Guide to Value Capture Financing for Public Transportation Projects (2016)

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1 Transportation infrastructure is a foundation of modern, thriving, and productive econo- mies. Public transit is a key element of transportation infrastructure for many communities and local and regional economies across the United States. Unfortunately, many U.S. transit projects are underfunded, leading to suboptimal service, long-deferred maintenance, and failure to realize desirable projects. Value capture is the public recovery of a portion of increased property value created as a result of public infrastructure investment. Common value capture mechanisms are: • Impact fees, • Joint development, • Land value taxation, • Negotiated exactions, • Parking fees, • Sale or leasing of air rights, • Sales tax and special assessment districts, • Station naming rights, and • Tax increment financing (TIF). TCRP Research Report 190: Guide to Value Capture Financing for Public Transportation Proj- ects has been developed to provide transit agencies, local governments, developers, and others with insight regarding value capture as a source to address some of the underfunding of public transportation projects. The guide highlights requirements necessary for (1) successful value creation through transportation infrastructure investment and (2) capturing a portion of that value through specific value capture mechanisms. The three primary value capture participants described in this guide are the transit agency, developers, and local government: • Transit agency: A public entity, the primary purpose of which is to plan, construct, operate, maintain, and finance public transportation services within a specified service area; • Developers: Private or not-for-profit entities that invest in and effect the improvement of real property; and • Local government: A public entity that provides municipal goods, services, and infra- structure in the area served by the transit agency. Conditions Necessary for Value Capture Value capture concepts addressed in this guide may be relevant to many modes of public transportation, including bus rapid transit, light rail, heavy rail, commuter rail, and inter- city passenger rail. The economic principles underpinning value creation and value capture S u m m a r y Guide to Value Capture Financing for Public Transportation Projects

2 Guide to Value Capture Financing for Public Transportation Projects in the context of public transit projects may also apply to transportation infrastructure proj- ects in general and even more broadly to other classes of public infrastructure investment. Transit infrastructure investment often induces value creation in surrounding land and real estate. Capturing a portion of that value to fund transit projects is an increasingly viable and desirable option, subject to a number of enabling conditions: • Real estate market vitality; • Accommodative zoning and land use entitlements; • Statutory authority enabling use of value capture mechanisms; • Articulation of a compelling business case for value capture to public and private partners and to the financial markets on which they depend; • Development of project- and context-specific financial strategies that are feasible and incentivize and reinforce value creation; and • Institutional capacity on the part of transit agencies, local governments, developers, and other partners working together to maximize value creation and value capture. Value capture opportunities and strategies vary significantly due to context. The type and composition of real estate from which transit agencies and local governments may capture value vary from one circumstance and market location to another. Value capture techniques can generate revenue from within transit benefit areas that extend beyond the traditional half-mile-radius “transit areas of influence” (APTA, 2009). Areas benefitting from enhanced mobility, transit accessibility, improved bicycle and pedestrian access, and other transit-induced amenities may extend 2 miles from transit stations. Value capture is frequently contemplated in the context of transit-oriented develop- ment (TOD) projects. TOD is one specific type of the many potential forms of transit- influenced development. TOD is typically composed of vibrant mixed-use development that is amenity-rich and features proximity to transit. Many multimodal features are included in TOD, including pedestrian and bicycle improvements. Numerous studies have demonstrated that under certain circumstances, TOD can command higher sales prices and rents for a variety of property types. The opportunity for value creation and subsequent value capture will vary by trans- portation network and station characteristics. Unique characteristics of each transit line and station area will influence the potential for value creation and capture. Signifi- cantly different value capture strategies may be appropriate along the same transit line within a single jurisdiction. For example, transit lines and stations in mature and dense urban areas will lend themselves to different value capture strategies than those in green- field or suburban redevelopment areas. Local Economic and Market Considerations The level of transit-influenced value creation varies with local real estate market con- ditions. These conditions are underpinned by factors such as the size and growth rates of population, income, employment, educational attainment, and national economic condi- tions and trends. Competition among real estate submarkets is characterized by rates of building permit issuances or starts, occupancy and absorption rates, sales prices and lease rates, retail trade patterns, and other factors. All of these factors, in addition to the density of a particular urban area, may affect the level of value created from real estate around transit. Successful value capture strategies are dependent on value creation through real estate development. Real estate markets are cyclical and non-uniform. Market fluctuation will affect the rate of value creation and the effectiveness of value capture strategies in any

