As U.S. cities struggle to provide adequate infrastructure and affordable housing, many are underutilizing one of their greatest assets: the land on which they sit. Cities generate large increases in the value of land when they change zoning regulations to enable new development or invest in public works projects, but private landowners typically capture the value as windfall profits.

The auction of development rights offers an innovative, market-based tool that can help cities to recover land value for public benefit. In a new Lincoln Institute working paper, Julie Kim of the NewCities Foundation and Stanford University’s Global Projects Center explores the use of this tool internationally and the potential for its implementation in the United States, especially for transit-oriented development.

“Big problems call for big solutions, and big solutions require big and innovative thinking,” Kim writes.

Kim focuses on Brazil’s largest city, São Paulo, which has issued tradeable development rights called Certificates of Additional Construction Potential (CEPACs, pronounced “see-packs”) for more than a decade. Issued in conjunction with major rezoning and redevelopment projects, these certificates have generated nearly $3 billion in two neighborhoods alone. The city has used the revenue to build a bridge, extend a metro line and a major avenue, and create affordable housing in the same districts where the redevelopment took place.

How CEPACs work

Beginning in the 1990s, São Paulo designated a number of neighborhoods as special redevelopment zones. The city changed the zoning and land use regulations to allow for more dense development and planned for infrastructure projects that would help attract private investment. In a few of the neighborhoods, the city created tradeable CEPACs, which each permit the owner to create a specified amount of development, typically about 10 square feet, up to an allowed maximum.

The city has sold CEPACs at dozens of public auctions, and developers have gladly purchased the certificates, recognizing that the rezoning and the infrastructure funded by the CEPACs made their projects more valuable. For São Paulo, the CEPACs are a tool that allows the city to specify the amount of new development it wants and generate revenue while allowing the real estate market to determine the potential value of plots in the redeveloped area.

The advantages for U.S. cities

For U.S. cities, the auction of development rights could be an effective complement to traditional public-private partnerships (or P3s), in which the private sector builds new infrastructure in exchange for the right to future revenues—highway tolls, for example—or more direct forms of repayment by the city. P3s can be an efficient way for cities to deliver and finance infrastructure, but taxpayers or infrastructure users must ultimately repay the cost. CEPACs, by contrast, can generate revenues for repayment.

The São Paulo model also has advantages over tax increment financing, or TIF, in which cities earmark property tax revenues for economic development to encourage private investment, which in turn helps to grow the tax base. Studies have found that TIF often does not accomplish the intended economic development goal, but, more importantly, TIF does not create a new source of revenue beyond the property tax. CEPACs, by contrast, generate new revenues immediately while also expanding the property tax base for the future.

CEPACs may be most similar to exactions, the monetary payments or public amenities that U.S. cities sometimes collect in exchange for approving development projects. However, unlike CEPACs, these exactions often require lengthy, unpredictable negotiations, which vary depending on the developer’s political relationships.

Finally, CEPACs bring a new player—the private investor—into the infrastructure market, which can help spread out the risks and rewards of projects more widely.

The U.S. experience so far

There is ample precedent in the United States for tapping the value of development rights. Many cities allow for the transfer of development rights as a tool to protect historic landmarks or create parks and open space. Policies vary, but in general owners of properties that are restricted from being developed can sell unused development rights to others who want to build nearby. The buyer of the development rights sometimes pays a portion of the proceeds to fund transit or other public improvements.

Like São Paulo, New York City has integrated the sale of development rights into land use planning for specific neighborhoods. For example, the city recently rezoned the area surrounding Grand Central Terminal and relaxed its rules to allow for the sale of development rights throughout an 80-block area. The city will collect a 20-percent fee for each sale to help fund renovations of subway stations, new plazas, pedestrian- and bicycle-friendly street upgrades, and other public improvements.

The auction of development rights could become increasingly attractive as U.S. cities seek to densify to address environmental challenges, traffic problems, and the lack of affordable housing.

“The up-zoning incentives that underlie CEPACs may be just the catalyst needed to trigger robust transit-oriented development projects in major U.S. cities that have yet to be materialized,” writes Kim.

Photograph Credit: Virtual VV (Getty Images)

In the nineteenth and twentieth centuries, middle neighborhoods sprang up to house middle-income families drawn to U.S. cities by the dramatic rise of industry. Today, middle neighborhoods in “magnet” cities like Seattle, Washington, or Washington, DC, have seen impressive revival or gentrification, but, in legacy cities like Baltimore, Maryland, or Cleveland, Ohio, they often face decline. Often overlooked, middle neighborhoods matter—both to the people who live in them and to their cities and regions—and solutions demand engagement not only from the neighborhood itself but also from the city, region, and state. Nothing less than the fate of millions of people and dozens of cities lies in the balance.

