How We Overturned the Retroactive Tax on Startup Founders
The call came at 1:15 pm this past Friday, as I was driving home from a client meeting. “Mr. Overstreet?” questioned the voice on the other end of the line. “I’m calling from Governor Brown’s office. We wanted you to be the first to know that the Governor signed your bill into law.”
And just like that, it was over.
A saga that began on January 15, 2013, with the publication of my Xconomy blog post came to a stunning conclusion with the ratification of legislation to rescind a 5-year retroactive tax on start-up founders and investors.
In 1993, California created the Qualified Small Business Stock (QSBS) incentive. The QSBS program encouraged founders and early-stage investors to start, grow, and keep businesses in California by offering a 50 percent personal tax exclusion on capital gains if the company was ultimately acquired. Nineteen years later, in August 2012, a California appellate court ruled one of the California-centric provisions unconstitutional. The Franchise Tax Board responded in December 2012 not only by cancelling the entire program but also revoking it retroactively back to 2008. Suddenly, without warning, 2,500 California start-up founders—me included—were personally on the hook for over $120 million in 5-years of retroactive taxes, interest, and penalties.
But this story encompasses more than political process and legislative procedure. It’s about a group of strangers with no political experience who banded together and secured a victory in a state capitol infamous for its icy relations with private enterprise. Defying long odds, we formed an organization, created a team, raised capital, and created and successfully marketed a solution to a very big problem.
In short, we succeeded by doing what we do best: being entrepreneurial.
Within hours of my original Xconomy post, three affected entrepreneurs contacted me. We four arranged a conference call and immediately decided to collaborate. On the spot, we formally organized a group to fight the retroactive tax. Within 48-hours we had a name—California Business Defense—as well as a brand, a website, and a mechanism to grow membership and collect funds. The coalition grew to 40 people, all founders of California start-ups that were penalized by the retroactive tax.
As experienced entrepreneurs, we knew our first priority was to assemble the right team. We brought in Eric Miethke of the Sacramento-based law firm Nielsen Merksamer as our field general. Working with our coalition, he crafted and executed a multi-tiered attack on the retroactive tax. At the same time, Senator Ted Lieu (D-Torrance) reached out in support. Incensed by this violation of the basic rule of law, Sen. Lieu fired off a letter to the FTB demanding that they reconsider their decision to retroactively tax law-abiding business founders. The FTB response amounted to, “If you want change, do it yourself.” Sen. Lieu did just that. With early support from Assemblyman Jeff Gorrell (R-Venutra), Sen. Lieu authored SB209, a bill to overturn the retroactive tax. We launched the campaign for SB209 in April, endorsed by influential business coalitions like Bay Area Council, Connect, Tech America, Cal Chamber, Silicon Valley Leadership Group, and many more.
With bill in hand, we set out to sell SB209 to the California legislature. As with every sales process—whether introducing a new product, raising capital from investors, or good old fashioned cold calling—selling SB209 was a grind.
In countless trips to Sacramento, we met with over 50 legislators and other government officials. In each meeting, we identified the problem, presented our solution, elicited feedback, and overcame objections. With each new objection raised, we tweaked our pitch for the next meeting. Many days it was unclear if we were making progress at all. No legislator discounted the injustice of a retroactive tax. But the implications of its reversal were complex and far reaching. Then ever so slowly, the arduous grind started to pay off. Support swelled, insiders learned of our plight, and pivotal leaders like Assemblymembers Bocanegra and Gatto came out in support. The leadership in both the Assembly and the Senate ultimately followed suit.
Still, there were certain objections that we simply couldn’t overcome. When we hit those, we changed course. One Senate committee added a series of hostile amendments to SB209. Weighing the unfavorable amendments against the prospect that the bill might die in committee, we accepted the changes and ran with them. And in the final days of the legislative calendar, we pulled off the biggest pivot of all. With technical snafus and political pressure weighing down SB209, we worked with legislators to gut an unrelated bill, AB1412, insert our desired language, and push that through both the Senate and Assembly. After five months of delicately nursing SB209, we didn’t hesitate to replace it with another bill that would better position us for success.
The final legislative vote tallied 112-1 in favor of AB1412. With strong support from the State Controller, all five members of the Board of Equalization, and the two outside members of the Franchise Tax Board, Governor Brown signed AB1412 into law.
For a bunch of political greenhorns operating in an environment where political partisanship is at an all-time high, we did all right.
But it should never have been this hard.
A five-year retroactive tax on law-abiding start-up founders never should have happened. Once enacted, it never should have required a dedicated team working full time for nearly nine months to overturn it. Some will interpret these events as further evidence that our government is irrevocably broken. But I hope you will consider our outcome. We proved that success and progress can happen when we engage with our lawmakers.
Still, our triumph over the retroactive tax is just a very small first step. Sacramento is fighting its way out of a budget disaster. The federal government is shut down. A debt ceiling crisis is looming, and partisan leaders won’t even talk to one another.
This isn’t the way our government is supposed to work. And I believe that we can fix it.
As entrepreneurs we’ve accumulated unique, transferable skills from starting and running successful businesses. Let’s do more than just denigrate our government in clever 140-character missives. Let’s actually work to influence policy and re-craft the institutions and mindset of our government from within.
We’re all hard-wired to seek out and solve big problems. I can think of no bigger problem—and no bigger opportunity—than re-fashioning our government to reflect the spirit of the companies we’ve built. Given our successes in private enterprise, is it so hard to envision similar success in the public sector? Are we so cynical that we can’t even imagine a more efficient, impactful, responsive, representative, and ‘customer-centric’ Sacramento or Washington?
Maybe it’s a fool’s errand. We’re all busy people with myriad responsibilities, and this is a heavy lift. But it is clearly time for a new generation of leaders to emerge and bring a more common sense, forward-thinking, and results-oriented approach to our governing bodies.
As entrepreneurs, we are positioned to make a difference. Don’t we have a burden of responsibility to try?