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Sales-Tax TIF for Cedar Rapids: Poor Solution to Big Need

Better Alternatives Exist for Financing Flood Protection

IFP Policy Brief — By Peter S. Fisner
Policy brief (4-pg PDF) March 30, 2011

Cedar Rapids Mayor Ron Corbett has come calling at the State Capitol seeking support for a plan to help his city recover from the devastating floods of 2008. He arrived with a plan that lawmakers have seen before from others — and approved with the promise that it was a one-time arrangement.

The proposal: a tax-increment financing plan using sales-tax revenues, known as a sales-tax TIF. (The city calls it a “Growth Reinvestment Initiative” or GRI.) This would permit diversion of sales-tax revenue from the state general fund to local projects, much as lawmakers permitted in 2005 for the Iowa Speedway project in Newton, but on a much larger scale. That arrangement was for a maximum of $12.5 million; the Cedar Rapids proposal would cost $200 million to $214 million over 20 years. [1]

Simply put, the rest of Iowa would be paying for the cost of Cedar Rapids flood levee construction, to the tune of $14 million per year for 15 years. If Iowa lawmakers believe flood devastation presents special circumstances that require a state and not a local response to this, then they should do so by putting such funding into the state budget. But if Cedar Rapids receives this GRI as a sales-tax TIF, the argument could (and doubtless will) be extended to any other city putting in a waste treatment plant or a convention center. Promoters of one economic activity or another will seek a special TIF to finance their project, ultimately at the expense of taxpayers throughout the state.

The case for the GRI rests in large part on a very faulty assumption: that the state will actually gain general fund revenue by allowing a TIF diversion of sales taxes. As we show below, there are good reasons to be highly skeptical of such claims. Furthermore, better alternatives exist for financing flood protection in Cedar Rapids that do not establish a new mechanism to drain money from the state general fund. In particular, state law already provides for the creation of a levee district, which would be the logical way to finance construction of levees and floodwalls.

The Iowa Fiscal Partnership warned in 2005 that the Newton project would encourage other cities to seek similar subsidies from state funds. A proposal emerged last year for legislation that would have permitted all Iowa cities and counties the power to redirect state sales-tax revenues to local projects.

And now Mayor Corbett is reminding the Legislature: “You approved a similar plan for the city of Newton to support the development of the Iowa Speedway. You recognized an economy that needed a boost, and helped it fund an entirely new revenue source for both the state and its community. If a speedway is worthy of your investment, surely disaster prevention is as well.” [2]

It is not hard to imagine how similar arguments will be made now, and on into the future, for why some other city or county should not be allowed the same opportunity to divert state sales-tax revenue from the general fund for a worthy local cause. And in fairness, how will others be denied? But if localities can opt out of paying a portion of state tax revenues, who will be left to fund state services?
We do not question here the merits of the Cedar Rapids flood-relief projects. But it is incumbent upon lawmakers to carefully examine the method being proposed to finance them and to consider alternatives that do not present the worrisome issues raised by a sales-tax TIF.

How a Sales-Tax TIF Works

Instead of diverting property-tax revenues from local governments to finance a city development project, a sales-tax TIF takes increased state sales taxes from a designated region, and sends them to the city to finance a city project instead of to the state general fund. Cedar Rapids is proposing to take all or a portion of the increase in state sales taxes in Linn County above the base-year amount (2011 revenues), including the 1 percent for school infrastructure, until its share of the increment reaches $13 million to $14 million annually, where it will remain until the city has collected the total amount it needs: about $200 million.

The sales-tax TIF shifts responsibility to fund local needs from local taxpayers to state taxpayers, outside the general fund appropriations process. The proposed sales-tax TIF amounts to an annual state appropriation of around $14 million to the City of Cedar Rapids from the state general fund for the next 15 years. Calling it a TIF or a GRI should not obscure what is really being proposed — a direct ongoing state subsidy.

The Proposed TIF is Costly to the State

The City of Cedar Rapids has presented figures that show the city wants to claim just a portion of the increase in county sales-tax receipts over the next 15 years, with the remainder of the increase flowing to the state. City officials then assert that the growth in county sales will be substantially higher with flood control projects in place, allowing them to show a sizable surplus in sales-tax revenue to the state in spite of the city’s diversion of $200 million.

Supporting evidence for these claims was not supplied, and we doubt that credible support can be found. The city projects annual sales growth of 2.0 percent to 3.6 percent over the next 15 to 20 years. [3] Linn County sales-tax revenues grew about 1.9 percent per year between fiscal years 2000 and 2008, so anything much over 2 percent is pretty optimistic. Furthermore, the flood actually provided a strong boost to sales-tax revenues reported in fiscal 2009, as recovery efforts boosted sales in areas such as building materials and home furnishings. Retail sales are not down due to the flood, they are up, so one cannot justify flood protection investments as a way to restore sales from their current depressed state. [4]

The city claims that embarking on flood-control efforts will somehow boost retail sales immediately, many years before the flood walls are actually in place and providing protection to retail establishments. Once the system is in place, there may indeed be some small bump in retail space in flood-prone areas, but even this is likely merely to shift retail sales around within the county, with little or no net gain in overall county sales taxes. The flood-control project itself will do little for overall county retail sales; the city is exempt from paying sales tax, and purchases of building materials by contractors are not subject to state sales tax when the materials will be used in a structure for a tax-exempt entity.

