Do local financing mechanisms in the U.S. encourage property development at the expense of public education?

A common local financing mechanism known as Tax Increment Financing is a favored policy tool in the United States for revitalizing blighted properties, and, in some cases, even jumpstarting economic development. But this tax incentive also is highly controversial because it appears to short-change other local government bodies that depend on property taxes for the bulk of their funding, particularly public school systems.

On one hand, Tax Increment Financing is self-sustaining: Instead of relying on voters to approve increases in tax rates to finance redevelopment, the policy tool earmarks the future gains in property tax revenues that come along with a TIF district’s improvements to pay for development in the first place. So, for a given period of time, the additional revenues are funneled to the TIF authority or municipality.

On the other hand, this means that over the lifespan of a TIF district, overlapping tax bodies—such as park districts, counties, and especially school districts—do not benefit from the growth in property tax revenue. In many cases, these other taxing jurisdictions have to wait for more than 20 years to reap any new tax revenue due to TIF-driven property development.

So how much of an impact does Tax Increment Financing have on the performance and upkeep of overlapping jurisdictions? Most critically, given what we know about the relationship between property taxes and public schools, do TIF districts negatively affect school districts?

Recent research by University of Iowa’s Phuong Nguyen, an urban planning and education policy researcher, hones in on the latter question by looking at the case of Iowa, a state with more than 2,200 TIF districts and 297 school districts housing at least one TIF district between 2001 and 2011. Nguyen finds that as TIF usage increased in Iowa, education expenditures decreased, with larger negative price effects on school districts located in lower-income areas. The effect of Tax Increment Financing on the lowest-income school districts’ expenditures was close to double the size of the average effect.

In other words, schools that are in blighted neighborhoods see reductions in funding thanks to Tax Increment Financing. To make matters worse, even after TIF districts are closed, Nguyen does not find that the additional revenues brought in by revitalization or redevelopment helped increase school district spending, rebutting the argument that school districts “eventually” would benefit from TIF developments.

An older study of Tax Increment Financing’s effect on school districts in Illinois, another heavy-user of TIF, by University of Illinois at Chicago researchers Rachel Weber, Rebecca Hendrick, and Jeremy Thompson, encountered similar results, albeit to varying degrees in different geographies. In places such as Chicago and Cook County, as well as Illinois’ upstate suburbs, TIF districts had very little effect on school district finances, largely because school districts in these areas benefitted from the revenues from new development in non-TIF districts. But less-populated and lower-income urban school districts outside of the Chicago-area were not as fortunate, underscoring that neighborhood contexts matter a great deal to whether Tax Increment Financing is helpful or harmful.

Both of these papers raise credible concerns about the impact of Tax Increment Financing on public school funding amid a sea of local stories, complaints, and anecdotes about this controversial development policy tool. The papers also offer clues about what can be done to make Tax Increment Financing more equitable. One simple change that a few states already have implemented is to permit overlapping jurisdictions, particularly school districts, to opt out of Tax Increment Financing projects. In the same vein, giving school boards more opportunities to reach inter-governmental agreements—such as piece-meal releases of portions of TIF districts as they are completed—could free up property tax revenue in a more timely manner.

Additionally, measures such as reducing the physical size of the TIF districts so they do not capture large swaths of communities’ property tax revenues can ensure school districts and other jurisdictions do not lose out on too much money during the TIF period, no matter its length. Then there’s a totally different approach to protecting schools from the effects of Tax Increment Financing—school finance reform. School districts’ reliance on property taxes is problematic not only during TIF periods but also in general because of the disparities in per-pupil expenditures based on local tax property revenues.

A statewide educational aid formula—usually supported by state-levied sales taxes—could help mitigate the negative effects of Tax Increment Financing on public school expenditures and go well beyond that goal to help all low-income school districts. According to research by Equitable Growth grantee Jesse Rothstein at the University of California-Berkeley and his collaborators Julien Lafortune at UC-Berkeley and Diane Whitmore Schanzenbach at Northwestern University, school finance reform can help close the test score achievement gaps between high- and low-income school districts.

Armed with a collection of ways to improve Tax Increment Financing, state and local policymakers might be able to tackle their infrastructure problems and their education problems simultaneously.

(Photo by Mel Evans, Associated Press)

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