Small Business States: The Best and Worst in the U.S.

States are different in many ways: climate, law, culture, for example. They also differ in regards to one very important pillar of economic activity: small business environment. Some …

States are different in many ways: climate, law, culture, for example. They also differ in regards to one very important pillar of economic activity: small business environment. Some states try to draw small businesses in with tax breaks and incentives, while other states might regulate more to level the tax burden. Deciding where to locate your small business is a critical decision for the long term prospects for how you want your business to grow. See the following article from The Street for more on this. 

Location, location, location. It’s the mantra real estate agents live by, but can also be vital for small businesses.
States differ wildly on various tax and business-specific programs that can make or break a business, especially a small start-up.

Whether it’s because of the startlingly high numbers of workers out of jobs or just a tactic to bring revenue to suffering state fiscal budgets, many states are increasingly courting small businesses and start-ups. The conventional wisdom says small businesses create two-thirds all jobs. "The climate for a start-up almost anywhere frankly is about as positive as I have ever seen it," says Dr. Charles "Chuck" Morrissey, an associate professor at Pepperdine University’s Graziadio School of Business and Management.

In Rhode Island, for instance, state Rep. Donna Walsh (D-36), who is on the state’s House Committee on Small Business, introduced a bill Jan. 19 to eliminate the corporate tax for many small businesses.

The legislation would eliminate Rhode Island’s minimum corporate tax, now $500 for firms grossing less than $250,000 annually, and set up a graduated tax system based on gross receipts. "Besides equity, its greatest benefit is to provide tax relief for small businesses and start-ups to whom every dollar counts," Walsh said in a statement.

Ideally for small businesses, states could compete to be known to be as welcoming to them as Delaware is to larger firms. Delaware claims to be where more than 50% of all U.S. publicly-traded companies and 60% of Fortune 500 companies are incorporated.

The state is pro-business and shareholder friendly, with modern corporation statutes and well-developed case law that facilitates business planning; a helpful state legislature; and a nonjuried Court of Chancery dealing specifically with corporate issues.

Once firms get beyond $20 million to $25 million in annual revenue, they should consider changing to a corporation, says Mariano Sori, a state taxation expert at True Partners, but small businesses that intend to expand can also take advantage of the environment.

Morrissey, who led Pepperdine B-school’s entrepreneurship program, notes that many student business plan lack "location strategy," which could be detrimental to a start-up’s success.

"In many cases the business models assumed they would be in a location that would be [start-up] friendly," which isn’t always the case, Morrissey says.

"It’s no coincidence that the Apples (AAPL) and Googles (GOOG) just happen to come from very few areas," he says.

TheStreet is highlighting the five best and worst states for small businesses as compiled by the Small Business & Entrepreneur Council as part of its annual Small Business Survival Index, released in December.

The index ranks states by their public policy climates for small business and entrepreneurship, measuring the costs and burdens of state government on small business and looking at policy areas that enable competitiveness and growth.

Low labor costs and a lack of corporate income tax are common denominators in the best states, while the opposite is true for some of the worst states, experts say.

"A lot of states have instituted programs for small businesses, or even large businesses, that want to relocate to the state," Sori says, citing grants, tax credits and temporary property tax reductions. When entrepreneurs can choose where to base a business, things to look at include corporate income tax rate, property tax and the sales tax burden.

The top and bottom five, according to the council:

The fifth-best: Washington
The only state named after a president is home to a number of well-known corporations, including Microsoft (MSFT_), Boeing (BA), Starbucks (SBUX) and Costco (COST), but it has plenty to offer small businesses.

Washingtonians and their businesses enjoy a lack of taxes for personal income, individual income, corporate income and corporate capital gains. It also boasts low electric utility costs, according to the SBE Council’s report.

That being said, Washington has high unemployment taxes, "very high" consumption-based taxes, a large number of health insurance mandates and a high state minimum wage.

Yet Washington has a renewed focus toward business, particularly small businesses. Democratic Gov. Chris Gregoire signed an executive order in October to facilitate small-business recovery in her state.

Among other things, the order directs state departments to "review current practices, tax and rate structures with the goal of reducing state imposed costs for small businesses," as well as find ways to reduce the complexity of the state’s sales tax system.

"I want our business owners spending less time understanding what tax rate they should pay and more time ensuring their business succeeds," Gregoire said in a statement.

Additionally, Gregoire is looking to consolidate small-business licensing, registration and certification guides into one resource and develop strategies to streamline regulatory processes.

