made clothes, jewelry and bedding to support themselves beyond any compensation provided by their owners. The spirit of entrepreneurialism is embedded deeply within the American culture.

Consider this. Of the current Fortune 500 companies, only 52 were on the list fifty years ago. Two thirds of the nation’s current GDP comes from these companies. And these companies were largely started by entrepreneurs that hit it big, and remarkably, 45% of the companies were started either by immigrants or by children of immigrants. From an economic contribution standpoint, they employ 29 million people and while certain politicos believe such companies don’t pay appropriate levels of taxes, the second largest silo of annual federal revenues is payroll taxes, well beyond corporate income taxes and paid in part between the employer and the employee. Without jobs and the contribution of both into the retirement system, the USA and its safety net are toast. Clearly the powers on the Hill fail in deductive reasoning, but more clearly, inductive reasoning, that is, using a bottom-up approach.

In the 1950s, a political economist, Joseph Schumpeter, introduced the concept of “creative destruction”, to characterize the “process of industrial mutation that continuously revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one”. The USA is the epitome of such, with new companies and models replacing the old. This is a sign of dynamism, innovation, and a hyper competitive economy. And it underscores the importance of entrepreneurial activity to write those next chapters. One can only speculate fifty years from now what companies may hail on the Fortune 500, as we quip, if there’s a history there’s no mystery.

And further, looking at the entrepreneurs, it is worth noting that 70% of the Forbes 400 are self-made and another 15% are largely self-made starting out with a minor nest egg. Only 15% inherited their wealth. And what did these individuals do to generate their respective wealth? They started companies (including many of the Fortune 500), hired a few employees, then more, and even more. Recall Howard Schultz, founder, and CEO of Starbucks. He came out of the projects, as he alluded in recent congressional testimony, while Senator Bernie Sanders was berating him for being a billionaire. He like other entrepreneurs created commerce online and offline. He like others not only paid their income taxes, but their commercial engines paid the payroll taxes, enabled sales taxes, incurred property taxes and more. Schultz’s company employs over 400,000 and from a standing start. The company paid over $1 billion in income taxes in the last 12 months and nearly $500 million in payroll taxes. The argument that the wealthy do not pay their share, directly or indirectly, is a feckless, unlettered, and bogus claim. Don’t conflate the congressional class with intellectual integrity.

And then there’s Jeff Bezos and Amazon. His company is highly vilified for not paying its fair share, yet still employs 1.5 million, and does pay nearly a billion in income taxes, and its payroll tax contribution amounts to nearly a billion annually. Add to that another billion in state and local taxes. Bezos alone pays nearly $1.5 billion in federal taxes annually (2021). Amazon states it adheres to a tax code written by Congress “that incentivizes the type of job creation, capital investment, development of technology, and employee ownership because these are critical drivers of a prosperous economy”.

While many focus on personal and corporate income taxes, payroll taxes amount to 32% of total annual federal receipts, nearly $800 billion, which are used for Social Security Insurance and Medicare programs, thus the more jobs created, the more federal revenues are generated to address safety nets and more. The politicos are concerned that Social Security will run out of funds by 2035, and that the wealthy need to step up. Why not establish programs to create more innovative and funded companies that build employment bases that contribute to the evaporating safety net?

There’s a convergence of happenings that we as a nation must confront, for our competitiveness, for our positioning as a world power, and even further for our own longevity. We must blend the resources of government and industry with the passion of the entrepreneur, opting for supporting the best and the brightest, creating next generation models, products and companies. We need to enable entrepreneurs with much needed capital to allow visions to become reality. As less than .05% of early-stage enterprises receive “professional” venture capital, we need to access other pools of funds, and “crowdfunding” is an operable tool and, in this author’s view, a strategic imperative. An entrepreneurial-led industrial policy may breed the next generation of Fortune’s participants.

The failure rates on early-stage companies are extraordinarily high, and investors in start-ups do write off many losses, but maybe with a new approach, investors, both accredited and non-accredited might participate in these small offerings on a broader and accelerated basis. The JOBS Act of 2012 established protocols for allowing for small capital raises by companies, by selling unregistered securities to non-accredited investors, but can we improve upon its mission?

Crowdfunding boasts examples of the Golden Gate Bridge and the Statue of Liberty platform as representative efforts. Even the US government enabled small investors to participate in large commercial real estate projects through its creation of real estate investment trusts (REITs).

Like REITs, there are evolutionary ways to improve the flows of funds into early-stage next-gen companies. Let’s place a series of tax incentives on qualified investments and companies. Some may be familiar with the Internal Revenue Code Section 1202, allowing investors to avoid capital gains taxes in an investment made into a qualified small business, assuming the investment is held for five years. Well, let’s not just look at the exit, but also the “entrance” of the investment.

