Pataki Planning Tax Breaks for Some Web Companies

Article from The New York Times METRO
Tuesday, March 21, 2000
By: Terry Pristin

March 31, 2000

It has become a commonplace situation: a corporation threatens to move its headquarters out of New York City. City and state officials, eager to prevent the defection, hand out tax breaks worth millions of dollars.

In the last six years, about 50 major companies have taken advantage of the city's and state's retention incentives, receiving at least $2 billion in tax relief.

Now, however, the Pataki administration has proposed a new tax break, intended not for the blue-chip companies that have dominated the New York City economy, but for a vital segment of the fast-growing Internet industry.

Under the proposal, so-called web-hosting companies that provide the infrastructure of the Internet - the computers, the fiber optic cables, the climate-control equipment - would be able to avoid paying a state sales tax on their costly equipment. Server computers, owned by the customers but maintained by the Web hosts, would also be exempt from sales tax.

The tax cut has been embraced by Democratic leadership of the Assembly. But it has drawn criticism from tax policy analysts on both ends of the political spectrum, who say it is unwise to single out certain industries for favored treatment.

New York's Internet industry is expanding at a breathtaking rate. Today, it employs more than a quarter of a million people, more than double the 1997 level, according to a recent report commissioned by the New York New Media Association, a trade group.

Yet despite this explosive growth, officials of both parties say the sales tax exemption is needed to prevent the Web-hosting companies, also known as Internet data center, and their customers from being lured to other states.

"Other states across the nation are competitive in tying to attract these jobs," said Kevin C. Quinn, a spokesman for the State Division of the Budget. "The governor wants to make sure that New York remains one of the most attractive states for new media companies to locate and expand."

As tax cuts go, this one is relatively small. The state estimates that it would result in an annual revenue loss of $9 million, Mr. Quinn said. And it is only the latest in a series of selective tax breaks given out over the years. Some, like the elimination of sales tax for the hardware used to design and develop computer software, have been aimed at certain sectors. And some have gone to individual companies.

But the Web-hosting tax break carries considerable symbolic value. For several years, Internet entrepreneurs complained that government officials had failed to recognize their contribution to the New York economy. Those days seem over, an indication of the new-media entrepreneurs' growing political influence.

In New York City, the Giuliani administration has not drafted special tax measures for new media, but it has ingratiated itself with the new-media industry by proposing several measures intended to help all small businesses, like the elimination of the commercial rent tax.

Industry advocates have also complained in recent years that New York's academic institutions have not played a big enough role in training the work force of the new economy. Moving toward that goal, the Graduate Center of the City University of New York recently created a program that would draw upon faculty members and students on all 17 campuses to help develop software to be used by Silicon Alley.

On the state level, the Pataki administration's proposed tax break would help offset the disadvantages of doing business in New York, where real estate and utilities are more costly than elsewhere, said Brian Horey, the President of Equity Growth Management, a venture capital company that invests in Internet enterprises.

The measure would benefit companies like Global Crossing, a telecommunications company that operates a Web-hosting center in Manhattan. The company estimates that the equipment in its center cost $80 million and that the value of the equipment it houses for its customers is $120 million.

But Frank J. Mauro, executive director of the Fiscal Policy Institute, a liberal research institution in Latham, N.Y., said that the success of the new-media industry in New York demonstrated that special tax breaks were not necessary. "This is a tax break for something that is going to happen anyway, that is happening," Mr. Mauro said.

If a company chose its location based on where tax policies were less burdensome, Mr. Mauro said, then the Internet industry would be flourishing upstate, not in New York City.

Some of these reservations are shared by Brian D. Backstrom, the vice-president of Change-N.Y., a conservative anti-tax group. Mr. Backstrom said that while any tax cut was better than none, it would make more sense to lower taxes across the board rather than selectively.

"It's not the most effective job-creation policy," Mr. Backstrom said. He has philosophical objections as well. "Any company in any industry can now knock on the governor's door, threaten to move and virtually be guaranteed a tax break or economic development subsidy of some sort," he said.

Sheldon Silver, the Assembly speaker, who is a Democrat, agrees in part. "As an overall policy," he said, "if we weren't competing with other states, it would always be better to lower everything across the board." But he said New York needed the tax break to prevail in the intense battles for new-media business.

In Virginia, a state that has aggressively sought Internet business, America Online got $18 million in tax breaks last year in exchange for opening an Internet data center in Prince William County.

Michael Mazerov, a senior policy analyst at the Center on Budget Policy and Priorities in Washington, said that Virginia, in effect, paid AOL something it would have done even without the incentive.

Theoretically, the Internet data centers could be anywhere, but most customers want personal contact with the people they depend on. Web-hosting companies offer them regular software updates, duplicate power sources and backup capabilities, protecting them from service interruptions. Mr. Mazerov said that while many states were eager to win Internet business, most were not offering tax incentives.

But New Jersey, which has poured millions of dollars into programs to attract and retain high-tech companies, has a $40 million a year tax incentive program for start-up companies like CNBC from paying sales tax for its equipment. "Quite frankly, we would like to keep sales tax exemptions as limited as possible," said Bernard Kornmehl, the assistant New Jersey state treasurer for tax policy. "The more you have, the more narrow your base, and that will result in less revenue."

Connecticut, which has been gradually lowering its corporate business tax, is no longer inclined to modify its tax laws for the benefit of specific industries, said Ellen R. Schneider, a spokeswoman for the Connecticut Department of Revenue Services.

But Michael D. Freedman, Global Crossing's lobbyist, said that in the current climate, in which companies like his were besieged by incentives from other states, New York's tax proposal showed that the state was not tied exclusively to the old economy. "New York," he said, "is standing out on the information highway and showing a little leg."