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Does TIF Make It More Difficult to Manage Municipal Budgets?

A Simulation Model and Directions for Future Research

David F. Merriman

May 2010, English

Tax increment financing districts (TIFs) are an approach that involves the designation of a special district to create a nexus between revenues and spending. TIF districts are authorized in almost every state in the United States except Arizona. In 2007 there were about 291 TIF districts in 51 cities and four counties. Funding for TIF districts is mainly from property tax collections. In California, property taxes collected from TIF districts accounted for 10 percent ($2.1 billion) of the state’s total property tax revenue in 2001.

The property tax base in a TIF district is divided into two portions. The first portion is the total assessed taxable property value at the time of designation. The second portion is the increment of the assessed value after the adoption of TIF. Property owners within the TIF district are required to pay the existing property taxes based on the first portion of the assessed value. They also pay additional taxes assessed on the second portion of the tax base at a rate that is the sum of the existing municipal tax rate plus the TIF rate. These collections will be retained by the district for financing economic development. In this paper, David F. Merriman, argues that the experience of the TIF is mixed and he focuses on how TIF might add volatility to municipal budgets.

TIF will affect municipal revenues in two ways. First, when a TIF district is in operation, the municipality will lose property tax collections from that area because the tax base is frozen. All general increases in real estate value will be included in the TIF property tax base. Second, at the end of the TIF agreement, the entire TIF property tax base will go to the municipality as a one-time fiscal payoff. To measure how these arrangements may affect the revenue stability of cities that use TIF, Merriman simulates changes in the tax base of a municipality that has 20 neighborhoods, each of which has an equal chance of being included in a TIF district. The duration of the TIF district is 25 years. The model tracks the market value of properties in TIF and non TIF neighborhoods for 100 years

based on 1,000 simulations.

Assuming a uniform 6 percent growth of property values across TIF and non TIF neighborhoods, Merriman finds that the average municipal tax revenue will slowly fall below 6 percent because the city does not have access to the increment within the TIF district. After 25 years, municipal revenue jumps about 15 percent as the city receives the entire tax base from the dissolved TIF district. Merriman then runs two sets of simulations with the TIF district growing faster than the surrounding neighborhoods. The first set assumes a causal relationship between TIF and the differential growth rate, and the second set supposes no relationship. In both cases, the decline in the municipal tax base is much more erratic than the changes predicted under the assumption of uniform growth. Based on these outcomes, Merriman concludes that TIF districts add long-term volatility to municipal budgets.

This paper was presented at the Lincoln Institute’s Land Policy Conference of 2009 and is Chapter 11 of the book Municipal Revenues and Land Policies.