Milwaukee firm among first to use Act 255 tax credits in investor pitch

Milwaukee firm among first to use Act 255 tax credits in investor pitch

MilwaukeeNeurognostics, a home-grown Milwaukee medical device company, finished a funding round on Friday that was one of the first to take advantage of Wisconsin’s new tax credits for investors, which can give back up to 25 percent of an investment.
Neurognostics oversubscribed on its $1 million angel finance round by about 15 percent, said Douglas Tucker, CEO af Neurognostics. As a tech-based research and development company, the firm falls in the sweet spot of eligibility for investor tax credits under the state’s Act 255, which went into effect this January.
“I can’t say I really talked to anyone who said ‘gosh, I’m sitting on the fence, and Act 255 really pushed me over,'” Tucker said. “[But] it’s got to have a positive effect.”

The pitch

Neurognostics is developing add-on devices for MRI scanners – magnetic resonance imaging, which clinicians and researchers use to measure the structure of different tissues in the body – and more recently, brain function.
Its main product is a $75,000 turnkey system that includes some sort of stimulus – an image, for example, or a task for a research subject to perform – as well a device and software for measuring the brain’s response. The firm also provides an image interpretation service.
After hearing about Act 255 tax credits, Neurognostics decided to split off $1 million of its $3 million to $5 million investment target this year as a separate angel round. $1 million is the maximum investment from angels – high net-worth individuals, as opposed to investment firms – that can be eligible for tax credits under Act 255.
It was up to Neurognostics to do the leg work to qualify, which the company leadership did last December so they could be in the program as soon as possible.
“We worked pretty solid for 3 or 4 days prior to the Christmas holiday to get the paperwork we had already put together into the form the state needed,” Tucker said. The requirements included a business plan and information that showed Neurognostics was doing work covered by Act 255, and becoming qualified could have been harder for someone who hadn’t put together a detailed business-plan package already.

The lure: 25 percent money back

For angels, Act 255 specifies tax credits totaling 25 percent of the investment, broken up over two years. That wasn’t what draw Pehr Anderson, managing director of the Silicon Pastures angel network, to Neurognostics, but he said it was still an incentive.
“The effect of that act is it will draw more people who are interested in tax-efficient investing to look at more early-stage angel investing,” he said.
Not to any particular company, though – individual investments still depend heavily on the investor’s confidence in the business. For his part, Anderson said Neurognostics had the type of plan and technical chops he was looking for. Nevertheless, getting money back didn’t hurt.
“It felt awfully good to get the notice in the mail from my own investments,” he said.
George Mosher, president of National Business Furniture in Milwaukee, agreed that the credits made investment in general, not in any particular company, more attractive. “I think it can have an effect on the culture,” he said, “because Wisconsin has not yet had a culture of making these types of major investments.”
“When we let people know that this project had a tax shelter in it and explained that to them … that’ll draw people in that would not otherwise invest,” said Paul Frederick, chairman of Frederick & Co., which worked with Neurognostics to develop its pitch and draw investors. “Plus the fact that it makes all our regular investors very, very happy.”

How the system works

After a company has become qualified under Act 255’s requirements, angel investors can obtain tax credits with little additional work, Anderson said.
The act qualifies primarily research and development companies that are creating new products – those in real estate, banking, retail, or construction, to take a few examples, are not included.
A business can receive up to $4 million of investments that qualify for tax credits, of which up to $1 million can be from angels.
In total, The Department of Commerce may allocate up to $3 million in angel tax credits and $3.5 million in venture tax credits per year. If that runs out, the credits will be deferred.
The rules for venture capital firms are a bit more complex than those for angels.
“With a venture capital fund, we’re all out raising money periodically as opposed to on a deal-by-deal basis,” said John Neis, co-founder of Venture Investors in Madison. He said the need to be qualified as a fund rather than just going into a deal with a qualified company is an extra hurdle – and besides, the tax credits don’t seem so large to VCs doing multi-million dollar deals.
The maximum tax credit per company for venture capitalists is $500,000, so Neis said that, all told, investors would probably get a dime to 12 cents back on the dollar for a typical deal.
“Our goal is to take every dollar invested in us and turn it into three dollars down the line, so a dime doesnt hurt, but it doesn’t sort of blow the doors off,” he said.
Dan Broderick, managing director of investment firm Mason Wells, said the regional nature of tax credits also affects venture capital firms, who bring together investment from a variety of sources, more than individual angel investors.
“My investor from Illinois, the tax credit doesn’t do him one bit of good,” Broderick said. “He just says, ‘they get tax credits and I don’t?'”
But on the angel side, the tax credits appear poised to draw in more interest in Wisconsin early-stage companies. The angel tax credits may even benefit VCs, Broderick said, by providing more support for early-stage companies that could mature into potential candidates for larger venture investments later on.
“There’s a lot of money available for this sort of action that’s not being used,” Anderson said. “It’s not being used to start companies, and anything that can be done to leverage new venture creation, to me, is going to help generate the next set of businesses that bring revenue into all of Wisconsin.”