Using the Economic Value Created by Transportation to Fund Transportation (2014)

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5 BACKGROUND, MOTIVATION, AND STUDY OBJECTIVES In recent years, smaller state and local budgets combined with growing transportation capital and maintenance costs have resulted in substantial shortages in transportation funding. With the growing realization that the cost of transportation will not be met sufficiently with existing funding mechanisms, new methods to aid the current system have been studied. This synthesis captures current state-of-the-practice mechanisms with respect to how agencies capture the benefits and seize the opportunities presented and created by transportation to fund transportation with a focus on value capture (VC) mech- anisms. This synthesis is intended to provide transportation professionals and other practitioners interested in applying such mechanisms with insights into considerations in adopting some of these mechanisms for the purpose of funding trans- portation investments. Although the focus in this synthesis is on highway investment funding and finance, some of these mechanisms are common and equally applicable to transit. Through narrative and visual descriptions and discussions of the mechanism in general and in the context of case examples drawn from within the United States, this synthesis serves to inform the planning practice on the key points noted here: 1. It documents the state-of-the-practice VC mechanisms for capturing a portion of the economic value gener- ated by public investment in transportation infrastruc- ture to fund transportation improvements (with a focus on highway investments). 2. It identifies how the specific features of the ideal VC system are realized and furthers the understanding of the implementation of the mechanisms with respect to: a. Who is the value realized for and how will that be captured? b. What mechanism is used to capture that value? c. How will the VC mechanism be structured and designed? VC mechanisms involve the determina- tion of many factors as part of a feedback loop. These in turn may be broken down into design aspects and implementation aspects, each of which will be addressed in the synthesis: • How is the boundary area determined? • What is the duration of arrangement? • What is the rate basis for capturing value? What, if any, are the issues in rate setting? • How is equity considered in the context, if at all? • How much is the revenue potential, and how is revenue collected? • What has been the performance of the approach used? • What are the special features of the mechanism adopted, if any? d. What is the legal framework that allows the meth- ods to be used for highway funding? e. What are the local partnerships, and who are the key players implicit in the arrangements? f. What are challenges in the adopted VC mechanisms? This synthesis is not intended to provide any recommenda- tions or to serve as a guidance document. It is intended to be merely a compilation of the state of the practice with respect to the adoption and implementation of VC mechanisms. The American Planning Association (APA) and National Asso- ciation of Home Builders provide guides on one of these mechanisms—impact fees (IFs). Similarly, some states pro- vide guidance on the development of special assessments. However, this synthesis is intended to clarify some prevailing issues in the practice with respect to these mechanisms. METHODOLOGY AND STUDY APPROACH The study approach for this synthesis featured two primary components: a literature review and telephone/e-mail inter- views with key staff involved with or aware of the develop- ment or implementation of practices that were adopted and noted by them as successful. The literature review included searching and reading professional journals and publications from the Transportation Research Board–Transportation Research International Documentation (TRB-TRID) data- base, professional journal articles, Proquest Dissertation databases, National Technical Information Service database, and other articles published by FHWA, AASHTO, and APA, as well as project-related websites. For practices that were identified and noted as successful via initial conversations, additional targeted review was conducted to collect information on the development and implementation of these practices. Three main additional considerations were used to aid in the subsequent review. These were: • Availability of web links, supporting documentation for case examples, and whether the contacts were willing to discuss examples/mechanisms in greater detail. chapter one INTRODUCTION