Summary 3 particular period and location. Understanding market dynamics is vital for achieving opti- mal value creation and designing effective value capture strategies. Developers evaluate the profit potential of transit-influenced real estate value creation along with real estate development risks. Risk factors associated with real estate projects include market acceptance, project complexity, and capital intensity. Investment-relevant time horizons differ markedly among major value capture participants. The most successful value capture strategies will, to the greatest extent possible, align risk tolerances with time horizons and sensitivities among value capture participants. Regulatory Considerations Land use regulations and zoning can support and incentivize both value creation and value capture strategies. However, regulations that are ill-conceived, inadequate, or over- abundant may act as barriers to value creation. Realizing value creation potential related to transit projects requires that local planning, zoning, and development entities adopt rules that allow for and encourage optimization of the opportunity, including: • Replacing density maximums with minimums, • Modifying or eliminating rules requiring segregation of various land uses, • Reduction of minimum parking requirements, and • Use of development agreements or similar mechanisms that allow for negotiation of com- plex value exaction and policy-objective–specific entitlements. U.S. transit projects that use federal funds must comply with federal regulations, which may affect the nature and extent of value capture opportunities. For example, a range of specific transit development activities are prohibited prior to completion of the National Environmental Policy Act (NEPA) process. Such activities include acquisition of right-of- way that may prejudice consideration and analysis of alternative alignments. Additionally, statutory authority for specific value capture mechanisms and rules controlling their appli- cation and implementation vary from state to state. Articulating the Business Case Subject to market constraints, new transportation capacity and access create opportu- nity for increased development. The cornerstone of successful value capture implementation is the clear identification of the economic opportunity associated with (1) real estate projects and (2) embracing a value capture strategy that optimizes benefits both for public and pri- vate partners. Developers respond to transit agency investment in infrastructure by evaluating market opportunity for value creation induced by new transportation capacity (or anticipa- tion of such capacity). The large green circle in Figure 1 represents value creation through transit-influenced development. Some portion of aggregate value creation may be considered market premium (the small green circle in Figure 1), which reflects consumers’ willingness to pay higher prices for real estate (residential units, office and retail space, etc.) in close proximity to transit and related amenities than for otherwise identical properties not similarly served by transit. A portion of the transit value premium (referred to as “captured value” in Figure 1) may be recovered through one or more value capture mechanisms. From the developer’s perspective, the business case for value capture relates to the balance between market opportunity and the cost burden of value capture. Care must be taken that the amount of value captured does not exceed consumers’ perceived

4 Guide to Value Capture Financing for Public Transportation Projects transit-related value premium. In an efficient real estate market, value capture costs exceed- ing consumers’ increased willingness to pay for transit amenities creates a competitive dis advantage and can disincentivize investment in development and value creation. In practice, these considerations are complicated further by real estate land acquisition, enti- tlement, development, construction, and financing costs, many or all of which may be higher than those in less complex projects of lower development intensity. From the perspective of local government, the business case for value capture rests on its ability to fund or finance elements of a transit project, municipal infrastructure, or other public needs. Value capture strategies can allow local government to invest in further enhanced transportation infrastructure, transit supportive infrastructure, expanded transit service, and various public amenities, which can induce additional value creation. Opportunity for value capture may be maximized to the extent that public and private stakeholders successfully cooperate in strategic value creation. Additional value may be created, and additional public policy objectives may be achieved, through strategic plan- ning and partnership with other public agencies or not-for-profits such as workforce or affordable housing providers. Costs and benefits associated with development of afford- able or workforce housing, parks, parking, or municipal infrastructure may be allocated between the parties in the context of development agreements negotiated toward maximiz- ing mutually beneficial value creation. Development Risks Value capture projects are subject to a number of risks associated with transit develop- ment, construction, and operation, as well as those associated with real estate development. Risks of transit project delay and market downturn during business cycles have frequently been the greatest threats to otherwise successful value capture projects. Predevelopment speculation may raise acquisition costs for developers and complicate or diminish value capture opportunities. Transportation infrastructure initiatives require significant public involvement and providing advance public notice of infrastructure and Figure 1. Transit infrastructure investment, value creation and value capture.