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Fourth-best: Wyoming
Home to Yellowstone National Park and Grand Teton National Park, Wyoming also boasts no tax on personal income, individual capital gains, corporate income, corporate capital gains or estates.

It also has the lowest electric utility costs, and very low gas and diesel taxes, according to the SBE Council.

On the other hand, Wyoming has high property, consumption-based and unemployment rates, as well as high workers’ compensation costs.

Wyoming’s new governor, Republican Matt Mead, owns farming and ranch operations in the state and is considered likely to make job and small-business measures a priority while in office.

Third-best: Texas
The Lone Star State has no taxes related to personal income, individual capital gains, corporate income, corporate capital gains or estates. Texas also boasts a low level of state and local government spending and low workers’ compensation costs, the SBE Council says.

The state does have high property and consumption-based taxes, as well as a large number of health insurance mandates and a very high crime rate, the council notes.

According to the website of Republican Gov. Rick Perry, Texas has brought in more jobs than any other state in the past 10 years.

Texas boasts a business-friendly atmosphere, particularly for start-up technology firms, including the Texas Enterprise Fund, which functions as a "deal closing" fund to enable the state to compete "directly with incentives offered" in other states, and the Emerging Technology Fund, which helps early stage tech firms as they get their footing, the website says.

Beginning in October, Perry’s office has hosted 14 "Small Business Forums" across the state offering business owners access to information on work force development, training grants, expanding markets and other business growth opportunities.

Second-best: Nevada
It’s understood that "what happens in Vegas, stays in Vegas," but small-business owners will be happy to know the state also doesn’t want them leaving.

Nevada does not tax personal income, individual corporate gains, corporate income or corporate capital gains. It also has no death taxes and low workers’ compensation costs, according to the council report.

On the downside, Nevada does have high consumption-based taxes, high unemployment taxes and a high state minimum wage.

It is among states hardest-hit by the housing crisis and unemployment — topping 14.5%, according to a Friday press release from the governor’s office.

Bringing in jobs will be a high priority for the state’s new governor, Republican Brian Sandoval.

"We cannot burden struggling businesses with tax increases … We must allow sunsetting taxes to expire at the end of June and provide businesses the environment in which to begin hiring again," he said Friday, referring to a tax package passed in 2009 that included temporary reductions to payroll taxes for small businesses, among other measures. The package is set to expire June 30.

He is expected to release his budget today.

Best: South Dakota
The top small-business-friendly state is South Dakota, which boasts, like some of the other top states, no taxes on personal income, individual capital gains, corporate income, corporate capital gains or estate transfers.

The state, home to historical Mount Rushmore, also has the lowest crime rate, a low level of state and local government spending and a low number of health insurance mandates, the SBE Council reports.

Gov. Dennis Daugaard is saddled with the task of fixing the state’s budget as he takes office this month. He has said he is opposed to raising taxes, instead preferring spending cuts.

Daugaard, a Republican, plans to spur economic growth in the state by fostering innovation and encouraging business in high-tax states to move to South Dakota and businesses already in South Dakota to "increase their production and the number of people they employ," he said in his State of State Address two weeks ago.

He also said he plans to move money into the $10 million Revolving Economic Development Initiative Fund and revamp the state’s "bureaucratic" microloan program for small businesses, among other measures.

"We have the best business climate in the nation, and I intend to keep it that way. Our first advantage is our low tax burden," Daugaard says.

Fifth-worst: Vermont
Vermont is among the list of states with high taxes on personal and corporate income, as well as high taxes on individual and corporate capital gains. The state also has high property taxes, high electric utility costs and high workers’ compensation costs, according to the SBE Council’s report, as well as poor private property protections.

On the flip side, the Green Mountain state has very low crime and no individual or corporate alternative minimum tax, SBE Council says.

That being said, Vermont’s new governor, Democrat Peter Shumlin, a small-business owner himself, pledged to create jobs and relieve taxpayers of the high burden of state taxes.

In his inaugural address this month, Shumlin put forth an aggressive agenda in which fostering entrepreneurship and combating the high cost of health care were priorities.

"Finally, my jobs agenda will expand the ability of emerging enterprises and businesses to access capital and credit when they need it the most," Shumlin stated in his speech. "If our Green Mountain State can be recognized by young entrepreneurs as the innovative leader in financing and venture capital for micro-businesses when banks say ‘no,’ small businesses will thrive."