6 • Availability of enough information to showcase and inform the planning practice on how the procedure or mechanism was implemented in its context, including any enabling legislation. • Mechanisms considered more recently, have some high- lighting features, such as being used to advance long- term plan projects, showcase ways to deal with risk, or allow multimodal equity in service provision. Case examples were sought for 10 categories of mecha- nisms from the survey respondents. These mechanisms and examples were subsequently categorized following a typol- ogy developed as part of this synthesis. Telephone and e-mail interviews were conducted with professionals involved in the development or implementation of these practices. After the ability and willingness of the subjects to take part in an interview were assured, the subjects were provided with the background information on this study and a detailed list of questions tailored to their specific context based on the initial review and survey responses. The survey and interview guide are included in Appendix A and Appendix C. Interviews focused primarily on the background of the case examples, as well as implementation and process-oriented questions. Discussion topics included the motivation for the use of a mechanism, the various stages of the mechanism implementa- tion, the success of the mechanism in funding the project(s), the specific context for the project in terms of vision for the region, as well as any benefits, challenges, and keys to success. Tele- phone interviews lasted 20 to 30 minutes. In some cases, par- ticipants shared responses directly through e-mail or telephone discussions. Next, documentation when provided by respon- dents was reviewed and used in addition to the interviews to inform the practice narratives found in chapter three and the findings in chapter four. The case narratives included in this synthesis offer vignettes that describe the background, context, adoption, and development of each mechanism in the context of highway project funding and finance. If a transit example is provided in this synthesis, it is only within the broader context of mutual applicability to highway project funding and finance. Some mechanisms may be multimodal in their application. VALUE CAPTURE DEFINED The VC concept has a long history in local government finance, and its origins are rooted in the benefit principle of taxation. The term “value” in VC refers to added value or benefit accrued by the landowner or developer as a conse- quence of an investment. The term “capture” relates to the local entity or agency capturing some of those gains as a way of recouping the costs of those investments. Therefore, the concept lies at the juncture of both benefit principle and equity principle of taxation: that is, the governments can recoup costs according to benefits received and no private individuals/corporations are entitled to reap windfall gains (Dalvi 1998). Many methods can be used to capture the economic value of transportation investments to fund trans- portation. All the methods/mechanisms seek revenues from beneficiaries of transportation improvements. From the transportation funding standpoint, the economic value of highway and transit investments can be traced to two sources and related beneficiaries: • Direct user benefits that are normally observed in travel time improvements, accident and emissions reductions, vehicle operating cost savings, and savings in energy/fuel consumption. The beneficiaries of direct user benefits are direct beneficiaries. Transportation funding mechanisms based on direct beneficiaries are many and include user fees, tolls, and congestion charges. These benefits also coincide with the measures and metrics used in tradi- tional cost–benefit analysis. • Indirect user benefits (or affected community benefits). The discussion of indirect user benefits is seen in eco- nomic impact analysis, and these are otherwise known as the indirect beneficiaries. VC is an umbrella term for capturing the value of transportation investments to fund transportation and is based on charges or fees on indi- rect beneficiaries. These indirect impacts coincide with measures/metrics that are captured in economic and land development impact and benefit–recovery analysis. The set of mechanisms that can be used to fund trans- portation can be shown on a direct–indirect, public–private beneficiary scale with increasing levels of direct interaction toward the center, as shown in Figure 1. This synthesis focuses on an investigation of the VC mech- anisms to capture the economic value of transportation. VC has been discussed as a supplemental approach to fund sur- face transportation in many studies (Rybeck 2004; Smith and Gihring 2006). It is an innovative public finance method in which the increases in property or land value owing to public infrastructure improvements are captured through land-related taxes or other means to pay for such improvements (Batt 2001). Smith and Gihring define VC in a slightly different way, as “the appropriation of land-value gains resulting from the installation of special public improvements in a limited benefit area. It is a betterment levy, based on ad valorem assessments of ordinary property taxes, and is similar in conception to development exactions and impact fees. The aim is to finance all or part of the costs of local transportation projects. Based on the ‘benefits received’ rationale for public taxation, it pro- poses to recapture what is essentially publicly created value.” The Lincoln Institute and United Nations define VC as “the process by which all or a portion of increments in land value attributed to ‘community interventions,’ rather than landowner actions, are recouped by the public sector and used for public purposes. These ‘unearned increments’ may be captured indi- rectly through their conversion into public revenues as taxes, fees, exactions or other fiscal means, or directly through on- site improvements to benefit the community at large” (United Nations Conference on Human Settlements 1976).

7 taxes. The increased sales may lead to changes in land use and land values, and some methods may serve to capture the value of enhanced sales from transportation access as a general ben- efit. The strictest definitions of VC refer to it as capture of the increment created in the value of land, whereas other processes are referred to as “value transfers” (Rybeck 2004). An ideal VC mechanism (Figure 2) is typically thought to have four key features, although not all features may be distinguishable in all mechanisms. These features form a feedback loop (Huxley 2009) or a virtuous cycle (Levinson and Istrate 2011). Value Creation This stage refers to the increase in the potential value of under- utilized assets (land, structures, or other) as a result of a public- sector intervention to stimulate demand from the private These definitions serve to highlight the common features of VC, each of which will be discussed in turn: • The use of land-related or other taxes, charges, fees. • The capture of the increment in the value of land or the value of property created or made possible by the trans- portation improvement or public intervention. The iden- tification of the specific increases in value resulting from investments enables governments to seek a commensu- rate financial contribution from the beneficiaries. • Occurrence in defined area. • The levy on those who benefit from investments—the beneficiaries, which include owners, developers, and community at large. • The recovery of cost. No definition explicitly refers to the increase in post- construction sales from real estate as an indirect benefit or sales FIGURE 1 Value capture mechanisms in the context of transportation funding and public/private beneficiaries. FIGURE 2 Feedback loops in VC finance. (Source: Adapted with permission from Huxley 2009, Urban Land Institute.)

