Future Financing Options to Meet Highway and Transit Needs (2006)

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NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-1 Executive Summary The objective of this project is to present options for all levels of government to close the nation’s highway and transit investment deficits on a sustainable basis. The study was conducted in three phases. • Phase 1 estimated the needs and revenues available at all levels of government from 2007 to 2017; • Phase 2 examined existing and emerging revenue options; and • Phase 3 demonstrated potential portfolios of funding options. „ Overall Study Conclusions • Motor fuel and vehicle taxes and fees are the mainstay of Federal and state highway programs, are a major contributor to transit funding, and will continue those roles for the horizon of this study. A major challenge will be to keep them responsive to growing needs, including the impacts of cost inflation. • The Federal Highway Trust Fund (HTF) faces a very short-term funding challenge before the end of SAFETEA-LU. A specific illustrative scenario that would solve both this short-term solvency crisis as well as provide growing funding through the next authorization cycle has been demonstrated in this study. • In addition to traditional methods, the significant gap-closing potential of other emerging revenue strategies at all levels of governments has been demonstrated. The most successful programs to date have blended a menu of funding tools that complement and, in some cases leverage, the traditional sources. • The key issue is how to successfully implement these strategies at all levels of gov- ernment over the next decade to achieve the investments that are needed in our sur- face transportation systems. Review of successful implementation at all levels of government suggests that most, if not all of the following steps, will be needed for successful implementation of major revenue-raising initiatives: 1. Develop a consensus on the scope of current and future transportation investment needs and the importance of addressing them; 2. Develop a specific plan and program of investments for which additional funding is needed and demonstrate the benefits expected from the proposed investments;

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-2 . 3. Establish clear roles, responsibilities and procedures for executing the plan and proposed improvements; 4. Describe proposed revenue sources in detail and provide clear rationales for their use; 5. Design and carry out a public education and advocacy campaign; 6. Develop sustained leadership and support for the initiative; and 7. Lay out a clear timetable for action. • Longer-term, fuel taxes will be vulnerable to fuel efficiency improvements and penetration of alternative fuels and propulsion systems for motor vehicles. Further, continuing reliance on more use of fossil fuel will likely run counter to long-term envi- ronmental and energy needs and policies. Several recent national policy studies have recommended shifting to nonfuel-based revenue sources such as VMT fees over the next 15 to 20 years. Current innovations in tolling and pricing can help lead the way to this transition. The remainder of the Executive Summary highlights the major findings of each of the three phases of the study. The detailed assumptions and analyses behind the findings and conclusions are included in the main report and its appendices. The key finding from Phase 1 is that a large gap exists between investment needs for the nation’s highway and transit systems and the revenues available to fund those investments. Needs in this study are calculated by adding noncapital highway and transit operations, maintenance, and administration costs (O&M) to capital investment requirements for the system as reported in the 2004 U.S. DOT Conditions and Performance Report to Congress (C&P) and adjusting for inflation of costs to the current year (including the increasing cost of construction shown in Figure ES.1, Highway Producer Price Index, which has recently been increasing more rapidly than consumer prices). The results show that: • A total annual investment of $238 billion is needed to “maintain” the nation’s high- way and transit systems in 2007, increasing to $319 billion by 2017; • A total annual investment of $293 billion is needed to “improve” the systems in 2007 increasing to $387 billion in 2017; • Available highway and transit revenues for all levels of government to fund these needs are estimated to be only $188 billion in 2007 increasing to $253 billion in 2017; and • These estimates result in an average annual gap to “maintain” the nation’s highway and transit systems of over $50 billion and an average annual gap to “improve” of over $100 billion as shown in Figure ES.2.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-3 Figure ES.1 BLS Producer Price Index Highway and Street Construction 110 120 130 140 150 160 170 180 190 200 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 January Index 1986=100 Figure ES.2 Highway and Transit Needs and Revenues 2004 C&P Adj + O&M Year Year of Expenditure Dollars (in Billions) 0 50 100 150 200 250 300 350 400 450 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Average Gap to Maintain (20 10-2017) = $58 billion Average Gap to Improv e (2007-2017) = $119 bil lion 2004 C&P Maintain Adj + O&M2004 C&P Improve Adj + O&M Revenues