Land value capture—the concept behind several mechanisms to finance infrastructure, affordable housing, and other key components of urban development—was rich food for thought at the Daniel Burnham Forum on Big Ideas at the American Planning Association Policy Conference last month in Washington, DC.

As a policy approach currently being deployed around the world, land value capture enables communities to recover and reinvest land value increases that result from public investment and other government actions, such as rezoning. Also known as value sharing or value recovery, it is rooted in the notion that public action should generate public benefit.

The concept of land value capture has a long history, dating from the Roman Empire and including Baron von Haussmann’s 19^th-century redevelopment of Paris, said Anthony Flint, senior fellow at the Lincoln Institute of Land Policy, who introduced an expert panel at the plenary session of the conference. The concept also traces its roots to the American political economist Henry George, who observed during the Gilded Age that private landowners were reaping the benefits of urban development and public investment through no effort of their own. George advocated for the land value tax—a more honest assessment of the way public actions boost the value of land—as a remedy.

Many well-known economic development and public finance tools in the United States are actually instruments of land value capture, even if they’re not labeled as such. These include, for example, density bonuses and inclusionary housing policies, which require developers of new residential projects to provide a portion of affordable homes (affordable housing was a major theme throughout the conference). Other land value capture tools include special assessments, developer exactions, betterment contributions, linkage fees, improvement districts, community benefit agreements, the transfer of development rights, and land assembly or land readjustment.

Cities around the globe have deployed other innovative land value capture mechanisms. In London, for example, the regional transit agency is helping to pay for its massive new CrossRail project by measuring and recovering increased adjacent property values resulting from the infrastructure. The city of São Paulo, Brazil, has raised billions of dollars by auctioning development rights on the stock market through an instrument known as CEPACs. Under Hong Kong’s “rail plus” model, the public transit agency partners with developers to build along rail lines and shares in the profits.

In the United States, land value capture is funding infrastructure at San Francisco’s Transbay Transit Center and New York’s Hudson Yards. New York Governor Andrew Cuomo proposed special assessment districts at new transit nodes, where developers and landowners benefit from the proximity of a station.

Julie Kim, program developer at Stanford University’s Global Projects Center, highlighted how land value capture can make local governments more fiscally independent. She said local governments must demonstrate how public projects increase value for the private sector in a direct and measurable way. She said reciprocal arrangements have come to be expected: if developers receive density bonuses, for example, they know they’ll need to provide more affordable housing in exchange.

Gerald Korngold, professor at New York Law School, contextualized the legal and constitutional framework of land value capture. He emphasized that while land value capture is not a widely used phrase in the United States, the policy tools are commonplace. “This is not some odd, newfangled idea,” he said. “It has been part of U.S. municipal finance for well over 150 years.”

Korngold said value capture policies need to be consistent with constitutional protections of property rights—specifically the Fifth Amendment stating that private property cannot be taken for public use without just compensation. Over time, landowners have challenged various regulations and requirements as a de facto “taking.” Korngold surveyed the history of U.S. property rights jurisprudence—from Justice Oliver Wendell Holmes’s caution in Pennsylvania Coal v. Mahon (1922) about government regulation that goes “too far” to Nollan v. California Coastal Commission (1987) and Dolan v. City of Tigard (1994), which established that exactions or contributions from landowners must have an “essential nexus” and “rough proportionality” between government demands and a project’s adverse impacts. In 2016, in of the most recent significant cases, the Supreme Court let stand an inclusionary housing ordinance in San Jose, which is not subject to the Nollan/Dolan test because it is designed to improve the public welfare, according to the California Supreme Court.

Michael Alexander, director of the Atlanta Regional Commission’s Center for Livable Communities, zeroed in on new partnerships and approaches to financing infrastructure and urban redevelopment in the Atlanta area. Local governments in Georgia use financing tools such as tax allocation districts (TADs) and community investment districts (CIDs). CIDs, which are self-taxing districts blended with public-private development finance strategies, have financed projects such as the new streetcar extensions in the Atlanta metro region.

The panelists agreed that the goals of financing infrastructure and more equitable urban development were paramount—especially in the absence of a national plan for urban infrastructure. There is no substitute for government funding and borrowing, but land value capture can be a critical supplement.
 

This article was also published by the American Planning Association.

Photographs: Pixelme Studio