Minnesota's Angel Tax Credit: "Proprietary Technology" Requirement

Stuart R. Hemphill and Bridget Hayden
January 26, 2011 — 412 views  

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Minnesota's Angel Tax Credit (defined in Minn. Stat. 116J.8737) provides an array of investors who are natural persons the opportunity to receive a 25-percent individual income tax credit (maximum $125,000 per year per individual or $250,000 for those filing jointly) for investing in small businesses that are primarily focused on technological innovation. To qualify for the credit, both the investors and the invested-in entity must meet certain requirements. The Minnesota Department of Employment and Economic Development ("DEED") website lists the basic business criteria for qualification, and generally requires that the business be headquartered in Minnesota, have fewer than 25 employees and a minimum of 51 percent of employees and 51 percent of payroll in Minnesota. There are other qualification requirements for the investors.

Technical Innovation
In addition to the above, qualifying businesses must also be engaged in -- or committed to engage in -- technological innovation in Minnesota. This article explores that requirement.

DEED states that for a business to qualify, the primary business activities must include one or more of the following:

·         Using proprietary technology to add value to a product, process or service in a qualified high-technology field; and/or

·         Researching or developing a proprietary product, process or service in a qualified high-technology field; and/or

·         Researching, developing, or producing a new proprietary technology for use in the fields of: agriculture,
tourism, forestry, mining, manufacturing, or transportation.

Common to each is that "proprietary technology" be used, researched, developed or produced in connection with the business' primary business activities.

Showing Proprietary Technology

The statute further defines "proprietary technology" to mean "technical innovations that are unique and legally owned or licensed by a business and includes, without limitation, those innovations that are patented, patent pending, a subject of trade secrets, or copyrighted." The proprietary technology must be described to DEED at the time the business applies for business certification under the Angel Tax Credit program.

While the business certification application process is new and the meaning may undergo development, it can be expected that "proprietary technology" may be shown in several ways. In particular, the language used suggests there are several forms of intellectual property that will be considered "proprietary technology":

1.      Patentable subject matter existing in the form of a patent application or as an issued patent.

2.      Trade secret information, meaning information used in a business and subject to reasonable secrecy measures, and embodying one of the qualified high-technology fields.

3.      Works of authorship that are copyrightable and embody technology, such as software and technical
drawings

These forms of intellectual property differ in what might be covered and in how the property would be described in the business certification application, as elaborated below.

Patentable subject matter. Utility patents cover mechanical, electrical, chemical, information technology and similar inventions. While most utility patent subject matter, including business methods implemented on a computer, would be "proprietary technology", a patent application on a purely human activity, such as a method of putting or negotiating might fail to meet the technology test. Plants that are protectable under plant patents or the plant variety protection act will likely also be seen as "proprietary technology". Design patents or applications for them, on the other hand, which cover ornamental designs, are likely not "proprietary technology".

It seems clear that when a patent has issued or a patent application has been filed (e.g., a provisional or nonprovisional application), identification of the patent or patent application (number, title, date(s)) and a brief description of the invention should be sufficient to allow DEED to make a reasonable judgment as to whether the business meets the proprietary technology requirements and thus falls within the Angel Tax Credit program parameters. While not all patent applications are granted, filing an application should be viewed as evidence of serious technical innovation.

If development of its technology has not progressed to the point where a patent or patent application has been filed, a business may consider describing in the business certification application the innovation that the proprietary technology encompasses, which may include a general description of the field of technology, the problems to be solved, and the beneficial impacts the technology may provide in the field and referring to a planned patent filing. To support that assertion, the business should start working with a patent attorney. Then an application title and attorney document number could be referenced as identification. However, given that the United States Patent and Trademark Office imposes few substantive requirements for filing a provisional patent application, it is relatively easy to file such an application with the then-available technological disclosure, permitting a provisional patent application to be identified by number and filing date in the business certification application.

A business proceeding with a patent application should keep in mind that a provisional patent application is not made public unless a later, non-provisional application claims priority to it. A non-provisional application will be published 18 months from its filing date. The published subject matter can no longer be considered a trade secret, the next category discussed.

