Senators Tell -- Ahem, Ask -- IRS To Ease Up On Small Biz

A bipartisan quartet of leading Congressmen and Senators has called on the IRS to stop collecting stiff penalties from small firms investing in illegal tax shelters, when those investments generated only "modest" tax benefits. The lawmakers say they hope to write new legislation that would ease the penalty schedule these small firms would face.

The penalties stem from a 2004 law that requires companies and individuals to disclose on their tax return any tax shelters that the IRS has listed as abusive. For individuals, the penalty is $100,000, for corporations, it's $200,000.

But Max Baucus and Charles Grassley (chairman and ranking member, respectively, of the Senate Finance Committee) and Reps. John Lewis and Charles Boustany (chairman and ranking member of the Ways and Means Committee's Oversight Subcommittee) say, in effect, that they only intended to go after large corporations when they crafted that 2004 law. In a letter (pdf) released yesterday, the quartet insists ("would very much appreciate your acquiescence with our request") the IRS give small businesses a pass in cases where the tax benefits are less than the applicable penalties. "We recognize that many of the shelters now being examined by the IRS involve significantly smaller dollar amounts," they write, "and the $100,000/$200,000 penalty levels may be excessive in some circumstances."

The lawmakers say that they were moved to intervene when they learned that "many small business owners who thought they were investing in legitimate benefits plans unknowingly have invested in listed tax shelter transactions" that landed these firms "substantial penalties." The business in question "were not advised by the parties selling them the benefits packages that the plans had been identified by the Internal Revenue Service (IRS) as abusive transactions" and didn't find out until the inevitable audit. Even so, the letter-writers don't appear to exclude those who knowingly violated the law from the relaxed enforcement -- they simply ask the IRS to suspend collection efforts "in cases where the annual tax benefits resulting from the listed transactions are less than $100,000 for individuals and $200,000 for other cases while Congress acts to remedy this situation."

Now this strikes the Agenda -- heresy alert! -- as needlessly generous, particularly now. CQ reports that it's not clear when, or even if, Congress will act, or what a remedy might look like. These are difficult times for cutting taxes, and even sacred small business might not be immune. Why, as we wait for an indefinite future, should we let small firms get away scot-free when they knowingly break the law? Or unknowingly -- aren't we told that ignorance of the law is no excuse?

Perhaps the IRS can find a middle ground: if it has the discretion to waive the penalties for failure to report altogether, then maybe it has the discretion to merely limit the penalties, and make them commensurate to the benefits. Tax attorneys, weigh in!

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This marks the Entrepreneurial Agenda's last post at Inc.com. These two years have been invigorating: we've broken some news in this space, and have had enlightening conversations with policy makers, advocates, and you. My editors here have been great; they've granted me the freedom to learn by doing, and perhaps by making the occasional mistake, and I'm grateful for that. I look forward to working with them in other venues.

On Wednesday, this blog, rechristened as The Agenda, will appear in the virtual pages of the New York Times as part of a new blog called "You're The Boss". The Agenda posts will be collected at boss.blogs.nytimes.com/author/robb-mandelbaum.

I hope to see you there.

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Chamber Girds Itself To Defend The "Free Market"

Having concluded that free enterprise, such as it is, is under siege -- with the government seemingly ready to capitulate to "many union leaders, some environmentalists, and a growing force of anti-business activists" -- the U.S. Chamber of Commerce is gearing up for a multi-million dollar defense.

"Dire economic circumstances have certainly justified some out-of-the-ordinary remedial actions by government," said Tom Donohue, the Chamber's president and CEO, in a statement. "But enough is enough. If we don't stop the rapidly growing influence of government over private sector activity, we will squander America's unmatched capacity to innovate and create a standard of living and free society that are the envy of the world."

At a Chamber Board meeting today, Donohue unveiled the Campaign for Free Enterprise, a battle to be waged over several years and on many fronts. The effort will rally "the Chamber's broad network of business and professional associations, state and local chambers, small business members, and local advocates." It will deploy advertising across media, including an "an aggressive issue advocacy program" tied to the 2010 mid-term elections. It will don its tasseled loafers and pound the marble corridors of power to lobby for "pro-growth" legislation. And if all else fails, the Chamber will go to court.