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-4 . The key finding of Phase 2 is that a wide menu of current and emerging funding options are available to Federal, state, and local governments to help close the funding gap. Table ES.1 provides a comprehensive listing of the specific revenue measures; their potential use for highway and transit funding, both for preservation and new capacity; their likely use as program-wide and/or project-specific tools; their potential yield in qualitative terms (high, medium, low), and a listing of the locations where these measures already are known to be used. A critical review of these options suggests that: • Fuel and vehicle taxes provide all of the revenues going into the Highway Trust Fund (HTF) and have consistently provided about 75 percent of current state high- way revenues over the last 25 years. They are likely to continue to be the mainstay of Federal and state funding programs for at least the period of this study. Assuring that they keep up with needs, including the inflation of costs, must be a centerpiece of any short-term effort to close the funding gap. Adopting multiple fuel-oriented taxes (e.g., gallonage, sales taxes, and/or petroleum business or franchise taxes) has proven successful in several states and has future potential. Vehicle registration fees play an important second tier role in most states and will continue to be an important revenue source for the foreseeable future. Several states have found that dedication of motor vehicle sales taxes for transportation purposes can be an important additional tier of vehicle fees that are inflation responsive. • Tolling, especially in the most congested urban corridors, is becoming an increas- ingly important capacity expansion tool. SAFETEA-LU significantly expanded the authority for states to advance toll and value pricing projects; many more states and local authorities are considering tolling options for capacity expansion, and pricing is emerging as an important congestion management tool. • Dedicated state and local taxes such as sales taxes and beneficiary fees have proven very effective for state and local government use for both highway and transit pro- grams and should be considered more widely. State and local sales tax referenda have been particularly successful for transportation purposes in recent years. Benefi- ciary charges are more of a niche tool, particularly for faster growing localities, and can be an important part of a local package of strategies. Transit also has utilized an array of other dedicated fees such as rental car fees, mortgage or real estate transfer fees, and lottery revenues. • State and local governments continue to rely on general fund appropriations to sup- port surface transportation needs. Local governments particularly rely on general funds to support their highway expenditures, with about 46 percent of local highway revenue coming from that source in 2004. Competition with other program areas such as health care and education may limit expansion opportunities from general sources. • The use of existing and emerging finance tools and public private partnerships (PPP) can play an important role in raising additional investment capital and advancing project delivery. These tools normally do not represent new resources per se, but rather, can be used to leverage the revenue mechanisms listed in Table ES.1.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-5 Table ES.1 Candidate Revenue Sources Modes Scope Yield Highway/Bridge Transit Specific Revenue Tool Pr es er va tio n, M ai nt en an ce N ew C ap ac ity O pe ra tio ns , M ai nt en an ce C ap ita l Pr og ra m Pr oj ec t Po te nt ia la Yi el d Locations Used Fuel Taxes Motor fuel excise (per gallon) tax z z z z H All states, Federal Indexing of the motor fuel tax (can be indexed to inflation or to other factors) z z z z H FL, IA, KY, ME, NE, NC, PA, WV Sales tax on motor fueld z z z z H CA, GA, HI, IL, IN, MI, NY Petroleum franchise or business taxes z z z z H NY, PA Vehicle Registration and Related Fees Vehicle registration and license fees z z z H All states Vehicle personal property taxes z z z M CA, KS, VA Excise tax on vehicle sales dedicated to transportation z z z H CT, IA, KS, MD, MI, MN, MO, NC, NE, OK, SD, VA; Federal for heavy trucks Tolling, Pricing, and Other User Fees Tolling new roads and bridges z z z z M About half of states (e.g., TX, FL, VA) Tolling existing roads z z z z z L VA proposed, others considering HOT lanes, express toll lanes, truck toll lanes z z z z M CA, CO, GA, MN, TX VMT fees z z z z z H OR testing; recommended by 15 state- pooled fund study Transit fees (fares, park-and-ride fees, other) z z H All transit agencies Container fees, customs duties, etc. z z z M CA Beneficiary Charges and Local Option Dedicated property taxes z z z z z H Many local governments Beneficiary charges/value capture (impact fees, tax increment financing, mortgage recording fees, lease fees, etc.) z z