Trade secret information. Sometimes a new business prefers to keep its proprietary technology as a trade secret. Trade secrets can exist in almost any information used in a business. However, for "proprietary technology", it is likely the trade secret information must relate to "technology" not, for example, market research data for a product. No documentation or prototype is required for a trade secret to exist, but, to present a trade secret as "proprietary technology", a certain amount of disclosure to DEED will be required in the certification application. However, it is not expected that the exact details of the trade secret itself need to be divulged in the business certification application. Rather, the application should include only enough information so that DEED can make a reasonable judgment as to whether the business falls within the Angel Tax Credit program parameters. For example, similar to describing patent pending technology, this may include a description of the field of technology, the problems to be solved, and the beneficial impacts the technology may provide in the field, rather than the actual method or apparatus for solving the problem. It would also be useful to assert and perhaps describe how secrecy measures are being used to keep the technology proprietary.

An applicant business can take some comfort that data in its business certification application is non-public and can not be released to the public. Once a business is certified by DEED, only limited information is publicly available, such as the business' name, which is provided on a listing of qualified businesses at the Minnesota Angel Tax Credit website, and limited investor and credit information.

Copyrightable technology. Although many works of authorship in artistic fields (e.g., music or a play) would not meet the "proprietary technology" criterion, computer programs (in source or object code form), specifications for software to be written and technical drawings or other detailed documentation for a technical product should meet the test and also be copyrightable. Perhaps a large collection of proprietary technical
data, such as a computer file for guiding semiconductor manufacturing, or a collection of test result data that meets requirements for copyrightability also might fit.

In a case where a copyright registration has been granted or applied for, the application or registration number provides an Angel Tax Credit business applicant a handy identification of the "proprietary technology", when accompanied by a brief description emphasizing the business' technology. In most cases, whether or not a registration exists, the business applicant would not want to submit to DEED any actual software, specifications, drawings or data, as these are likely also trade secrets; thus, as suggested above for trade secrets, a description of their nature, their category as copyrightable subject matter and proprietary value would be preferable. An applicant seeking to rely on copyrightable "proprietary technology" should realize that registration is not required for copyright protection to exist and that filing a registration application means that
the deposit copy will be available for public inspection. Thus, the copyright registration usually means loss of trade secret protection10. The more prudent path for this category would be to provide sufficient facts to show copyrightable status for the technology information.

Other "proprietary technology"? The statutory definition of "proprietary technology" recites "includes, without limitation," which signals that the patent, trade secret and copyright categories are not exclusive. Semiconductor mask works, which are a category related to copyright, but different, would seem to be "proprietary technology". In addition, a company that has no patent filings, no technology that might be subject to copyright and whose activities have caused its trade secrets to be lost, might still build a basis for an application by describing its technology and asserting that is has contractual relationships that make its technology "proprietary". This might be a necessary strategy for an early stage company that has only a broad idea and an agreement with a technical collaborator for development. However, given the difficulty of such a presentation and the likelihood of later development of trade secrets, a better strategy might be simply to
wait until sufficient technology has been accumulated to permit a body of trade secrets to be described.

Owned vs. licensed technology. The statutory definition of "proprietary technology" also makes clear that the applicant business can either own or be a licensee of the technology. However, a business that does not own its technology, for example one operating under a university license, will need to describe its licensee status and then make a showing that the subject matter of its license fits the test for "proprietary technology". In some cases, a business may need to refer to both owned and licensed-in technology to make its best showing of "proprietary technology".

Because many start-up businesses are informal about owning or licensing technologies they use of develop, the qualification application process can serve as a check point for ensuring the business owns (or will own), or has a valid license to, the technology that is its focus. The business can ensure that it has the agreements or other documentation in place to prove ownership or licensing.

