N.C. legislature draws on institute's expertise to restructure economic incentives

Tax credits used by North Carolina communities to promote business growth have had little or no effect in creating jobs or influencing company expansion or location decisions, according to a study by the Kenan Institute's Carolina Center for Competitive Economies (C3E).

Conversely, discretionary incentives that target firms within the state's existing industry clusters and are tailored to a company's specific priorities are more likely to influence a company's location or expansion decision, the study showed. C3E conducted the study for the N.C. General Assembly's Select Committee on Economic Development Incentives.

Based on those results, C3E researchers in January recommended that North Carolina restructure its financial incentives program to eliminate tax credits, put more money into strategic inducements that are working, and use the savings to reduce the state's corporate tax rate, one of the highest in the southeast, to a competitively neutral 6.5 percent.

A bill pending in the North Carolina Senate aims to do just that. N.C. Sen. David Hoyle, primary sponsor of Senate Bill 574, says, "From this report, it is clear that we are not getting a lot of bang for our buck with the current incentives that are in place. We need to look at every possible way to keep North Carolina globally competitive, and we need to change what doesn't work so we can more effectively bring jobs to the citizens of North Carolina."

Research reveals facts about incentives use

A growing awareness of the need to examine the state's economic development incentive programs led legislators in 2007 to contract with C3E to conduct an 18-month research program to address key questions related to incentives.

C3E helps regions and states address critical challenges of competitiveness and economic development and make strategic decisions for lasting investments.

"North Carolina's use of incentives constituted a portfolio based on investment strategies from the 1990s," says C3E Director E. Brent Lane. "Our role was to help legislators re-tune the state's incentives strategy to maximize returns in the current economy."

The center examined North Carolina's first decade (1996-2006) of using financial incentives for economic development. The results showed that actual use of incentives varied from the public perception:

  • The cost of incentives, though high, was typically overstated in publicized estimates.
  • Tax credits comprised the majority of incentives, with high-profile discretionary incentives being atypical.
  • Most incentives were awarded for investments in machinery and equipment, not job creation.
  • Few incentives resulted in benefits for distressed areas.

Tax credits represented 98 percent of North Carolina's incentive portfolio allocation, with discretionary incentives comprising 2 percent. While more than $2 billion in incentives was awarded to companies during the study period, an estimated 35 percent of generated tax credits were not used, making the true cost approximately $632 million.

Company surveys showed that such factors as access to skilled labor, highway access, tax rates, and regulatory climate had more impact on business location decisions than incentives.

Limitations on incentives lessen impact

The findings show that statutory tax credit programs have a limited effect on the state's economy. The significant size of the state's economy, which is ninth largest in the country, makes it challenging for an incentive program to greatly stimulate statewide economic growth. To generate even a 1 percent gain in employment would require the creation of 90,000 new jobs. Analysts acknowledge that incented job creation in growing metropolitan areas must generate sufficiently large wages and investment levels to offset the public service costs incurred by the influx of new residents. Thus, a greater economic return results when incentives produce more jobs for existing residents, particularly in distressed areas, because they do not require additional public services.

The state is also limited to providing direct assistance to only a few thousand of North Carolina's 500,000 companies per year through statutory tax credits and to only a few dozen firms annually through targeted discretionary incentives. However, discretionary programs do provide an opportunity for a transformative effect on the state's most distressed regions by laying the groundwork for future growth and employment in areas struggling with economic adjustment and unemployment.

Center makes recommendations for change

Based on C3E's research findings, Senate Bill 574 aims to reallocate North Carolina's economic incentives portfolio to make it more effective, targeted, and measurable by eliminating ineffective tax credits, reducing the corporate income tax rate, targeting distressed areas and strategic industries, and providing ongoing legislative assessment of the state's economic incentive portfolio.

The center is meeting with local economic developers throughout the state to obtain feedback on the study and will continue to advise the legislature on its findings.

 

Entrepreneurship • Economic Development • Global Competitiveness

Frank Hawkins Kenan Institute of Private Enterprise
Kenan-Flagler Business SchoolThe University of North Carolina at Chapel Hill
Campus Box 3440, The Kenan Center, Chapel Hill, NC 27599-3440 USA
919/962-8201 • kenan_institute@unc.eduwww.kenaninstitute.unc.edu