z L Many states and localities (e.g., CA, FL, OR, NY) Permitting local option taxes for high- way improvements • Local option vehicle or registration fees z z z z M AK, CA, CTb, CO, HI, ID, IN, MSb, MO, NE, NV, NH, NY, OH, SC, SD, TNb, TX, VAb, WA, WI • Local option sales taxes z z z z H AL, AZ, AR, CA, CO, FL, GA, IA, KS, LA, MN, MO, NE, NV, NM, NYb, OH, OK, SC, TN, UT, WY • Local option motor fuel taxes z z z z M AL, AKb, FL, HI, IL, MS, NV, OR, VA, WA Permitting local option taxes for transit • Local option sales taxes z z z z H AL, AZ, CA, CO, FL, GA, IL, LA, MO, NV, NM, NY, NC, OH, OK, TX, UT, WA • Local option income or payroll tax z z z z M IN, KY, OH, OR, WA Other Dedicated Taxes Dedicate portion of state sales tax z z z z z H AZ, CA, IN, KS, MA, MS, NY, PA, UT, VA Miscellaneous transit taxes (lottery, cigarette, room tax, rental car fees, etc.) z z z z L Various states and localities General Revenue Sources General Revenuec z z z z H Most states and localities a Potential Yield; H= High, M= Medium, L= Low. b Revenues go into General Fund but can be earmarked or used for transportation. c For purposes of this report, the leveraging of tax subsidies through tax credit bonds and investment tax credits is treated effectively as producing revenue from general fund sources for transportation. d In some states, revenues from sales taxes on motor fuel are not dedicated or only partially dedicated to fund transportation needs.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-6 . The key finding of Phase 3 is that closing the funding gap is possible but will require a concerted effort at all levels of government. Table ES.2 highlights the revenue potential of the most promising options at each level of government. The key assumptions for the analysis are that Federal HTF tax changes would start at the beginning of the next authorization period in 2010, except that elimi- nating HTF exemptions and realizing interest earnings on HTF balances are assumed to be addressed through the budget process beginning in 2008. Other Federal revenue and tax strategies that are independent of surface reauthorization are assumed to start in 2007. State and local revenue enhancements are assumed to be gradually phased in through 2010. At the Federal level, we see these opportunities: • Highway Trust Fund Revenue Measures − Fuel tax strategies have the largest potential for impacting HTF revenues in the time period considered for this study. For example, $25 billion could be raised per year and almost $203 billion cumulatively from 2010 to 2017 by retroactively indexing fuel taxes to 1993 to recoup losses due to inflation (i.e., 10-cent fuel tax increase in 2010), and indexing thereafter. Recouping half the inflation loss since 1993 would require a 5-cent increase in 2010 and with indexing forward would raise an average of $14 billion per year and $113 billion cumulatively by 2017. Alternatively, a sales tax on motor fuel could be implemented; for example, a 3 percent sales tax on fuel would raise an average of $12 billion per year. − Imposition of additional Federal vehicle taxes (e.g., reinstituting a Federal light- duty vehicle sales tax) would be the next most effective strategy. A 3 percent new vehicle sales tax would generate about $18 billion annually and $141 billion cumulatively through 2017. − Eliminating HTF exemptions and recapturing interest on HTF balances would add modest additional resources during this period. For this study, we have assumed that the cost of the remaining HTF exemptions would be shifted to the general fund starting in 2008, as proposed in the President’s 2006 budget and that interest earnings would be credited to the HTF starting in 2008. • Other Potential Federal Revenue Measures. − Other potential Federal strategies that could be used to improve freight and inter- modal systems include customs duties, investment tax credits, and container fees. If proposals for these three tools were implemented in combination, they could raise $7.2 billion per year and $71 billion cumulatively for intermodal freight improvements. − Finally, recent tax credit bonds proposals could raise up to $55 billion over the next decade for a broad array of surface transportation improvements.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-7 Table ES.2 Potential Contribution of Short-Term Funding Mechanisms to Federal, State, and Local Highway and Transit Needs Year of Expenditure Dollars Short-Term Funding Mechanisms Revenue Generation 2010 Revenue Generation 2017 Average Annual Revenue 2010 to 2017 Revenue Generation Cumulative 2007 to 2017 Comments Federal Revenue Options to Increase Highway Trust Fund Revenues Index Federal fuel taxes retro- active to 1993 to capture full loss due to inflation $19.4 billion $31.7 billion $25.3 billion $202.6 billion Would result in 10-cent fuel tax increase in 2010 with indexing to CPI thereafter. Capture half of the loss due to inflation since 1993 $9.6 billion $19 billion $14.1 billion $113 billion Would result in 5-cent fuel tax increase in 2010 with indexing to CPI thereafter. Index Federal fuel taxes starting in 2010 $0.8 billion $7.6 billion $4.0 billion $32.3 billion Index fuel tax rates to