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ECONOMIC DEVELOPMENT QUARTERLY / November 2001

programs that are publicly funded and managed or those that are publicly funded and privately managed. An appreciation of early CAPCO programs will enable other states to better assess the attractiveness of CAPCOs as an alternative to enhance the availability of venture capital and to stimulate state economic development. An understanding of existing CAPCO legislation also will assist interested states in fashioning legislation that best achieves their specific venture capital and economic development objectives.

STRUCTURE OF CAPCOS

The first CAPCO legislation was passed in Louisiana (1983), with more recent adoptions in Missouri (1997), New York (1997), Wisconsin (1997), and Florida (1998). In addition, CAPCO legislation was proposed, but not passed by July 2000, in eight other states (Arizona, Illinois, Iowa, Kansas, Michigan, Texas, Vermont, and Colorado). Enabling legislation for CAPCOs varies by state; key features of CAPCO legislation (passed and proposed) are summarized in Tables 1 and 2. The typical CAPCO model has the following characteristics with respect to sources of capital, cer- tification process, qualified businesses, returns to state treasury, and reporting requirements:

Source of Capital

Tax credits (100% at a rate of 10% per year for 10 years) are allocated to insurance companies in return for investments (certified capital) in CAPCOs.2 The credits are available for taxes insurance companies pay on premiums collected on policies sold in the state (referred to as premium taxes). An insurance company’s premium tax payment is relatively stable over time; thus, insurance com- panies are willing to make current investments in exchange for tax credits over the next 10 years. Credits are usually transferable or saleable by the insurance companies. Most states place a cap on the total and annual amount of tax credits available and then determine a process for allocating credits among CAPCOs.3

Certification Process

Specific certification requirements established by the state include minimum capitalization (typically $500,000), principals with a minimum of venture capital investing experience (e.g., 2 to 5 years), and establishment of an in-state office. To maintain certification (and retain the tax credits for the insurance company investors), CAPCOs must meet specific investment milestones and invest the equivalent of 100% of certified capital before any liquidating distributions can be made, that is, before any gains from the investments can be distributed to the partners. The CAPCOs are permitted, however, to make qualifying distributions that include management fees (usually a maximum of 2.5% of capital available for investment) and other expenses necessary to the opera- tion of the fund.4

Qualified Businesses

States define qualified businesses to meet their specific economic development objectives. Generally, the business must be small (at least by the SBA definition) and located and operated within the state, and most of the employees must be residents of the state.5 Qualified businesses are usually manufacturers or others engaged in commerce and the export of services. Certain sectors generally are specifically excluded from the list of qualified businesses (e.g., banking, real estate, professional services, insurance, and retail). CAPCO investments must be in qualified businesses to ensure the availability of tax credits for insurance company investors.

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