Conclusion
The Angel Tax Credit program suggests that early stage businesses can make a wise small investment in building or positioning to build a body of "proprietary technology" to give potential investors the opportunity to qualify for the tax credit. It should be noted that the statute requires that "the business is engaged in, or is committed to engage in, innovation in Minnesota." This has prospective aspect. It is likely possible to leverage
by incurring some expense to build an initial body of "proprietary technology" and/or a make convincing plan for its development and then, assuming successful angel funding, use invested funds to help pay for the past and continuing development of the technology. Given the focus on certain forms of intellectual property as evidence of "proprietary technology", services of an attorney to help define and document "proprietary technology" or a contractual path for its development or licensing, may be a wise investment for scarce startup funds.

In view of this tax benefit currently offered to investors by the State of Minnesota, small businesses desiring to receive funds from interested qualified "angel" investors should focus on technological innovation as a means to attract interest in the company. This will improve the likelihood of success in the business certification process. It also will help Minnesota reach its goal to grow and foster job creation in small emerging high technology businesses primarily based in Minnesota. About two-thirds of the $11 million in tax credits available for the year 2010 was used through late 2010, and remaining available funds will roll over into the tax credits available for 2011. The Minnesota Angel Tax Credit is available in 2011 and three succeeding years. Additional information may be found at the MN Angel Tax Credit website (see footnote 1).

1Minn. Stat. § 116J.8737, subd. 3 (as amended at 2010 Minn. Laws ch.389, art. 3, sec.19). Natural persons include individuals and pass-through entities including partnerships, S corporations and LLCs.

2 See:
http://www.positivelyminnesota.com/Business/Financing_a_Business/DEED_Business_Finance_Programs/Angel_Tax_Credit.aspx

3 See:
http://www.positivelyminnesota.com/Business/Financing_a_Business/DEED_Business_Finance_Programs/Angel_Tax_Credit_2.aspx

4 See:
http://www.positivelyminnesota.com/Business/Financing_a_Business/DEED_Business_Finance_Programs/Angel_Tax_Credit_3.aspx. While a business and an investor may wish to coordinate their respective qualification applications, there does not appear to be any
linkage required.

5 The statute lists several "qualified high-technology fields", which include: aerospace, agricultural processing, renewable energy, energy efficiency and conservation, environmental engineering, food technology, cellulosic ethanol, information technology,
materials science technology, nanotechnology, telecommunications, biotechnology, medical devices, pharmaceuticals, diagnostics, biologicals, chemistry, veterinary science, or similar. The statute also lists excluded businesses, some aspects of which might
otherwise be viewed as employing high technology: real estate development, insurance, banking and lending, lobbying and political consulting, information technology consulting, wholesale and retail trade, leisure and hospitality, transportation, construction, and ethanol from corn, as well as, attorneys, accountants, business consultants, physicians and health care consultants.

6 This definition comes from Minnesota's version of the Uniform Trade Secrets Act, Minn. Stat. §§ 325C.01 to 325C.07.

7 35 U.S.C. §101 defines patentable subject matter in the U.S. While nothing in the statute requires that the technology exist under U.S. law, the Minnesota connections required seem to make it hard to qualify by describing patents or other technology outside the U.S. This article will address proprietary technology under U.S. law.

8 The recent decision in Bilski v. Kappos, No. 08-964, 561 U.S. ___ (2010), interpreting 35 U.S.C. §101 suggests this.

9 Minn. Stat. 116J.8737, subd. 8.

10 In certain circumstances a copyright registration for software can be obtained by submitting less than all the source code, thus
preserving trade secrets. See Library of Congress Circular 61 (May 2009)

Disclaimer
©2010 Dorsey & Whitney LLP. This article is intended for general information purposes only and should not be construed as legal advice or legal opinions on any specific facts or circumstances. An attorney-client relationship is not created or continued by reading this
article. Members of the Dorsey & Whitney LLP group issuing this communication will be pleased to provide further information regarding the matters discussed therein.

 

For more information regarding this article, contact the authors of this article, Stuart R. Hemphill and Bridget Hayden at Dorsey and Whitney LLP.

 

Stuart R. Hemphill, Partner                                       Bridget Hayden, Associate

612-340-2734                                                         612-492-6867

hemphill.stuart@dorsey.com                                     hayden.bridget@dorsey.com

Stuart R. Hemphill and Bridget Hayden