CPI starting in 2010; first year of next reauthorization cycle. Implement motor fuel sales taxes at the Federal level $10.8 billion $14.0 billion $12.3 billion $98.4 billion Assume 3 percent sales tax on motor fuels, starting in 2010. Reinstitute Federal light duty new vehicle sales tax at rate of 3 percent $15 billion $20.4 billion $17.6 billion $141 billion Seven percent tax phased out in 1971. Assume tax is reinstituted at 3 percent in 2010 and depos- ited to HTF. Index Heavy Vehicle Use Tax (HVUT) retroactive to 1997 $2.1 billion $3.7 billion $2.9 billion $21.3 billion Has been fixed at maximum of $550 since 1984; assume indexing retroactive to 1997 to capture one-half loss due to inflation. Index HVUT starting in 2010 $30 million $374.3 million $200 million $1.5 billion Assume indexing to CPI imple- mented in 2010. Eliminate exemptions to HTF starting in 2008 $1.2 billion $1.3 billion $1.2 billion $12.3 billion As proposed in President’s 2006 budget; shift exemptions to general fund. Recapture interest on HTF bal- ances starting in 2008 $0.5 billion $0.5 billion $0.5 billion $5.0 billion Depends on HTF balances; esti- mates assume minimal balances through next reauthorization cycle. Other Federal Revenue Options Authorize tax credit bonds (modeled after the Senate- proposed “Build America Bonds” – assumes $5 billion in net proceeds per year) $5 billion; General Fund supported $5 billion $5 billion $55 billion Debt-oriented financing tech- nique that leverages a Federal tax subsidy to generate new transportation funding. Utilize 5 to 10 percent of cur- rent Customs duties for port and intermodal improvements $1.7 billion at 5 percent $3.3 billion at 10 percent $2.2 billion at 5 percent $4.5 billion at 10 percent $1.9 billion at 5 percent $3.9 billion at 10 percent $20.0 billion at 5 percent $40.1 billion at 10 percent These funds would be set aside for port and intermodal pur- poses; 30 percent assumed to offset highway needs, such as intermodal connectors. Authorize freight/intermodal investment tax credits (assumes $500 million annual limit on monetization of 20- year tax credit streams) $1.2 billion $1.2 billion $1.2 billion $13.2 billion Modeled after the Graves pro- posal. Only 15 percent of ITCs are estimated to fund highway or transit-related needs such as highway-rail grade crossings. Container fees $1.7 billion $2.7 billion $2.2 billion $17.5 billion Start in 2010; applied on all import and export containers

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-8 . Table ES.2 Potential Contribution of Short-Term Funding Mechanisms to Federal, State, and Local Highway and Transit Needs (continued) Year of Expenditure Dollars Short-Term Funding Mechanisms Revenue Generation 2010 Revenue Generation 2017 Average Revenue 2010 to 2017 Revenue Generation Cumulative 2007 to 2017 Comments State Revenue Options Index state motor fuel taxes $1.4 billion $6.5 billion $3.8 billion $31.9 billion If all states indexed fuel taxes by 2010. Increase state motor fuel taxes to catch up for inflation losses since 2000 $6.6 billion $8.6 billion $7.6 billion $70.0 billion If all states were to catch up for inflation losses by 2010; results in average 5.2 cent increase. Implement motor fuel sales taxes $8.9 billion $11.6 billion $10.1 billion $94.3 billion Three percent assumed dedi- cated to transportation. Raise motor vehicle registra- tion fees to keep up with inflation $1.8 billion $6.4 billion $4.0 billion $33.4 billion If all states were to raise in con- cert with inflation starting in 2007. Use vehicle sales tax for transportation $6.2 billion $8.4 billion $7.2 billion $66.6 billion If all states who have sales tax dedicate at least 3 percent of vehicle sales tax to transportation. Portion of state sales tax dedicated to transportation $9.0 billion $12 billion $10.5 billion $108.8 billion Assume one-half percent dedication. Increase tolling/pricing revenues (above current 5 percent per year increase) $0.2 billion $2.4 billion $1.1 billion $8.9 billion Estimate based on aggressive use of tolling and pricing opportunities in SAFETEA-LU. VMT fees (future); transition from short term toll/pricing innovation High potential but widespread deployment assumed after 2015. Local Revenue Options Increased use of specialized dedicated local taxes, e.g., local option taxes, impact fees, miscellaneous transit fees $5.3 billion $17.6 billion $10.8 billion $96.2 billion Assume more aggressive growth rate of last 10 years continues. At the state and local level we see the following opportunities to raise additional revenue: • At the state level, fuel tax strategies also have the largest potential for increasing revenues in the time period considered for this study. Specifically, about $21.5 bil- lion could be raised per year and $196 billion cumulatively from 2007 to 2017 from the following combined strategies: − Index state fuel taxes; − Recapture purchasing power back to 2000; and − Add sales tax on fuel.