The bills would create a new SBA-administered program to encourage equity investment in targeted industries and increase the tax benefits of investing in the stock of certain small businesses.

Early-Stage Investment Program

On June 17^th, the House passed the Small Business Lending Fund Act of 2010. Most importantly for CDVC funds, the legislation would provide $1 billion to launch a new Small Business Early Stage Investment Program to be administered by the SBA.

History. This program initially passed the House last October, but has stalled in the Senate. The bill would enable SBA to invest in VC funds to support investment in early-stage small businesses in certain targeted industries. Essentially, the SBA would invest—after a competitive application process—in LP interests stripped of any control rights, but carrying all the usual economic rights. The SBA would participate pari passu in any distributions by the awardee-funds.

Selection criteria. Similar to the SBIC program, any entity may apply to participate in the program, whether organized as a partnership, LLC, or corporation. Applicants must include a business plan, information on the managers’ track record, and show that their investments will create jobs.  The SBA is directed to take into account the extent of a fund manager’s commitment to investing in early-stage companies in the targeted industries.

“Early stage” and “targeted industries.” At least 50% of the investments of any participating fund must be early-stage investments in targeted industries, although this percentage may effectively rise if the application process is competitive. Such investments must be in companies that have not generated gross revenues of $15M in each of the preceding three years, and that are engaged primarily in one of the following fields: (i) agricultural technology, (ii) energy technology, (iii) environmental technology, (iv) life science, (v) information technology, (vi) digital media, (vii) clean technology, (viii) defense technology, or (ix) photonics technology.

Matching funds. SBA investments must be matched, on a one-to-one basis, with non-federal dollars.

Maximum award. $100 million for any fund manager over the life of the entire program.

Other. As a condition of receiving SBA funds, managers must agree to cap their carried interest at 20%. The bill makes no mention of management fees. The bill requires that distributions to investors be made “within a reasonable time after existing investments.”

If enacted, the program could be used directly by some CDVC members, or it might provide a useful model for legislation aimed specifically at CDVC funds, as the SBIC program was a model for NMVC.

Tax exclusion for gains on certain small business stock  

On June 15^th, the House passed the Small Business Jobs Tax Relief Act of 2010. The bill would amend § 1202 of the Internal Revenue Code, allowing non-corporate taxpayers to exclude 100% of their gain on certain small business stock acquired between 3/15/2010 and 1/1/2012 and held for at least five years. This proposal, supported by the Obama Administration, was included in a bill that passed the House in March but stalled in the Senate.

House Democrats hope the new package will fare better. As a result of the original stimulus legislation, 75% of the gain from qualifying stock acquired between 2/17/2009 and 12/31/2010 may already be excluded. If enacted, the temporary 100% exclusion should help CDVC funds organized as pass-through entities for tax purposes (such as limited partnerships and most limited liability companies) to raise capital from individuals. It will also encourage the angel capital market for investments by individuals directly in businesses, increasing co-investment opportunities for CDVC funds with angels. 

CDVCA’s enthusiasm about the increase in the §1202 exclusion is tempered by the existence of some complex and out-dated provisions in §1202, which we detailed in a story in our April newsletter.

The bills have been combined and are currently pending in the Senate.