All this will cost tens of millions of dollar a year, according to the Chamber. Politico puts the total expenditure at up to $100 million.

The Chamber is no stranger to writing big checks to advance its agenda. In 2008, the organization promised an ambitious effort to elect Republicans, and spent $36 million to little visible effect.

Notwithstanding the tenor of the times, the Agenda suspects that capitalism will do just fine in the coming years. Still, Donohue insisted that, "Given the unprecedented challenges facing our economy, the Campaign for Free Enterprise is one of the most important and necessary initiatives in the Chamber's nearly 100-year history."

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When Entrepreneurship Hurts Health Care

McAllen, Texas, and El Paso have a lot in common. Both are poor, both are 80 percent Hispanic, and both metropolitan areas are home to just over 700,000 people. But they are separated by nearly 800 miles of blacktop, and by one other very important measure: McAllen is the second-most expensive city for medicine in the United States, trailing only Miami in costs. Medicare spent $15,000 per McAllen enrollee in 2006 -- $3,000 more than the average personal income there. In El Paso, by contrast, Medicare spends just $7,500, slightly less than the national average.

These statistics come courtesy of Atul Gawande, a doctor and journalist, who explored McAllen's high cost of health care in last week's New Yorker. The explanation is surprisingly arbitrary. The difference appears to have little to do with either the patient populations or the quality of care, which are comparable in each city. Rather, the culprit is an "across-the-board overuse of medicine." A look at Medicare and private insurance data found that, "compared with patients in El Paso and nationwide, patients in McAllen got more of pretty much everything -- more diagnostic testing, more hospital treatment, more surgery, more home care." But more care does not equal better care. In fact, says Gawande, citing a couple studies, "where medicine is concerned, it may actually be worse."

Gawande traces this overuse of medicine to what one hospital administrator called an "entrepreneurial spirit" in McAllen. Doctors there, Gawande writes, are "innovative and aggressive in finding ways to increase revenues from patient care." In the late '90s, some home health care agencies began to reward doctors who steered business their way; now many area practitioners expect a cut. The hospital administrator even says that a handful of doctors have demanded hundreds of thousands of dollars in kickbacks in exchange for admitting patients to his hospital. "About fifteen years ago, it seems, something began to change in McAllen," Gawande concludes. "A few leaders of local institutions took profit growth to be a legitimate ethic in the practice of medicine. Not all the doctors accepted this. But they failed to discourage those who did."

McAllen is hardly alone; it's merely the most extreme example, and the result is "untenably fragmented, quantity-driven" health care delivery system. "As economists have often pointed out, we pay doctors for quantity, not quality. As they point out less often, we also pay them as individuals, rather than as members of a team working together for their patients," writes Gawande. "Both practices have made for serious problems." Gawande doesn't take a position on specifically how to wean us from the current model. But he clearly likes the model supplied by the Mayo Clinic, one of the best health care systems in the country and also one of the cheapest. Decades ago, Mayo cemented a collaborative culture in part by paying doctors a salary, rather than allowing them to charge their own fees.

Interestingly, Gawande also takes no position on the aspect of the health care debate that evokes the most passion: whether the government ought to run an insurance plan that competes with the private sector and keeps insurers honest. (Or whether the government should simply nationalize the health insurance industry.) The argument, he says, misses the point. "The lesson of the high-quality, low-cost communities is that someone has to be accountable for the totality of care," he writes. "Changing who pays the doctor will make no...difference."

It's probably a coincidence, but a few days after Gawande's article came out, President Obama cited Mayo's low costs in his weekly address. If you have the time to read an 8,000-word story, you can find it here, along with an audio interview with the author.

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Health Insurers: No Reform For Small Group Market

We've heard much noise from the health care industry lately that sounds a lot like Kumbaya -- everyone, it seems is on-board with reform. Even insurers support market reforms that will limit their ability to rate potential customers on the basis of their health. Except, that is, when it comes to small business.

