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Cities Take a Second Look at Impact Fees in Hard Times
 With building permits in sharp decline because of the current housing downturn, and local government revenues from impacf fees on new construction dwindling as a result, now may be a favorable time for home builders associations to present municipal governments with alternatives to impact fees to pay for local infrastructure needs, according to panelists participating in an April 21 NAHB Web seminar on the “Top Trends in Impact Fees.”
This is also a period when builders should be extra vigilant about what their local jurisdictions are doing, because impact fees are up dramatically in the 27 states where they are used, and there are a number of ways in which the development community is being grossly overcharged for its impact on the community, the panelists said.
J. Michael Noonan, chairman of the NAHB Land Development Committee and Minnesota division president of Rottlund Homes, noted that the association has “a long history in providing help to its members on infrastructure finance” issues.
Noonan directed builders, HBAs and local governments looking for resources on municipal finance tools to www.nahb.org/infrastructurefinance. At this address, NAHB members can find many resources and publications they can download for free — including the NAHB "Impact Fee Handbook," which was updated last year, a three-part series of reports on infrastructure finance alternatives and a new "Impact Fee Rollback Resource Guide."
Also available are contacts in NAHB’s Land Development Services department who can provide technical support and access to experts in municipal finance.
“Stay alert in today’s financial environment,” warned Noonan. “Many municipalities are looking for ways they can raise revenues to make up for financial shortfalls. Impact fees are the goose that laid the golden egg, but they just can’t enact them without having enabling legislation from the state and following the process that is spelled out there.”
Based on research by his company, Carter Froelich, managing principal, Development Planning and Financing Group., Inc., said that average national impact fees have climbed from $13,441 per home in 2003 to $22,759 last year — a 69% increase.
Exactions for “general government” rose the most over that period — 263% — from $346 to $1,257, he said, and charging impact fees for such capital improvements as performing arts centers and city halls has become a growing trend.
Rulings in two U.S. Supreme Court cases on what impact fees can legitimately be used to pay for — Nollan v. California Coastal Commission and Dolan v. City of Tigard — suggest that many municipalities are asking builders and new home buyers to pay for improvements that should be the responsibility of the local taxpayers, Froelich said.
In Nollan, the court ruled that there must be a “rational nexus” — or direct relationship — between the new residential development and the impact fee, he said. And in Dolan, the justices ruled that the fees must be roughly “proportionate” to the impact of the new housing on the existing infrastructure.
The panelists discussed three trends that are occurring with the establishment of impact fees nationally:
- Service Areas. Municipalities are creating such large service areas that the costs of improvements in those areas are not necessarily going to the users that would directly benefit from the improvements, said Froelich. For example, Phoenix uses 14 different service areas to allocate impact fees, but the town of Buckeye, Ariz. to the west, which takes up a geographically larger area than Phoenix, utilizes only one service area for the entire community, “potentially leading to abuses,” he said.
Localities are using this method to allocate costs, he said, because it gives them the flexibility to spend impact fees collected in one part of the municipality for another. This can lead to unfair distribution of infrastructure costs, promoting development in undeveloped areas and penalizing development in parts of the city that are better served. Under a regional park fee, a resident who lives in the north might be paying for a park near his home but also for a park in the south he will never visit.
- Regional Transportation. In today’s slow economy and with government revenues sagging, jurisdictions are collecting impact fees to pay for regional highway networks, including state and federal highways, Froelich said.
Frustrated by the slow rate at which they are receiving state and federal funds to expand the freeway system in its area, the city of Stockton, Calif. has proposed increasing its transportation fee by more than 70% — from $15,500 to $26,500 per new home, he said.
The problem here, Froelich said, is that the city is attempting to implement a new level of service requirements on new growth, raising impact fees to correct existing deficiencies with the freeway system.
- Size-Based Methodologies. The use of a tiered system of impact fees determined by the size of the house — measured by its square footage or number of bedrooms — is increasing dramatically, said Thais Austin, NAHB’s infrastructure and public finance specialist. The impact fee consultants promoting this approach “claim it’s a way to make fees less regressive for low-income buyers” and that it is more precise in determining the impact of a home.
NAHB is conducting research on the validity of this method, Austin said, but it does raise the concern that other impact fee payers are making up the difference. “If the municipality wants to establish these and charge lower-income households lower fees, it should be up to them to make up the difference,” she said.
