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The Effects of Development Impact Fees on Local Fiscal Conditions

Gregory S. Burge

May 2010, English

In this paper, Gregory S. Burge examines user fees and charges and their direct and indirect fiscal impacts. Among such levies, development impact fees have become most popular in U.S. cities. These fees are one-time levies assessed on developers during the permitting approval process. Revenues generated from impact fees are normally used for investments in specific facilities such as roads, parks, public utilities, schools, and libraries. Impact fees have the potential of making urban development pay for itself, thus imposing few negative externalities on existing residents.

The principle behind impact fees is to assign the costs of infrastructure requirements for new development to the parties that generate the need (the socalled rational nexus). Due to this linkage, the direct fiscal effects of impact fees come from revenue increases generated from fee collections and additional expenditures on infrastructure development. If the total amount of impact fees collected equals the total cost of facility investment, the net fiscal effect will be neutral. Burge argues that impact fee levels in the majority of communities examined in previous research are set at or below the full marginal cost of infrastructure construction. Thus, subsidies are normally required for new development. Certainly, had there been no impact fees, public subsidies would have been ever larger, adding more pressure on local budgets that are already under stress. Besides, savings from subsidies could be reallocated to finance other local services.

The indirect fiscal effects of impact fees operate primarily through their influences on the property tax rate and base. Critics of impact fees argue that these development charges discourage economic development and stifle employment, which can lower the demand for residential and commercial properties. Weaker demand will cause housing values to drop and shrink the property tax base. If the tax rate remains unchanged, total tax collections will drop.

As Burge asserts, many existing studies have shown that residential impact fees increase property values, with new and existing homes experiencing a similar price effect. Specifically, nonutility impact fees have significant positive effects on job growth and the construction rates of larger single-family units in inner and outer suburban areas. With the increase in the supply of residential and nonresidential units of higher value, the property tax base expands. As the tax rate adjustment lags behind the rise in property values, ceteris paribus, property tax collections increase. Conversely, commercial impact fees tend to discourage development and employment, thereby lowering investment and the supply of commercial properties. With fewer commercial properties but a rise in their value due to the decrease in supply, the fiscal effect of commercial impact fees is ambiguous. On balance, Burge asserts, impact fees should be able to augment local revenue. The key to this argument is that cities must substitute monetary exactions for other growth regulations to facilitate new development and do not use impact fees as an additional restriction to curb growth.

This paper was presented at the Lincoln Institute’s Land Policy Conference of 2009 and is Chapter 7 of the book Municipal Revenues and Land Policies.