The New York Times pointed out the inconsistency in an article published in yesterday's paper. While the insurance industry has agreed to regulation in the individual insurance market, it is apparently divided when it comes to the small group health market. The Times reports that Aetna and Cigna support regulating the small group market, but other big players -- particularly those with Blue Cross franchises -- have refused to take a public position. WellPoint, a large Blue Cross insurer, opposes small group reform. "Those markets generally work today," Bradley M. Fluegel, the company's chief strategy officer, told the Times. "They are well regulated by states."

The Agenda suspects many of its readers would disagree.

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The SBA Lends A Helping Hand To Car Dealers, Again

The Obama Small Business Administration today promised to deploy yet another tool in its economic recovery "toolbox" to help beleaguered car dealers. Beginning in July, the SBA will allow its 7(a) program to back "floor plan" financing. Small-firm car dealers will be able to borrow up to $2 million to finance inventory; banks that make the loans will be able get a 75 percent government guaranty. Previously, 7(a) loans excluded this kind of inventory financing, which until recently was widely available elsewhere.

On top of that, more dealerships will be eligible for the loans, thanks to "alternate size standards" announced at the beginning of May that enlarge the definition of small. Though not specifically targeted at car dealers, Administration officials at the time were quick to point out that the temporary rules would double the number of dealers that could qualify for loans. The new Dealer Floor Plan pilot program is available to any seller of titled vehicles or vessels, including motorcycles, RVs, mobile homes, and boats.

Given the turmoil wracking the auto industry, and dealers in particular -- GM and Chrysler together hope to disenfranchise 15 percent of all new car sellers in America, while the used car business has lost about ten percent of its retailers in the last year -- today's announcement from the SBA makes good political sense. But it's pretty small bore: there are probably no more than about 90,000 such retailers, and many of them aren't small enough to qualify for the loans, even under the more generous size standards.

Meanwhile, a more pressing revolving credit crisis is brewing. Earlier this month, Advanta, which issues credit cards to small businesses, announced that it is closing all of its accounts on May 30th. According to Bloomberg.com, the issuer found at the end of the first quarter that it had to charge off 20 percent of its receivables portfolio -- double the charge-off rate reported at the end of 2008. Advanta is the eleventh-largest credit card issuer in the U.S., and it bills itself as one largest players in the small business market. With nearly one million accounts, it would appear to reach about five percent of all small businesses.

Now those borrowers will have to find other credit cards, if they don't already have them, and if they do, perhaps persuade those issuers to raise their credit limits. A company official told Bloomberg that "more than 90 percent of Advanta's small business customers will have 'adequate' access to alternative credit." But card issuers have been slashing credit lines since at least last fall -- good luck getting a new card or more credit now.

Now that the SBA has fully embraced revolving credit for inventory, is it time for the agency to enter the credit card market?

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SBA Throws Small Biz Another Lifeline: Interest-Free Loans

Just in time for National Small Business Week (Yes Virginia, there is a National Small Business Week, and it has corporate sponsors!) the Obama Administration announced plans to implement another Small Business Administration program created by the February stimulus, this one designed to give firms behind on their loans a little breathing room. Beginning June 15th, the SBA will guarantee bridge loans up to $35,000 "to established, viable, for-profit small businesses." These "America's Recovery Capital" loans will be free of interest and fees, fully guaranteed by the SBA, and will offer deferred repayment.

"Together with other provisions of the Recovery Act, ARC loans will free up capital and put more money in the hands of small business owners when they need it the most," SBA Administrator Karen Gordon Mills said in a press release. "This will help viable small businesses continue to grow and thrive and create new jobs in communities across the country."

According to the agency, the ARC loans can be used to pay principal and interest on any "qualifying" small business debt, "including mortgages, term and revolving lines of credit, capital leases, credit card obligations and notes payable to vendors, suppliers and utilities." (One type of debt that doesn't qualify: an existing SBA-backed loan.*) A loan will be disbursed in installments over six months. Repayment will begin a year after the last installment, and stretch over five years.

