ISU Study Questions the Effectiveness of Special Tax District

July 2nd, 2002

AMES, Iowa - In an effort to spur economic development, Iowa cities have steadily increased their use of a special type of tax district. Yet an analysis by researchers in the Iowa State University economics department questions whether the benefits outweigh the public's costs.

Research scientists David Swenson and Liesl Eathington studied the growth of tax increment financing (TIF) districts in Iowa, and whether they have resulted in community and regional economic, demographic and fiscal growth.

The idea of a TIF district is simple. An area in need of an economic boost is designated as a TIF district by a city and the taxable value of that district is frozen at its current value, called the base. All jurisdictions that had taxing authority over the newly formed TIF district still have taxing authority over the base.

The city then prepares the district for development, and the difference between the base and the full value of taxes, called the increment, is retained by the city to pay off its development costs. When the city's investment costs are paid off, the other taxing jurisdictions receive full tax payments again.

"The process looks good on paper," Swenson said. "The city declares an unproductive area a TIF district and assumes the risk. If the trend is to be believed, the city is actually acting in all of their collective interests. New growth is spurred and the public realm as well as the private are enhanced."

The Iowa law that established the TIF district concept allowed these districts to be used only in blighted areas. But changes to the law in 1985 and again in 1996 made it possible for TIF districts to be established for more general purposes.

Those changes led to a significant increase in the use of TIF districts by cities. In 1989, there were 126 cities with TIF ordinances. By 1999, there were 323. In 1989, the taxable valuation of TIF districts in Iowa's cities was nearly $650 million. In 1999, that figure was $4.2 billion.

Swenson said with the widespread use of TIF financing among Iowa cities, he and Eathington felt they could look at a set of variables at the county level that would evaluate the success of TIF financing. "The TIF ultimately is supposed to increase and enrich the tax base through job growth, population retention or growth, earnings gains and trade enhancement. But between 1989 and 1999, our analysis shows TIF-increment spending at the county level has not yielded measurable and distinct fiscal, economic or social outcomes," he said.

TIF spending takes several forms. Communities may use the tax revenues to improve a site for industrial development or rebate taxes paid by developers and industries in the TIF districts to pay for land and site improvements. The TIF revenues also can be refunded to the industry or housing developer as an economic development incentive.

During the 10 years studied, Iowa enjoyed nonfarm job growth of about 320,000 but only 150,000 more in population. The current statewide average per year for TIF spending per new nonfarm job is $3,057 and per new resident is $6,481. "Relative to job and population yield, the costs of TIF activities in the state appear to be very high," Swenson said.

The Iowa State University study yielded several conclusions:

- The ease with which TIF districts can be designated in Iowa, along with the multiplicity of uses for TIF districts, amounts to an entitlement for new industry and housing development.

- Iowa counties are burdened by TIF districts since they primarily depend on property taxes to finance county-level services.

- Iowa schools are held partially harmless, because state aid kicks in to offset a substantial portion of the erosion in tax base. But with a tightening state budget, that offset could become a greater problem.

- Existing businesses, industries, farmers, wage earners, retirees and property owners are aggressively subsidizing business growth and population since their taxes often increase to make up for the loss of tax revenue caused by TIF districts.

"This analysis suggests that the enabling legislation for tax-based incentives deserves revisiting," Swenson said. "Though the TIF program is highly popular among city government officials, there is virtually no evidence of broad economic or social benefits in light of the costs."

A paper summarizing the ISU study is available on the Internet at: http://www.econ.iastate.edu/research/webpapers/NDN0138.pdf

Contacts: 

David Swenson, Economics, (515) 294-7458

Susan Thompson, Agriculture Communications, (515) 294-0705