Clawbacks in Economic Development: Policies and Practices (cont.)

Panelists noted that the clawback option is not exercised consistently across the regions in the United States. According to Samuel Lee, recent research suggests that cities and regions with formal economic development plans were more likely to include performance measures. In addition, municipalities in northern, central and western states appear to integrate performance measures more often than southern states. (“Maybe southern states are more polite,” quipped Sternlicht, while noting that Virginia has required enforceable performance agreements, open to public scrutiny, since 1996. Sternlicht also stated that Virginia has recouped about 99 percent of the funds it sought in cases of underperformance.)

A recent study on incentives and clawbacks, conducted by the Tax Advantage Group in Greenville, South Carolina, looked at the incentive and compliance processes from both the public and corporate sector perspectives. In all, the survey included 76 web-based interviews of senior corporate and economic development professionals. The survey found that:

• 73 percent of the corporate sector determined that clawback language is getting stronger, while only 48 percent of the economic development community thought so.

• 72 percent of the economic development community imposes strict clawback language, but only 49 percent of the corporate sector agrees to it.³

All things equal, corporate sector legal advisors will often ask or even insist on a force majeure or good faith clause, which in essence can provide a safe harbor should market conditions swing beyond forecasts, or unforeseen cost elements threaten an acceptable return on investment. All too often in the past, public sector negotiators have acquiesced to these demands, but the trend is beginning to turn toward transparency and accountability.

Companies are finding that auditors increasingly require disclosure of clawbacks and their potential downside values in the ever-evolving Sarbanes-Oxley accounting environment. When clawbacks are clearly defined, with pro-rata formulas or timelines that specify all-or-nothing paybacks, the risk of non-performance is clear and can be calculated. Both parties can leave the negotiation confident that the basics have been articulated and understood.

It’s just good policy, for both the public and private sectors. Governments must be accountable to taxpayers, who want a fair deal from the companies they subsidize.When mishaps occur – and they will – it is important for all parties to communicate well in advance of contractual deadlines, so that issues may be resolved in an amicable way. No economic development staff wants to have a reputation as “unreasonable” in the site selection market. Companies do not want to be tagged as poor community citizens, especially when a simple Google search can turn up deals gone wrong in a heartbeat.

Accountability as state policy: Illinois

Illinois has adopted the Illinois Corporate Responsibility Act to prevent mishaps and encourage good practices for both public and private interests. Illinois’ governor outlines the state’s policy as follows:

We are guided by three principles when making economic investments – analysis, accountability and transparency. Before any of these investments are completed, and before any commitment is made, they are extensively analyzed to ensure the state is getting a good return.

Along these lines, we also imposed new strict accountability requirements on those companies that receive state investments. If a company doesn’t meet its commitments to create or retain jobs or make private investments, we aggressively pursue that money to make sure state tax dollars are not wasted. In addition, the public will be able to examine these investments through this web site and an annual report to the General Assembly.⁴

In 2003, Illinois began requiring incentive recipients to submit an annual progress report by June 1 of each year, beginning in 2005. Some of its most popular incentive programs have the following recapture provisions:

• High Impact Businesses: Required to repay the full amount of the state tax exemption received.

• Large Business Development Program, Business Development Public Infrastructure Program, Employer Training Investment Program: Required to repay a pro rata amount of the grant reflecting the percentage deficiency of a defined performance measure, depending on the program.

• EDGE tax credits: Suspended until the number of new and retained employees equals or exceeds the requisite number in the development assistance agreement.

In addition to the recapture provisions, Illinois now requires the Department of Commerce and Economic Opportunity to report annually on companies’ progress report data, as well as the outcomes and effectiveness of all of its recapture provisions by program.

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³Tammy Propst, “Understanding the Incentives Process,” National Association of Industrial and Office Properties, 2006.

⁴Governor Rod Blagojevich, Corporate Accountability website: www.corpacctportal.illinois.gov