FOR SCOTT BAXTER, founder of high-end architectural design firm SA Baxter, basing his company’s factory in New York’s Hudson Valley, wasn't just about easy access to his showroom in New York City. It was also about creating jobs in an economically-troubled area — and reaping some sizable tax breaks that could potentially save him tens of thousands of dollars as a result. But Baxter's move may soon make little financial sense for his business.

In an effort to help plug New York State's $15.4 billion budget gap, Gov. David Paterson is pushing a plan that would significantly restrict which businesses qualify for tax benefits under the state's business enterprise zones program. The plan would require businesses that are currently certified as Empire Zone Enterprises to prove that they have made far more investments in a particular region than the benefits they have received over the entire period they’ve been certified since 2001. So, instead of having to, say, invest $15 for every dollar of tax credit a business received to be compliant, they would have had to invest $20. If they can't prove that level of costs to benefits, their preferred status must be forfeited. By only allowing projects with more favorable cost-to-benefit ratios to receive benefits, the state expects to help generate more than $300 million of savings annually.

Should the new requirements pass, approximately 2,200 to 2,500 of the 9,800 businesses that currently operate in New York’s 85 Empire Zones will lose admittance to the program, says Kenneth J. Pokalsky, senior director of government affairs for the Business Council of New York State, an association of businesses in Albany, N.Y. Considering that many other states face billion-dollar budget deficits, more are likely to follow in New York’s footsteps, says Nick Johnson, director of the state fiscal project with the Center on Budget and Policy Priorities in Washington, D.C. “In a downturn, all spending, including business tax credits and other enterprise zone benefits, come under more scrutiny as policy makers look for evidence that they work,” he says.

For small businesses, the results can be devastating. Contending with tougher certification requirements can mean losing valuable tax breaks and other incentives, which can include property or income tax abatements, subsidized training classes for workers and thousands of dollars in aid for business purchases. Making matters worse, those incentives could be the sole reason a business owner chose to set up shop in that economically-challenged location in the first place. Should other states start cracking down as hard as New York, many small businesses will find themselves in financial jeopardy. Not only will they lose those tax benefits, but re-applying for enterprise zone status can cost tens of thousands of dollars in attorney and accountant fees.

Last year, Oregon’s Portland Development Commission revamped its Portland Enterprise Zone program and installed a raft of new stipulations including a requirement that companies add 10% more workers within the first year of being certified and a mandate that at least 85% of employees in a participating firm earn more than the minimum wage. (In Oregon, the 2009 minimum wage is $8.40 an hour.) “We found that in the past, the tax revenue delivers a very small impact,” says Sierra Gardiner, Portland’s Enterprise Zone project coordinator.

In 2008, Rhode Island capped its tax credit for motion picture production at $15 million a year. While the same rules apply -- 25% of a studio’s production costs are returned in the form of a tax credit when they spend a minimum of $300,000 -- the state will limit the extent to which studios can take advantage of the perk. The state also placed a moratorium on new projects that qualify for the so-called historic structure tax credit, which provided construction developers a 30% rehabilitation tax credit for projects that produce income.

Businesses in Iowa are also on alert. In January, Gov. Chet Culver spoke about reining in the research and development tax credit for firms located within enterprise zones. Currently, businesses in these areas get double what businesses in non-enterprise zone areas receive. He also hopes to cap tax credits available for participating businesses at $200 million a year. In 2008 and 2007, the state awarded $250 million and $436 million to businesses within these zones, respectively.

“Like many other state governors, [Culver] is looking for ways to balance the budget,” says Peter S. Fisher, a professor of urban and regional planning at the University of Iowa. According to the Center on Budget and Policy Priorities, without any intervention, Iowa’s deficit is expected to reach $779 million by 2010. “I think he’s been persuaded that we are maybe not getting our money’s worth for some of these programs,” says Fisher.

Write to Diana Ransom at dransom@smartmoney.com

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