Of course, the trick for the SBA is how to determine whether a business struggling to stay current on its debt is "viable." SBA spokesman Mike Stamler wouldn't elaborate on the criteria the SBA will use to make those decisions, but said, "the essential point will be whether the business is struggling with making loan payments, but can reasonably project that it can get back on track with the infusion of ARC loan funds and the benefit of deferred payments." The SBA still hasn't determined where these loans will end up in the creditors' pecking order should a company go bankrupt or otherwise liquidate. In any event, the government's total exposure (and, conversely, its ability to help) will be limited by Congress' appropriation to $255 million. Stamler says the SBA estimates the ARC program will be able to make 10,000 loans with the funding it has. (The agency is counting on average loan size well below the maximum.)

This is the second major initiative announced in recent weeks. On May 1st, the SBA temporarily replaced the size standards that restrict eligibility for 7(a) loans with the more generous limitations of the 504 Community Development Company loan program. The incumbent 7(a) size standards are based on either annual revenue or number employees, and vary widely by industry. Some of those limitations are already quite high; certain industries can have as many as 500 employees or revenue reaching $35.5 million (making them small businesses only in a political sense). As an alternative, through September 2010 businesses will meet eligibility requirements if their net worth is less than $8.5 million or their average after-tax income is under $3 million. The SBA says that these alternate size standards will make an additional 70,000 businesses -- including many car dealers -- eligible for loans.

At that time, the Obama Administration claimed that its measures to free up SBA-backed capital increased weekly 7(a) loan volume by more than 25 percent and brought nearly 450 lenders who had not made SBA loans since last October back to the table.

*An earlier version of this entry reported that bridge loans could be used to repay an SBA-guaranteed loan. However, the stimulus law expressly forbids this.

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Republic Resurrected: A Small Biz Stakes Success On The Stimulus

These days, it doesn't take too much effort to find a business set to prosper in the stimulus economy -- just follow the contrails of Air Force One and Two. Last week, for instance, President Obama headed to Newton, Iowa, to highlight a company making towers for wind turbines in a factory originally built for Maytag. But it was Vice President Biden's visit to Serious Materials in Chicago on Monday that was most satisfying.

Serious Materials is a California company that makes sustainable, green building products. This year, anticipating the new Administration's emphasis on energy efficiency -- if not the $8 billion worth of weatherization grants as well as more generous tax credits in the stimulus bill -- Serious has gone on a serious shopping spree. In January, it purchased the manufacturing assets of a bankrupt Pennsylvania factory and then rehired many of the 150 workers who lost their jobs. Then, in March, it bought the assets of Chicago's Republic Windows and Doors, which abruptly shuttered in December.

You might remember that episode. Republic's owner, a Chicago businessman named Richard Gillman, said that because his bank refused to extend his credit he just couldn't afford to give his employees, many of them immigrants with decades of service at Republic, the notice of shutdown that they were legally entitled to, nor pay them severance benefits they were entitled to. The employees, backed by the United Electrical, Radio and Machine Workers of America, staged a sit-in, won national attention, and eventually the banks agreed to extend money to the bankrupt company to finance the back pay. But though Gillman's accusation, that the banks had received TARP money but apparently weren't willing to loan, resonated across the country, it was really a red herring: he had simultaneously formed another company to buy a factory in Iowa and appeared to be using the closure in Chicago to stiff his workers there.

Biden's visit signals a happy ending for those folks. For one thing, in March the National Labor Relations Board concluded that Republic formed "an alter-ego entity in order to avoid its collective bargaining obligations with the UE," according to the independent Chi-Town Daily News. Last week, the agency issued a formal complaint, and is seeking $1.5 million in back pay. More importantly, after retooling the plant for high-efficiency products, Serious Materials hopes to ultimately more than double the 260 employees fired by Gillman. And the union that staged the protest is returning with the workers, who will see their pay and seniority respected by the new boss, who is decidedly not the same as the old boss.

