From the Fort Worth Business Press, November 12, 2010
It’s a widely held view that putting people back to work will help our economy get back on track. But where are the new jobs going to come from? Small businesses have traditionally been the primary drivers of job creation in the United States, however recent employment statistics show that business owners are getting by with fewer employees.
That prompts three questions:
- Why aren’t small businesses hiring?
- Why aren’t more small businesses being created?
- And is the environment for starting a business now different than it was a few years ago?
Certainly a lack of desire or innovative ideas isn’t stopping smart people from starting or expanding businesses and then hiring new people. So look east to Washington for the answers to the questions above. Current government policies and reforms have created an atmosphere of uncertainty in the business world. That uncertainty has made it extremely difficult to start a new business, as well as for any business to know that it can support new employees in the months ahead.
Let’s examine the implications of creating a small business in the current economic environment. Tracking the steps to launch a company will illustrate the decisions an entrepreneur must make and the impediments he must overcome. After all, an entrepreneur wants to feel confident that the rewards of being a small business owner will outweigh the risks involved.
An experienced entrepreneur will start by developing a well-researched pro forma to realistically define the new company’s objectives, projected cash flow and anticipated expenses. The pro forma for our sample new venture states that it will require $10-15 million to launch and become viable in the marketplace.
Let’s say that this entrepreneur has had success with other ventures, so he is well off and has $3 million to invest to get started. But he still needs to raise several million more dollars. Most entrepreneurs would seek angel investors to fund a start-up company. But is that viable in today’s environment?
The recently enacted Dodd-Frank financial reform bill changed the requirements to be an “accredited investor” in a privately owned company, which covers the vast majority of small businesses. Previously, the definition of an accredited investor included someone with more than $1 million in net worth at the time of the investment. The legislation removes the value of the primary residence from that equation, significantly cutting down on the number of “friends and family” investors who can buy equity stakes in private companies. That makes it tougher for entrepreneurs and small business owners to find investors.
Is bank financing an option? Banks have traditionally been shy about the risks involved in lending to start-up companies, although they have been sources of lines of credit or working capital for entrepreneurs and business owners with successful track records. However, the credit crunch has been a fact of business life for the past few years. The result is that most banks have higher credit standards in order to meet more stringent FDIC requirements. And banks are minimizing their risk by lending smaller amounts because of the uncertain business environment.
Any wise entrepreneur knows that he needs to carefully consider the tax implications of owning a business. The Bush tax cuts will expire at the end of the year unless Congress decides otherwise. As Congress can be absolutely unpredictable, it’s hard for a small businessperson to do any tax planning. If the tax cuts expire, highly compensated businesspeople will see their ordinary income tax bracket jump to 39.6 percent from the current 35 percent. Any entrepreneur eyeing an exit strategy of eventually selling a company must plan for a capital gains tax of at least 20 percent, up from the present 15 percent rate. Then there are estate tax considerations. While the estate tax has lapsed for 2010, it is set to come back with a vengeance in 2011 at a 55 percent rate with the lower exemption of $1 million (the exemption was $3.5 million in 2009).
The current difficult environment for finding investors, securing bank financing and planning taxes all point to uncertainty. Business people don’t know what to expect from Washington so they don’t know how to plan their operations. The result is a business environment stuck in neutral. Business owners aren’t hiring because they aren’t confident they can support the expanded payroll.
Yet there is more to the story. The cost of healthcare reform, workplace regulations and employee entitlements are other considerations for a small business owner. And Washington has a say in each.
JAMES E. THOMPSON is president of The InSource Group. He can be reached at JT@insourcegroup.com.