How an Angel Tax Credit Can Increase Startup Capital
As a way to encourage job growth and combat the unemployment rate, a lot of states offer tax incentives for investors who pour capital into new companies and startups. The reason most investors don’t take advantage of this is because they don’t know what these benefits are, or simply don’t realize they qualify for them.
But as a small business owner you can use this to your advantage to get the attention of investors and ultimately gain more much-needed capital for your startup. The tax credit available for angel investors (commonly called the Angel Tax Credit) allows individuals to receive a tax break on a deal they are already planning to make. So it’s a win-win for both the startup and the investor. But how can you leverage this to your advantage? We break down the common misconceptions and details of the Angel Tax Credit.
What is an Angel Tax Credit?
The Angel Tax Credit is made available to accredited investors, or individuals who have a net income well into the six-figure range, or assets that total at least one million dollars. This tax credit allows an investor to reduce their tax bill by up to $0.25 for every $1 of capital they put into eligible startups.
This can add up to a lot of money if they invest in multiple startup ventures, so you want to make sure they invest in yours! The exact rules and details vary by state, so take time to verify the rules with your current state. Additionally, an investor may need to prove their eligibility for the tax credit so it’s important to know the facts.
How the Angel Tax Credit Helps Fund Startups
With so little publicly known about the Angel Tax Credit, here’s how it can benefit you as a small business owner and startup.
The tax credit is transferable
If you live in one state and an investor is from another state but wants to invest in your company, the Angel Tax Credit allows those credits to be transferred. In addition to this, and depending on each state’s laws, the tax credit may be sold to other individuals and investors in the industry. This is a good selling point to mention to out-of-state investors and broadens your pool for potential funds.
It can put money back in their pocket
Depending on the size of the credit, an investor may actually receive a refund from the government for any amount of credit that’s above the tax liability on their tax return. In other words, it can bring their tax burden down to zero as well as put extra money back in their pockets beyond that. It’s like getting a refund for investing in your startup, so you’ll want to mention this fact.
Many factors determine an investor’s eligibility.
Currently there are 27 U.S. states that offer some form of tax credit for accredited investors who contribute to early-stage companies, which means that the rules and regulations vary widely. As a small business owner it’s important to understand these factors as they play a key role in who you work with. A few other details include the size of the investor’s financial portion, and how big or small their stake is in your startup.
There will likely be a holding period.
Like many other tax credits, there’s a holding period that comes with being approved for the Angel Tax Credit. If an investor backs out of the deal, or ends up canceling the contract before the period is over, they may have to pay some or all of the tax credit back. This is added incentive for them to look for startups to invest with but also be fully committed to the entire deal. If the holding period is breached, it’s also likely they won’t be eligible for future tax credits.
Keep good records
If you’ve had investors who participated in the Angel Tax Credit and ended up claiming it on their tax return, use this information for future deals. Make sure your company keeps good financial records so you can easily prove what a great candidate your startup is for interested investors. The state and federal government may end up knocking on an investor’s door to make sure they can prove their eligibility requirements, so it’s your job to help them feel confident in this decision.
The Angel Tax Credit is a nice benefit for any startup to be aware of and use to their advantage. It’s important that you’re aware of all the details and understand the state’s laws and requirements. If you need help, work with an expert who can ensure that both you and potential investors abide by the rules so you can both receive the funds you deserve.