There are no grounds for projecting any substantial boost in Linn County retail sales as a result of the state’s approval of a sales-tax TIF. As a result, a diversion of state sales-tax revenues from the state general fund will produce revenue losses to the state.

There are Good Alternatives to a Sales-Tax TIF

One alternative that has been proposed is to allow Cedar Rapids to levy an additional local-option sales tax. A tax of 1 percent would raise about $26 million annually if levied just within Cedar Rapids and returned to the city; thus a one-half-cent levy would be adequate to meet flood control needs of $13-$14 million per year.[5] Alternatively, the existing Local Option Sales Tax law could be modified to allow a maximum of 2 cents or 1.5 cents rather than 1 cent (for a limited period, and only in counties experiencing some substantial amount of property loss due to natural disaster). This would require a countywide referendum and countywide sharing of revenues.

A second option would be to finance flood improvements with bonds retired from property taxes. While the effect of flood relief investments on countywide sales tax revenues is likely negligible, there is a much clearer connection between flood protection and property values. Without flood protection, those purchasing properties in the vulnerable areas of the city assume a risk of property loss or an expense of flood insurance, and either factor can be expected to drive down what buyers are willing to pay and hence lower taxable valuation and property tax revenue. The higher property tax revenues produced by flood-control investments should provide a stream of revenues with which to repay flood-control bonds. In fact, a flood-control property tax TIF established in the area protected by the city’s proposed investments is a much more logical and defensible financing mechanism and does not involve the state’s taxpayers.

A major impediment to this alternative is the constitutional limit on general obligation (GO) debt, since TIF debt has been ruled by the courts to be a form of GO debt. [6] The city may well need all of its bonding authority for other flood-control and public works projects for the foreseeable future. If, however, the city were able to create a levee district (or if the county were to create such a district on behalf of affected city taxpayers), the district could then issue the bonds, to be retired from an additional property-tax levy within the affected area. The bonds would not then be a general obligation of the city. Iowa law already allows formation of a Levee and Drainage District by the county board of supervisors, though some modification of the statute (Chapter 468) might be needed to accommodate an urban levee system and other improvements for flood control. [7] The Legislature could authorize a levee district to establish a Tax Increment Financing area (coincident with the levee district) so that the bonds would be retired from the increase in property values in the area rather than on all valuation.

Conclusions: Look Before You Leap

The flood-control projects in Cedar Rapids can be financed without establishing another dangerous precedent for tax-increment financing that could evolve into a permanent drain on the state general fund as more and more communities jump on the bandwagon. We need only examine the history of property tax TIFs and enterprise zones: The program may start small and limited, but it will be very difficult to contain.

If legislators agree that state funding is appropriate, then they should do so in a straight-forward fashion, through an appropriation or through a grant from the Rebuild Iowa or Vision Iowa program. But there are alternative ways for the City of Cedar Rapids to finance these projects. A one-half-cent additional city sales tax for 15 years would raise the same amount of revenue as the proposed TIF. A second alternative is simply to use existing law permitting the establishment of a levee district with its own property tax authority, perhaps modifying the law to permit a property tax TIF for the district. There is a clear connection between the protection of property with flood walls, and the increased property values and revenues that follow, and this revenue stream should be tapped to pay for the flood protection. This method has the virtue of requiring the property owners who directly benefit from the improvements to pay for flood control out of the increase in value that they will enjoy. And the property tax will take only a small percentage of the increase in wealth created by floodwalls.


[1] Mayor Ron Corbett, “Cedar Rapids/Linn County Growth Reinvestment Initiative.” Powerpoint presentation, March 17, 2011.
[2] Mayor’s GRI Presentation to Iowa Legislature, February 14 & 15, 2011. http://www.cedar-rapids.org/city-council/legislativepriorities/GRI/Documents/Mayor%27s%20GRI%20Presentation%20FINAL.pdf
[3] The 3.6 percent figure comes from the state’s Revenue Estimating Conference forecast of statewide growth in retail sales taxes for next fiscal year.
[4] Sales tax data can be found at: http://www.recap.iastate.edu/retail/files/retail_1912000.pdf
[5] Taxable retail sales in Cedar Rapids totaled $2,645 million in fiscal 2010, according to the Iowa Department of Revenue statistical report at http://www.iowa.gov/tax/educate/statreports.html#SalesUse
[6] The City of Coralville, however, has issued TIF bonds as “annual appropriation debt” which has been ruled not to be long term debt and therefore not to fall under the GO debt limits.
[7] Alternatively, the special charter city law authorizing Davenport’s Levee Improvement Commission (chapters 420.155 and 420.17) could be adapted for Cedar Rapids (which is not a charter city), though this law merely authorizes a levy (with a limit) and bonding authority (also with a limit) and does not allow for a special district.


P Fisher picture

Peter S. Fisher is research director of the Iowa Policy Project. He holds a Ph.D. in economics from the University of Wisconsin-Madison. Peter is a national expert on public finance and has served as a consultant to the Iowa Dept. of Economic Development, the State of Ohio, and the Iowa Business Council. His reports are regularly published in State Tax Notes and refereed journals. His book Grading Places: What Do the Business Climate Rankings Really Tell Us? was published by the Economic Policy Institute in 2005. Peter is professor emeritus of Urban and Regional Planning at the University of Iowa.

 
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