Shumlin identified one possibility: taking advantage of the federal EB-5 Immigrant Investor program for venture capital.

Fourth-worst: California
California has high personal and corporate income taxes as well as high taxes on individual and corporate capital gains. And the list goes on. According to the SBE Council, California has the highest gas and diesel taxes, an additional tax for S-corporations, an added estate tax, poor private property protections, a large number of health insurance mandates and high workers’ compensation costs.

California is suffering a $28 billion fiscal deficit and has the worst credit rating among the 50 states, according to new Gov. Jerry Brown, a Democrat who also led the state in the 1970s and early ’80s. The Golden State has one of the highest unemployment rates in the country — 12.4% as of November, according to the Department of Labor. Thousands of Californians face foreclosure on their homes as a result of the housing bust.

Brown proposes a $12.5 billion cut to California’s state budget to close a large deficit and is reconsidering various tax credits, including the small-business-focused Enterprise Zone Hiring Credit, as he takes on a multiyear effort to shore up the state budget.

The credit was one of the best jobs credit in the entire country, but cost the state much-needed revenue, True Partner’s Sori says.

Still, the state prides itself on supporting venture capital and the entrepreneurial spirit, especially in technology. It’s that home to Apple of which Morrissey spoke, as well as to countless other high-tech firms packed into its Silicon Valley.

Third-worst: New York
Like California and Vermont, New York has high personal and corporate income tax rates and taxes on individual and corporate capital gains. It also has high property taxes, high consumption-based taxes, high gas and diesel taxes, an added estate tax and poor private property protections, among other things, according to the SBE Council.

"New York is a real killer because the state imposes a 7.1% [corporate tax rate] and New York City has their own tax rate of 8.85%," Sori says. "If you’re doing business in the city of New York, it’s almost 16%."

Among Democratic Gov. Andrew Cuomo’s agenda as he relocates to Albany is to transform New York’s economy.

"Business built New York, and we are declaring that New York is once again open for business," Cuomo said in his State of the State Address.

Priorities include "holding the line on taxes and working to lower taxes in the future," specifically property taxes. Cuomo is looking to foster job creation, in part by enhancing the state’s Excelsior Tax Credit Program, he says.

Cuomo also wants to expand support for minority- and women-owned small businesses, including "directing state agencies to double the current [Minority and Women-Owned Business Enterprises] participation goal from 10% to 20%; ease bonding restrictions for these business owners and expand the Owner-Controlled Insurance Program model to improve opportunities for small businesses," according to his address.

Second-worst: New Jersey
New Jersey has a history of being unfriendly to business.

Like others on the list, New Jersey has high personal income and corporate income taxes as well as individual and corporate capital gains. It also has the second-highest property taxes in the nation, behind New Hampshire, according to the SBE Council’s report.

On the other hand, the Garden State has fairly low consumption-based taxes, a low crime rate and low gas and diesel taxes, the report notes.

Gov. Chris Christie seems dedicated to keeping businesses in New Jersey, but his plans are unclear.

The Republican governor "quietly dismantled" the state’s program for minority- and women-owned small businesses last year, according to media reports, but signed into law Senate Bill No. 2370, which calls for expanding New Jersey’s Business Retention and Relocation Assistance Grant program.

The program has helped businesses preserve jobs, expand operations and reinvest through the award of corporation business tax credits. Through the program, corporations will get a maximum tax credit of $2,250 per year for six years, per job retained in the state, versus a maximum one-time tax credit incentive of $1,500 per job retained.

In an address this month, Christie said he plans to put forth proposals to reform the state tax system.

"If New Jersey is to be a home for growth, we need to reform the taxes we place on business and individuals and begin to roll them back," Christie said.

Worst: District of Columbia
Topping the list of worst states for small businesses is the District of Columbia. Our nation’s capital has the second-highest corporate tax rate income, behind Pennsylvania, and high personal-income, individual capital-gains rates and corporate capital-gains taxes.

The Washington, D.C., area also has high property taxes, an added tax for S-corporations, high electric utility costs, an imposed estate tax and the highest crime rate among the 50 states, according to the SBE Council.

Democratic Mayor Vincent Gray says he is looking to support small businesses in the area. One way is by increasing the opportunities for small businesses in the area to compete for government contracts.

This article has been republished from The Street. You can also view this article at The Street, a site covering financial news, commentary, analysis, ratings, business and investment content.


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