Higher Exactions, Development Fees and Proffers

Description of Technique
Many communities are charging high fees on all aspects of new development in order to help pay for the public facilities needed to serve that new development. This is particularly likely in localities with local taxation powers severely constrained by state laws or constitutional amendments, such as Proposition 13 in California and Proposition 2.5 in Massachusetts. As a general category, these fees are referred to as exactions. They are contributions to the locality that a developer is required to make in order to receive permission to proceed with a project. These contributions may sometimes be only indirectly related to the project itself. Examples are school sites, road improvements and parks. More specific forms of exactions include the following:

• Development fees are public charges placed directly on each new housing unit, commercial project or other development, or on utility hook-ups. In housing projects, such fees may be charged for the use of schools too.

• Mitigations are fees charged by the locality supposedly to offset specific public costs resulting from a proposed development. Examples are traffic mitigations, school mitigations and open space mitigations. These are sometimes referred to as impact fees.

• Proffers are required contributions to the community that are only indirectly related to the project for which the developer is requesting permission. Examples are park or school sites, or construction of roadways that serve areas other than the development concerned.

• Exactions are supposed to be connected to the project for which the developer is seeking permission by some sort of nexus or functional relationship. However, communities often ask for benefits with very weak connections, and developers may be reluctant to fight those requests in court for fear of alienating the local authorities with whom they must work in the future.

  Potential Benefits of Technique From General Public Point of View The potential public benefits of this technique are:

• It produces income for local governments without raising local property or other taxes. These are often governments that cannot raise funds by raising property taxes because state regulations or constitutional rules prohibit their doing so.

• It requires the persons who benefit from specific new developments to pay more—but not necessarily all—of the full costs associated with those developments than if the required infrastructure were separately financed. This should raise the overall economic efficiency of society by causing people to choose to occupy such developments only if the benefits they derive from doing so are worth the costs thereby imposed upon them. In other words, exactions reduce the subsidies to occupancy of new developments that arise if the infrastructure serving those developments is paid for by persons other than their users. However, this advantage is weakened in practice by the fact that most exactions are not set so as to accurately represent the full costs of the developments to which they are attached.

• A more tenuous social advantage of this technique is that its negative impacts are less severe than those of alternative means of coping with the costs of the infrastructure needed to serve new developments. The main alternatives are (1) prohibiting all further growth in order to avoid such costs and (2) allowing a deterioration in levels of service from infrastructure in order to reduce such costs. Many other “growth controls” result in stopping growth altogether, which raises the costs of local housing and other projects even more than charging exactions for new developments of additional supply.

• From the viewpoint of persons who are opposed to growth, this technique has the advantage that it reduces the growth prospects of the localities that adopt it, as noted in the next point.

• From the viewpoint of owners of existing properties in a locality, this technique has the advantage that it raises the market prices of their properties by raising the costs of creating new and competitive properties in the same locality. This creates a windfall gain for those owners.

• It reduces the economic feasibility of all projects to which it is applied. It also increases the costs of occupancy for tenants, thereby reducing the competitiveness of locations within the communities that adopt this technique. These effects reduce the attractiveness of those communities as locations for economic activity, weakening the growth prospects of those communities. As noted above, this outcome is considered an advantage by opponents of growth.

• It makes it more difficult for marginal firms to occupy space, or low-and-moderate income households to reside, in the communities that adopt it. It therefore discourages the formation of new firms and prevents many households from achieving homeowner-ship, compared to financing local government costs with more broadly-based forms of revenue raising.

• It usually creates a regressive redistribution of wealth in the regions where it is adopted. That is, it makes it harder for low- and moderate-income households in those regions to enter the communities that adopt it, and raises the costs of living to renters within those communities. At the same time, it increases the wealth of all property owners in those communities. Since the first two groups are generally less well off economically than the third group, this technique essentially redistributes resources from relatively less affluent groups to a relatively more affluent one.

Practical Lessons from Application of Technique The following are practical results from this technique in practice:

• It increases the costs of new development, especially for residential projects, but also for commercial and industrial projects. It therefore reduces the number of projects that are economically feasible, other things equal. It also makes it harder for low-and-moderate income households to afford living in such new developments.

• It helps communities pay for the infrastructure required to support new development projects and new growth in general without forcing elected officials to levy new taxes on the local public as a whole.

• In many cases, the added costs imposed on developers by exactions can be passed through to the final users of the properties being developed (in the form of higher prices), or to the owners of the land concerned (in the form of lower land prices paid by the developers). The extent to which such passing through is possible depends upon the degree of competition for the proposed developments, and the intensity of the demand for them, in the area concerned.

• Exactions tend to raise the market prices of the properties being developed by increasing the costs involved in creating such properties. But exactions also raise the prices of already-existing properties of the same type in the communities that adopt the exactions, because it then costs more to create new properties competitive with those existing ones. This creates windfall gains for the owners of those already-existing properties, thus benefiting many members of the communities involved who have no direct connection with the new developments themselves.

Strategic Considerations for NAIOP Members Faced with Technique
For NAIOP members, the desirability of higher exactions as a method of paying for the infrastructure associated with new development depends upon what alternative policies would be adopted instead of higher exactions.

• If the alternative being considered by a community is blocking new growth altogether, or greatly reducing the amount of new growth allowed each year, exactions may be preferable because they at least permit new development to continue. Moreover, much of the cost of exactions can be passed through to final users of the properties concerned, rather than being born by developers.

• If the alternatives being considered by a community are raising property taxes in general to pay for the required new infrastructure, or using more funds from higher-level governments, those alternatives are preferable to exactions. Higher property taxes spread the costs of the new infrastructure across the whole community, instead of focusing them on occupants of the new developments themselves. Using funds from higher-level governments has the same effect.

• If the alternative being considered by a community is allowing the level of services of its infrastructure to deteriorate by not fully funding appropriate improvements or additions, it is not clear whether exactions are preferable. The answer partly depends upon how much deterioration is involved.

Advantages from NAIOP’s Perspective
Insofar as this technique is applied solely to residential development, it may reduce the burden of taxation to finance government activities that is placed upon local commercial and industrial developments. To the extent that the use of exactions prevents localities from adopting stringent growth controls that greatly reduce the total amount of development permitted, exactions can be considered beneficial to developers. After all, exactions do not prevent developments from occurring, but only make them more costly.

Disadvantages from NAIOP’s Perspective These are the potential disadvantages of this technique:

• Higher exactions may reduce developers’ profits if they cannot fully pass through the resulting increased costs to the occupants of the properties created or the owners of the land on which those properties are built.

• Purely residential use of this technique is to some extent undesirable from the viewpoint of NAIOP members, since it reduces the ability of many households who might be excellent workers for NAIOP tenants from living in the communities that adopt this technique.

• By raising the costs of occupying newly-developed properties, higher exactions reduce the marketability of those properties, thereby making it harder for developers to fully lease them.

Alan A. Altshuler and Jose A. Gomez-Ibanez, with Arnold Howitt, Regulation for Revenue: The Political Economy of Land-Use Exactions (Washington, D.C.: The Brookings Institution and the Lincoln Institute of Land Policy, 1993).

Arthur C. Nelson, “Financing Infrastructure With Development Impact Fees,” in Jay Stein et al., Editors, Public Infrastructure Planning and Management (Beverly Hills: Sage, 1987).

James C. Nicholas, Editor, The Changing Structure of Infrastructure Finance (Cambridge: Lincoln Institute of Land Policy, 1985).