Let’s establish a tax credit or immediate deduction for a crowdfunding investment made in the year of the investment. Someone makes a $5000 investment in XYZ company in 2023, allow that person to write off the $5000 that year. In ways, it becomes like the oil and gas investments of yesteryear, which allowed for accelerated depletion allowance to be used to offset current year taxable income. The return to the investor was in part, if not primarily driven, by the tax shield while still allowing for upside. In Japan, one program involved the accelerated depreciation for green building. Specifically, a high-net-worth Japanese investor could invest in a wood-constructed building, versus one made from steel, and was allowed to depreciate the value over a four-year period rather than the typical 25 years. This was sponsored by the Japanese government as part of its environmental industrial policy to incentivize a certain investment behavior. Even if the end property investment did not work out well, the tax shield alone could represent a 15% to 20% investment return on an after-tax basis.

Limits would be placed on the amount of the write-off. Think about Section 179 of the IRS code, which allows for the deductibility of capital equipment up to $1.1 million in the year of expenditure, rather than depreciating such equipment over five to seven years. This provision altered (for the good) the behavior of companies to invest in themselves, for expansion, for repositioning, for efficiency. Undoubtedly, the govvies may see these tax treatments as benefits to the rich, but effectively, the beneficiary companies would create more jobs, creating salaries, paying incrementally more payroll and other taxes.

One must look at the sources of government funds, and I contend that the collection of taxes by creating new jobs, growing a small business, with payroll, sales and local taxes, coupled with corporate and personal income taxes far exceeds the one-time payment of an individual’s personal income tax. Referencing a money supply term, consider this a multiplier effect. Ultimately, tax collections would increase, and the wealth created locally could temper the wealth gap.

And include the Federal Government as participant in the direct equity financing for the purposes of enjoying in the capital appreciation. While the Small Business Administration has a series of lending programs, as well as its SBIC effort, let’s enhance the govvies’ role to strategically invest with a $1 trillion venture fund for emerging businesses and technology, in part using shared research between government, academia and industry. Imagine the returns if the Defense Department kept a slice of its originally funded projects including MRI, GPS, barcodes, digital voice assistants (SIRI), microchips, smartphones, even the internet. Such fund would be overseen by some of the best and brightest investors and futurists. This would be a core part of a new American Industrial Policy, which uniquely, the US is one of few countries which lack such.

And in response to initiatives like student debt forgiveness and reparations, both transfer programs picked up by the taxpayer, make these efforts investment based. To wit, if someone seeks the forgiveness of his/her student debt, they can only do it if they create a business and employ a certain amount of people, receiving a credit against their debt balance for the payroll taxes they pay or just the number of hires they have made. Do the same for those seeking reparations. Provide them funding to start a business and employ a staff rather than just receive a payment, which may be used for discretionary consumption, much like the PPP programs during the pandemic. Entrepreneurs do not always succeed, but if they do, they can create great value for themselves and others.

Applying the same “unguaranteed” approach to such payments adds to the socio-economic fabric. We need to change from a spending culture, with no expectation of return, to one of investing in future jobs and wealth creators.

It is time to promote a new generation of motivating capital into small business, with a goal of no less than $100 billion per year into qualified investments. Formal venture capital investments in 2021 amounted to $345 billion. Can we raise the bar to stimulate early-stage investments, even if limiting (temporarily) tax revenues due to the proposed investment deductibility for tax purposes? Can we change taxpayer behavior to dedicated funds to entrepreneurs rather than Keynesian (govvie) practice? This is about creating the future, the seeding of the next generation of the Fortune 500. Who best write the future chapters than those having the vision in themselves and by extension into the greater American experiment?

This is not a wish. This is imperative. In the end, tax collections improve for government with more employment and the opportunity for more to become capital earners not just wage earners.

Through the efforts of many, the JOBS Act was enacted. But it is still scratching the surface. With enhanced provisions, inducing not only entrepreneurs but more investors to participate, we address what is mandatory for our economic extension. Let’s come together and envision what the country and the economy should look like in ten years and design it, develop it, and execute upon it. And invest in it.

As reference, this blog is part of a continued contribution on behalf of the Financial Policy Council (FPC), whose mission includes ensuring that entrepreneurs have the necessary support to pursue their passions, contributing to economic growth and wealth creation. In time, additional perspectives will be rendered, from examining contemporary crises to providing prescient analyses of socioeconomic conditions, and policy suggestions for a more enlightened economic order.

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