No matter what method they are using, jurisdictions commonly make mistakes in calculating impact fees, Froelich said, and builders should look at this process carefully. For a start, the cost of the capital improvements should be based on a capital improvement program (CIP) in which the municipality projects the amount of infrastructure that will be needed as the city grows over a given period of time.
“The lack of a CIP severely weakens the basis for an impact fee,” said Austin, who added that she would encourage HBAs to get into a discussion with cities that don’t use CIPs to start doing so. “It provides accountability in the process,” she said.
Among common mistakes cited by the panelists that can impose an unfair cost on housing:
- Fee studies are based on land and construction costs that occurred at the height of the housing boom. Froelich cited the example of a report showing the acquisition of public land at $100,000 an acre when the market had declined to $20,000 an acre.
- Construction cost assumptions are not being offset by other revenues collected from federal and state government to construct these facilities.
- Construction costs are also not being offset by the new revenue sources created by new growth that will be used to pay for the capital facilities. These include fees for water and sewer use, construction and property taxes, general obligation bonds and more. A community’s CIP costs can be inflated by more than $400 million, he said, when additional revenues generated by new growth are not taken into account. Montana, Idaho and Arizona are states that spell out that the offsets must be taken into consideration when the fees are calculated.
- Not identifying service areas may drive up fees; the varying topography within a city, for instance, may make the costs of building water and sewer more expensive in one part of the city than another.
- Impact fee studies may not comply with what is required by the state; it’s important for builders to have a good understanding of the statutes allowing impact fees.
- Reports can contain mathematical mistakes and inconsistencies.
Cited by the speakers on the NAHB panel as a positive trend, some cities are pushing back the time at which the impact fee is charged. Nationally, the fees are most commonly due at the building permit stage, said Austin, but some are now due at the time of closing.
“The deferral of impact fees to the actual revenue event is a good thing in tough economic times,” said Froelich, giving the builder “a temporary reprieve.”
Austin noted that it is logical to charge the fees late because “the impact on the city doesn’t occur until the resident occupies the home.” However, builders who are lucky enough to live in a place that defers the fee should still determine the amount that will be due as early in the process as possible so that they can more accurately figure their development costs.
Hard economic times are also putting jurisdictions in a state of mind where they are more willing to consider alternatives to impact fees, panelists said, and rollbacks and moratoria are occurring.
Impact fees are “an economically sensitive financing tool,” said Austin, and subject to the ups and downs of the housing cycle.
Last month, she said, the mayor of the city of Albuquerque, N.M. proposed a reduction in impact fees in order to encourage new construction activity and create jobs. That was not a difficult step to take because residential building permit activity in that market has plummeted from 300 to 400 per month to only around two dozen, putting the community at risk of having to refund fees for improvements it can no longer afford to make.
Froelich said that most states require funds that have gone unused for a specific period of time to be refunded to the entity that paid them, although he has not seen it happening.
Among alternative funding sources suggested by the panelists, municipalities should consider special purpose taxing districts, where bonds are issued to build facilities benefitting the area of growth. “The only people who pay are the residents who benefit from that infrastructure,” said Froelich, and this approach “is being used more and more.”
Another financing source worth considering is tax increment financing, which is used primarily in redevelopment areas but can be applied to new growth in some districts. Under this approach, the property tax base is frozen, development occurs in the area and as property taxes increase, that added revenue is used to fund improvements.
Builders may want to consider having states pass new laws to implement some of these alternatives, Froelich suggested, such as the state of Idaho, which recently used legislation to establish additional funding mechanisms for construction of roadways.
Austin, who has expertise in writing legislation related to impact fees, noted that encouraging states to improve their statutes on fees or write new ones is a good stratagy for housing.
Included in such a law should be a requirement for jurisdictions to reduce the impact fee based on the new cash that will flow from the improvement, which is known as the "offset." Also, communities should not be allowed to increase standards for new development above those that exist elsewhere in the community. The fees should be required to be based on a technical study so that the determination is driven by actual facts and true costs. Service areas should be used, and the law should specify a process for refunding fees not spent.
“I like to see impact fees defined in statutes, because then you have a legal basis and a methodology that can be utilized, providing guidance to the jurisdiction and transparency to home buyers that they aren’t being taken advantage of,” said Froelich.
In searching for better ways to finance needed improvements, “it’s always better to work with the municipality than against it,” said Austin. Home builders associations “working in partnership with the community make more progress. The best situation is where all the parties work together to find a financing solution.”
For more information, e-mail Thais Austin at NAHB, or call her at 800-368-5242 x8343.
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