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-9 • Vehicle taxes, another mainstay of state highway revenues, are an effective strategy with the potential to raise about $11 billion annually and $100 billion cumulatively through 2017 by: − Increasing vehicle registration rates in concert with inflation; and − Dedicating sales tax on vehicle purchases to transportation. • Initiatives to dedicate small portions of state sales taxes to transportation, most notably for transit, have been successful in a number of states and if implemented more widely (i.e., one-half percent of state sales tax dedication) could generate about $10 billion annually and $109 billion cumulatively through 2017. • Additional nationwide use of dedicated taxes such as local option taxes, beneficiary charges, and other special fees for both highway and transit programs could gener- ate an additional $11 billion per year and $96 billion cumulatively. Gap Closing Potential of Packages of Funding Measures The annual and cumulative national gap-closing potential of two illustrative funding packages were tested as described in Table ES.3. Table ES.3 Description of National Gap Closing Scenarios Scenario 1 – Aggressive Scenario 2 – Less Aggressive This scenario chooses actions from Table ES.2 at their most aggressive levels as follows: • Federal fuel tax increase of 10 cents plus indexing; • Other HTF enhancements; • Freight revenue enhancements; • State fuel tax increases averaging 5 cents with indexing; • State sales taxes on fuel, vehicles, and general one-half cent; • Aggressive tolling; and • Local option taxes, beneficiary charges, transit fees, etc. This scenario chooses the following actions from Table ES.2: • Federal fuel tax increase of 5 cents plus indexing; • Other HTF enhancements and some freight revenue; • State sales tax on fuel, motor vehicles, and general one-half-cent sales tax; • Tolling; and • Local option, beneficiary, transit fees, etc. Note: Further scenario detail and impacts are shown in Section 6.0 of the report. Their gap closing potential is illustrated in Figure ES.3 and the specific results are described below.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-10 . • Scenario 1, a full aggressive package of revenue enhancement strategies at all levels of government, would: − Fully close both the national annual gap to maintain by 2017 and the cumulative gap to maintain through 2017; and − Close the national annual gap to improve by 2016 and the cumulative gap to improve through 2017 by almost 75 percent. • Scenario 2, a less aggressive package of revenue enhancement strategies would: − Fully close both the national annual gap to maintain by 2017 and the cumulative gap to maintain through 2017; and − Close the national annual gap to improve by 76 percent by 2017 and the cumula- tive gap to improve through 2017 by about 56 percent. In addition to these gap closing scenarios which apply to all levels of government, a spe- cific Federal Highway Trust Fund enhancement strategy was tested as illustrated in Figure ES.4. This illustrative Federal revenue scenario consists of the following measures: 1. Eliminate the cost to the HTF of certain Federal excise exemptions beginning in 2008; 2. Credit interest earnings on HTF balances to the HTF beginning in 2008; 3. Increase the Federal fuels taxes by 5 cents per gallon beginning in 2010 (this would effectively recapture half of the purchasing power lost due to inflation since the last fuels tax increases in 1993); and 4. Index the Federal fuels taxes to the Consumer Price Index (CPI) beginning in 2011. Implementation of the first two measures beginning in 2008 would generate an estimated $2.6 billion for the Highway Account and $3.6 billion for the HTF overall during the final two years of SAFETEA-LU – revenue likely sufficient to avoid the impending solvency crisis and enable full funding of the authorized amounts for highway and safety programs through 2009. Implementation of the other two measures would put Federal spending on a path supporting highway and transit investments that would fully meet the levels required to maintain system condition and performance. In aggregate, the package of revenue measures in this scenario would generate about $125 billion of additional revenue for highway and transit system investments through 2017. Implementation of all four measures contained in this scenario would enable significantly higher funding levels in the next authorization cycle. It is estimated that the combined Federal highway and transit funding could increase by about 39 percent from the SAFETEA-LU authorization level of nearly $54 billion in 2009 to about $75 billion by 2015.

NCHRP 20-24(49) – Future Financing Options to Meet Highway and Transit Needs ES-11 Figure ES.3 Annual Gap Closing Potential of Revenue Scenarios Dollars (in Billions) Gap ‘Maintain’ Gap ‘Improve’ Funding Scenario #1 Funding Scenario #2 0 20 40 60 80 100 120 140 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Gap to ‘Improve’ Gap to ‘Maintain’ Scenario #1 Scenario #2 Year Figure ES.4 Illustrative HTF Revenue Enhancement Scenario Eliminate HTF Exemptions and Recapture Interest Starting in 2008; Enact 5 Cent Fuel Tax Increase in 2010 and Index Forward 0 5 10 15 20 25 30 35 40 45 50 55 60 65 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Year Dollars (in Billions) Highway Program (HTF) Transit Program (HTF+GF) Highway Acct Balance Transit Account Balance