Not All ‘Angel’ Investments Are Created Equal

When the Minnesota Legislature revived the state’s “angel” tax credit in 2019 for people who invest in local startup businesses, the pitch was that the program would help foster a booming technology sector. This year, Gov. Tim Walz and legislators from both major political parties want to renew the tax credit again, saying it’s critical for a post-COVID-19 economic recovery.

“This brings in money from all across the country to Minnesota to invest in our startups here,” said Steve Grove, commissioner of the Department of Employment and Economic Development, at a January news conference unveiling Walz’s budget plan. “These are the startups that are really going to create the next fortune 500s in Minnesota.”

In pushing the credit, the Walz administration has also said it can help grow wealth in underrepresented communities to combat Minnesota’s stark economic inequities. In 2014, the Legislature required half of the money in the tax program to be reserved for investors who fund businesses owned by people of color, women and residents of Greater Minnesota.

Years later, however, only a small slice of that money has gone to companies run by people in those target demographics. And even though the angel program has been popular, the state has come nowhere near its goals for boosting startups by nontraditional owners.

How the program works — and what startups get the cash

The angel credit was first established in 2010 and Minnesota has issued more than $111 million in tax breaks to investors over the nine years of its life. After the program lapsed for a year in 2018, Walz and many lawmakers made a push to reinstate it. The Legislature authorized $20 million for 2019 and 2021.

Under the program’s current rules, people who invest in early-stage businesses can apply for a 25 percent refundable tax credit up to $125,000 per person or $250,000 per married couple. There are limitations on what businesses are eligible to be invested in, however. For instance, they must be headquartered in Minnesota and have at least 51 percent of employees in the state. The companies getting an investment must also be developing or using a unique “proprietary” product, technology or service.

The most common type of startups to get an investment through the program have been in the medical device and equipment industry and software. In 2019, 72 businesses got seed money qualifying investors for tax credits. About $3.8 million in credits were issued for investment in medical device companies and $1.15 million in biotechnology companies.

Not all startups are what many picture when they think of tech companies, however. The third-largest investment category was in food and drink businesses. Brother Justus Whiskey Company, for instance, got a $1.09 million investment worth $271,667 in tax credits. It opened a distillery in northeast Minneapolis last week, serving a proprietary “cold-peated” single-malt whiskey. ABV Technology, which got $2.08 million in investments worth $520,000 in tax credits, makes equipment for brewers to create hard seltzer and other carbonated beverages.

DEED estimates the 2019 program created 109 direct jobs and another 678 indirect ones with the $10 million in public money. To date, the agency says the program has created 1,887 direct jobs.

In recent years, the angel tax credit has drawn support and criticism from across the political spectrum. Some view it as a way to draw investment that could launch huge companies and create a healthy tech sector that fuels economic growth. Others see it as the government making high-risk bets and offering tax breaks to wealthy venture capitalists using money that could be better spent elsewhere.

Ultimately, the angel tax credit program is a small part of the state’s overall spending. Walz in January proposed $7 million for the angel tax credit as part of a $52.4 billion budget plan over the next two years. And DEED has many economic relief programs doling out higher sums of cash. The agency announced more than $13 million in grants for convention centers and movie theaters on Monday to help the businesses deal with the pandemic-induced recession.

But many portray the angel tax credit as a crucial state strategy to improve Minnesota’s economy. Grove, who was a Google executive before joining DEED, said the tax credit is a “critical” way to attract investment in a state that he said has a growing and promising startup culture. “Now is the time to really double down with programs like the angel tax credit and (state tech initiative) Launch Minnesota, and to do so in a way that starts with equity,” Grove said.

The ‘angel’ program hasn’t met goals for helping underrepresented business owners 

To promote equity, half of the money in the program each year since 2015 has been reserved for investors in businesses owned by people of color, women and residents of Greater Minnesota. But there’s a catch: If not enough investors or businesses are certified to meet those criteria, the money is released to others toward the end of the year.

In the four years the program has run since 2015 — there was no credit in 2018 or 2020 — Minnesota never issued half of the tax credits for investments in underrepresented business owners. In fact, it never came close.

DEED data shows roughly 28.6 percent of the tax credits have been issued to investors putting money into businesses owned by people in the program’s three targeted groups, though it’s likely a lower overall number because some businesses fit in more than one target category. When adjusting for that overlap, those startup businesses have received roughly 24 percent of total investments under the program over that time period.

The state has also published data on the number of underrepresented businesses getting an investment through the program. Since 2015, about 26.5 percent of businesses getting investments were among at least one of the three targeted groups.

In 2019, the most recent year of the angel program, Minnesota actually did worse in some respects compared to previous years. Roughly 15.7 percent of the tax credits went to investors who seeded targeted startups — when not adjusting for overlap between the target groups — and those businesses got about 13.5 percent of total money invested through the angel program when adjusting for that overlap: $5.4 of $39.8 million. Both measures were closer to 32 percent in 2017.

Businesses owned by people of color typically fared worse than startups run by Greater Minnesota residents and women. The percentage of total credits and amount of money issued to investors in minority-run businesses has declined every year since 2015.