As for that old boss, the NLRB is an obligation he may or may not pay, just one more piece of collateral damage left behind in Gillman's trail of (creative?) destruction. The move to Iowa, it turns out, didn't go so well. On February 20th, Gillman announced that the Iowa plant would close immediately. That factory's original owner, which sold the building and real estate to an associate of Gillman -- and self-financed the sale -- has now foreclosed on the property and is seeking to sell it, according to the feisty and invaluable Chi-Town paper. (Details here and here.) And lawyers on behalf of workers there are contemplating a suit of their own: Gillman may have violated the same federal notification laws that brought him so much national notoriety last December.

Yet while Gillman appears to have shafted his employees, legions of creditors, and possibly even his associate/investor, it's not clear that he will suffer personally. It appears that he owned the Iowa company's machinery and inventory, and these were sold to still another window company, in Tennessee. Those left Iowa almost immediately.

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Is The FDIC Selling Small Business Short?

Last week, close readers of the New York Times might have discovered what appeared to be a bombshell: the Federal Deposit Insurance Corporation, cleaning up the bad loans of one failed bank, sold a small business loan for half of what the borrowers had themselves offered to pay to settle the debt. If true, it wouldn't likely be the only case -- small banks are dropping like flies. So far this year, 25 institutions have failed, as many as failed in all of last year -- and closing in on the total bank failures of the previous eight years combined. It's likely that a couple more banks will be added to the list tonight.

What happens when a lender fails is this: the FDIC tries to work out new terms with borrowers in bad loans, who are very often small businesses. If this fails, the agency pools the loans and sells them for pennies on the dollar to investors, who are usually relentless in trying to collect. (The proceeds of the sale are used to pay back depositors.) In this case, according to the Times, the borrowers, husband-and-wife owners of a fitness studio in Arkansas who were $10 million in arrears, had offered to pay the FDIC $6 million upfront and another $1 million when the business was sold. The FDIC rejected the proposal, and instead sold the loan, according to the Times, "for 34 cents on the dollar, an outcome that left the gym owners furious, because the auction produced a price that was far lower than they had offered to pay the F.D.I.C." The investor is now trying to foreclose on the gym.

On the face of it, that's pretty shocking, and it no doubt left more than a few readers wondering, is the FDIC is making a practice of selling loans to vulture investors for less than the borrowers are willing to offer? That would seem to short-change both depositors and small businesses. Regrettably, the Times doesn't answer the question. In fact, the claim appears near the end of the story, which is itself surprising. In this business we call that "burying the lead." But now I know why it's there: because it's not really true.

The FDIC's public affairs director, Andrew Gray, explains that 34 cents on the dollar is the aggregate price for the pool of loans, not the price of the debt owed by the fitness club. The pools often a mix (relatively) good and bad loans in order to move the bad ones. "While the pool price may be lower than the borrower offered," he says, "it's likely that the contributory value of the loan raised the price of the overall pool." Indeed, Rick Williamson, the buyer of the loans in question, says that the fitness club "relationship" "had the highest percentage of collateral value against the principal." (Williamson bought several loans that comprised three bank-borrower relationships.) And he adds that these debtors, who "haven't paid for a long time," made an offer that was well below the FDIC's appraised value of the collateral. More generally, Williamson fairly points out that if the FDIC had simply accepted the offer, "every debtor of a failed bank would stop paying their loan, knowing they could get a discount."

In any case, both the FDIC and Williamson suggest that what's happening to the Arkansas fitness club owners is the exception rather than the rule. Gray says that when the government negotiates with debtors, "in the vast majority of cases we're able to come up with an equitable solution." Williamson adds that of the three debtors in this particular pool, "one settled almost immediately and bought out their loan. The second one was a little more difficult, because he didn't have the resources to do it himself, so he went to a bank, and we now have that under contract, too."

Other small business watchdogs don't seem particularly concerned. I asked both Congressional small business committees whether they had inquired about the FDIC's workout practices for small business loans. Only Rep. Nydia Velazquez, chair of the House committee, responded, and she said only this: "It is my hope that the FDIC is making good faith efforts to provide workouts and accommodations for struggling small businesses, just as they are working to keep major financial institutions solvent. Small businesses are our nation's most reliable job creators and will be central to our economic recovery."

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