8 • Implementation and technical issues, such as (a) distin- guishing land value increments attributed to specific pub- lic investments or planning decisions from other more general sources or factors that influence land markets; (b) identifying beneficiaries, beneficiary areas, and geo- graphic scale of these areas; (c) establishing rate setting and valuation methods and procedures; (d) designing the VC method in a context; (e) determining the revenue potential; (f) determining the cost-efficiency of mecha- nisms; and (g) determining equity. • Pragmatic challenges that arise in selecting the right instrument for the right circumstances, the timing of the instrument, and the processes to facilitate the choices. To gain a better understanding of VC, this report summa- rizes the state of the practice in highway-related VC using a case example approach with respect to the technical, imple- mentation, and practical issues noted previously. SYNTHESIS ORGANIZATION This synthesis report is organized as follows: chapter two includes a state-of-the-practice review of mechanisms and tools that are related to VC and methodological issues that arise in the context and application of VC mechanisms, including references to useful texts. Chapter three presents a series of case examples illustrating the application of these methods to a range of highway investment decisions in the United States. Each case includes agency-level context as well as context for the decision or project, relevant data and process of establishing the mechanism, the local partnerships involved, the boundaries or service areas developed in the context, the revenue considerations, and key lessons learned from that example. Chapter four discusses the main findings and conclusions from the review in promoting a better under- standing of these mechanisms as well as factors instrumental in creating a more successful culture of usage. It discusses cross-cutting and recurring themes regarding challenge and contextual variation among practices. Appendix A contains the questionnaire used in the screening survey. Appendix B lists survey respondents: AASHTO representatives of both the Standing Committee on Finance and Administration (SCOFA) and Standing Committee on Planning (SCOP). Appendix C contains the interview guide used in case exam- ple development. SUMMARY Decreasing budgets and increasing maintenance and con- struction costs have created a growing gap between available transportation funding and needed dollars. This synthesis documents how agencies employ VC mechanisms to fund the transportation system. VC combines the concepts of defining the aggregate benefit to stakeholders of investing in a given asset (e.g., a newly expanded roadway) and recapturing a por- tion of that cost for the entity that funded development of the sector. Marked accessibility changes that brought about trans- portation improvements have been cited as leading to the cre- ation of value (Levinson 1997; Iacono et al. 2009). However, Huxley (2009) suggests that there are other ways that value can be created, including zoning changes. Value Realization The value of assets can be realized through subsequent invest- ment and development from the private sector, which ensures that a potential asset value increase is realized. Direct invest- ments in the asset are one way in which this asset value can be realized, which may be accompanied by other mechanisms. Value Capture Value capture refers to arrangements by the public sector for the acquisition of a proportion of private-sector returns for local reinvestment. This can take the form of monetary or in- kind contributions from the private to public actors. Revenue Recycling Recycling refers to reinvestment of acquired monetary or in- kind contributions from the private sector within the same development site or scheme (Huxley 2009). Mechanisms for VC may include land value taxes (LVTs), special assess- ments, tax increment financing (TIF), transportation util- ity fees (TUFs), negotiated exactions (NEs), development impact fees (IFs), joint development (JD), air rights (ARs) development, sales tax districts (STDs), and other mecha- nisms (see Iacono et al. 2009; Levinson and Istrate 2011; Mathur and Smith 2012; State Smart Transportation Initia- tive 2012.) VALUE CAPTURE—KEY ISSUES Some of the persistent and leading issues in VC research include basic issues, technical and implementation issues, and more pragmatic issues, some of which were brought out in a recent report (Smolka 2013). Among those are: • Basic issues that refer to understanding of the process itself and research into the same. On one hand, there is a clear need for better understanding of the legal basis for VC methods, as well as the roles states play in facilitating such tools. On the other hand, there are larger questions raised by new or higher charges on real estate that some tools/methods may involve. Smolka notes that there are also questions on the balance in the extent to which there are equally applicable analyses for situations when there is land value diminution to protect against arbitrary takings. In essence, this latter set seeks to justify the bal- ance between capture of enhanced value and protection of value loss.

9 • The way in which local partnerships facilitate the process. • The areas that benefit by using the mechanism. • The cost-efficiency of the mechanism in terms of rev- enues raised compared to project costs. • The challenges to be expected when adopting different mechanisms. A literature review of current practices and interviews with key agency staff explored the pros and cons of 10 types of mechanisms. Case examples show the mechanisms applied in real-world situations and the lessons learned by agencies implementing them. asset. In other words, determining VC involves quantifying, in dollars, the expected return to long-term stakeholders (e.g., landowners, developers, public agencies) on the capital invest- ment and ongoing maintenance costs required to improve and sustain a discrete aspect of the transportation system. Focusing on highway investments, the synthesis docu- ments the following aspects of VC in detail: • The methodology underlying the concept. • The legal framework enabling methods to be used for highway funding.