Tax Increment Financing: A Critically Important Tool in Economic Development
ax Increment Financing or TIF, is one of the most utilized and controversial economic development tools across the United States. In its most common form, TIF is a tool that allows governmental entities to borrow against an area’s future tax revenues to make present investments that are intended to spur economic growth.
The tax revenue captured in a TIF is often from a specific geographic area that is defined upon the creation of a TIF district. Upon defining a TIF district, a baseline condition is generally established relative to the tax base within the TIF district. New tax revenues created in the future above this base tax level can then be “captured” within the TIF district and generally used to service debt issued for improvements or to directly fund investments in the geographic area.
While most TIF districts capture tax revenues generated from ad valorem taxes such as real and personal property tax, other taxes, including income tax, payroll withholding taxes and sales tax can also be subject to capture within a TIF district. Since taxes captured within a TIF district do not flow to the respective taxing districts, it is incumbent upon governmental leaders to ensure that investments made with TIF funds have a positive overall impact to the communities they represent. Generally TIF districts are created in anticipation of planned investment and, as such, there is often a “but for” determination that the TIF is a critical component to encourage the investment and that absent the TIF the increase in tax revenue captured would not occur. Or to put it another way, the use of a TIF in these cases does not have a negative impact on government finances because the revenue would not have been generated in the first place without the contribution made from the creation of the TIF district. Despite this analysis, communities should also consider the impact a potential development may have on the need for public services and make sure that the TIF is structured in a way to allow those important functions to be properly funded.
The primary controversy surrounding the use of TIF is often related to the types of projects funded with TIF funds, whether the use of TIF is really required to support a particular project and what is determined to be “blighted” property, or property that would not otherwise be subject to normal development. While all of these are legitimate concerns that should be considered, there is no question that TIF is a critically important economic development tool that when used for the right purposes can significantly increase a community’s ability to compete for economic development opportunities, whether those are commercial, industrial or residential.
In particular, TIF is often the only economic development tool available to offset up front project costs such as the construction of public infrastructure required to attract a new prospect or make available land ready for development. As we represent clients across the United States, we have noted both an increased use of TIF for economic development projects and also more creativity in the application of TIF funds.
In particular, we have noted thoughtful negotiation between governmental entities and commercial prospects on the appropriate allocation of future TIF revenues between funding project costs and funding governmental services. In addition, instead of using projected TIF revenues solely to support a bond issuance, which often requires significant transaction costs, interest expense and the incurrence of governmental debt, we have seen many communities take a creative approach of directly refunding future TIF revenues, or entering into arrangements for the company or a developer to provide the up-front capital, to be reimbursed from TIF funds after project completion. These structures can significantly reduce transaction costs and result in a more equitable distribution of risk in the event the level of future TIF revenues fails to meet the initial project projections.
In summary, while TIF financing is often grouped into a single category with a certain set of preconceptions regarding its use, the reality is that there is a great deal of variety of tax increment structures across different states and communities. In addition, there are various approaches to TIF that should be considered to accomplish the shared goals of companies and communities in pursuing successful economic development projects.
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