In 2019, lawmakers approved a measure that lowered the amount of money investors needed to give to targeted businesses in order to qualify for an angel tax credit, from $10,000 to $7,500. The idea was to further entice investors into giving money to these startups. And it may have had an impact.

Roughly 32 percent of the businesses getting investments through the program in 2019 were owned by targeted groups, compared to about 22 percent the year prior.

One business with Black leaders to get an investment through the angel program in 2019 was Civic Eagle, which created tools that aim to help people track state and federal legislation. The company has won several awards and funding competitions, including a $100,000 investment million from a $5 million Google fund for Black-led startups. It also received a $350,000 investment through Minnesota’s angel credit that qualified investors for an $87,506 tax credit.

Civic Eagle was co-founded by former DEED Commissioner Shawntera Hardy, who served under then-Gov. Mark Dayton before Grove replaced her in the Walz administration in January of 2019. Hardy rejoined the company later that year, and the startup was certified for the angel program in October 2019.

While DEED ensures investors and businesses meet the criteria of the program, investors themselves choose which startups to give money through the program. Hardy did not respond to an email seeking comment.

DEED is running the angel tax credit program again in 2021 with the other $10 million appropriated by the Legislature during the previous budget cycle. So far, the state only has $2.1 of $5 million in general credits left, but $4.6 of the $5 million in credits for targeted businesses remain.

A ‘relationship gap’ and a push for solutions

Grove, the DEED commissioner, said in an interview that startups choose how much money they’re trying to raise and venture capitalists decide how much and where to invest. So the angel program diversity goals aren’t entirely in his agency’s hands. He also said the tech industry isn’t moving fast enough to invest in more businesses owned by women, people of color and other underrepresented groups.

That 32 percent of businesses getting an angel investment in 2019 fell within the state’s three targeted demographics was an improvement, Grove said. But he still wants to hit a 50 percent mark, and said the state can help.

The Walz administration has been reaching out to groups that help startups run by nontraditional founders, Grove said, through a new initiative called Launch Minnesota. That program, which began in 2020, offers grants to startups and provides other services to help grow Minnesota’s “innovation economy.”

“We agree that as a state and as (a tech) ecosystem we must do better for founders of color and from underestimated backgrounds and we will,” Grove said. “And that’s why these stipulations exist in these programs.”

Paul Campbell, a founder of the Twin Cities-based Brown Venture Group, said he had not heard of the angel credit until about two months ago. That’s part of the problem, said Campbell, whose firm invests exclusively in startups led by Black, Latino and Native American owners. It speaks to “who has actually has access to that knowledge” of programs like this, he said.

Campbell said one reason people of color might not be participating in the angel credit program is because many lack generational wealth, which means they have a more difficult time raising money in a “friends-and-family” round of investment that some venture groups see as critical for them to get involved. That lack of generational wealth is a result of “artificial poverty,” Campbell said, created by systemic racism that led to stark economic disparities in Minnesota.

Campbell said people of color are also less likely than whites to become wealthy investors. And he said if they get money, they may spend more of it supporting their family and friends than on investing in startups.

He also said there is a “relationship gap” between white investors and Black startup founders created by policies such as redlining that led to segregated neighborhoods. There are small ways to address all these problems — like better marketing to investors on DEED’s part, Campbell said — and larger ways, such as thinking bigger about solving poverty or pushing white people to take “cultural residencies” by spending more time in everyday life with people of color to broaden their relationships. He suggested the agency bring people together to learn more about what the barriers to contribution in underrepresented groups are.

“There is not a talent gap, there is talent out there,” Campbell said. “It’s just a matter of building relationships.”

Republicans and Democrats argue to keep the tax credit

Key lawmakers remain enthusiastic supporters of the angel tax credit. State Sen. Ann Rest of New Hope, who is the top Democrat on the Senate’s Taxes Committee, said the program has been an overall success even though she is disappointed the tax credits reserved for investment in targeted businesses weren’t entirely used.

She said it’s still better to have the credits available in general and earmark some for nontraditional companies than to ditch the program altogether. She said she will research whether the state could or should roll over remaining tax credits for target groups into the future rather than release the money for others to use.

Walz has proposed $7 million for the angel program next year. Republican Sen. Carla Nelson of Rochester, who chairs the Taxes Committee, said she hopes to reinstate the credit at $20 million every year going forward.

Nelson also said she hopes the program meets diversity goals, but said the credit helps launch innovations and has been especially helpful for Minnesota’s prominent medical device industry, which also thrives in Rochester. Nelson’s efforts to secure more money than Walz proposed may be helped by better-than-expected state tax collections and federal stimulus money, which have led to a sunnier economic situation than many feared headed months into the COVID-19 pandemic.

Nelson said rolling over unused credits for targeted groups may risk losing investors altogether, but she said lawmakers can work to fix “underlying conditions” such as improving the education system to get more women and people of color into the tech economy. Nelson said she and DFL Sen. Patricia Torres Ray pushed the state to track how many businesses led by women, Greater Minnesota residents and people of color were getting money through the program in the first place. She also noted reports that show women and people of color have been hit hardest by the pandemic. Continuing the angel credit with a focus on those demographics could help, she said.

“The angel investor tax credit is critically important if we are talking about launching these technology health energy fields that are actually going to champion the innovations that are going to take us into the future,” Nelson said.