Summary 5 development planning. As markets respond in anticipation of future value creation, signifi- cant speculative value may be capitalized into land or other real property sub sequent to the announcement of new infrastructure and prior to commencement of the new transit service. Figure 2 illustrates the differential in value creation/escalation following public announce- ment of proposed transit projects. Although the figure identifies the announcement at a discrete point in time, market-affecting announcements of project planning and progress actually occur at many intervals, often over years or decades. Transit agencies must partner strategically with developers and local governments as early as possible in the infrastructure planning process to maximize value capture opportunities. In the absence of early strategic engagement and partnership, speculators may realize much of the land-rent premium induced by prospective public investment by the time transit projects are developed. Creditworthiness, Finance, and Funding This guide provides insight into issues surrounding the creditworthiness of transit projects that use value capture mechanisms as well as insight into funding and financing opportunities. Marketability of debt associated with transit infrastructure is dependent on credit rat- ings. Credit rating agencies rate debtors’ ability to repay debt through timely debt service pay- ments and estimate likelihoods of default. The credit rating potential of debt secured by real estate–dependent revenue streams can improve once stable and dependable performance is demonstrated over 3 to 5 years. However, credit rating agencies have been disinclined to assign an investment grade to debt secured solely by value capture revenue dependent on real estate that has yet to be developed. Transit agencies or local governments often issue bonds secured by a pledge or assign- ment of creditworthy sources of repayment in addition to a real estate–dependent revenue stream. Such backstop or standby commitments may be composed of sales or other tax revenues or the full faith and credit of local governments. Commencement of Service Transit Project Announced Post-Transit Value/Creaon Pre-Transit/Speculaon Time (Years) Va lu e (D ol la rs ) Figure 2. Transit-induced value creation and predevelopment speculation.

6 Guide to Value Capture Financing for Public Transportation Projects Federal programs can accommodate value capture financing. These include the fed- eral credit programs administered through the U.S. Department of Transportation’s Build America Bureau, the Transportation Infrastructure Finance and Innovation Act (TIFIA) loan program, and the Railroad Rehabilitation and Improvement Financing (RRIF) pro- gram. Although each program currently has its own lending criteria, both TIFIA and RRIF have attractive loan terms that include: • Low rates of interest that are often below the market rate; and • Generous and flexible repayment terms allowing for long periods of interest capitaliza- tion, significant back loading of repayments, or longer terms. For many projects where early ramp-up of real estate sales is anticipated or where real estate absorption is uncertain, these programs can provide cash-flow relief. The 2015 Fix- ing America’s Surface Transportation Act (FAST Act) included substantive and procedural changes to both TIFIA and RRIF and expanded their ability to support TOD projects, potentially enhancing value capture projects. Public and private stakeholders must perform within the constraints and opportunities defined by prevailing public and private financial markets. In many cases, specific projects are financed with combinations of public, private, or quasi-public debt. Institutional Capacity and Partnership In order to optimize value capture and transit project feasibility, transit agencies need to engage early in partnerships with developers and local governments and participate stra- tegically in the process of real estate value creation and realization. Figure 3 illustrates the extensive engagement required between transit agencies, local governments, and developers to optimize value creation and value capture. It also identifies secondary stakeholders that can play a role in augmenting value creation and exchange. TD Private Developer Transit Agency Local Government Land Owners Other PRIVATE SECTOR Other PUBLIC SECTOR Strategic Engagement Strategic Partnership Value Exchange Value Distribu on Transit Development Public Sector Private Sector TD Public- Sector Finance Private- Sector Finance Figure 3. Institutional engagement for transit-induced value creation and value capture.

Summary 7 Overcoming TOD Complexity and Risk The most successful TOD and value capture projects involve: • Establishing early and substantive dialogue among public entities and between the public and private sectors; • Developing coherent value creation and value capture strategies between partners sharing common goals requiring the exchange of information; • Breaching silos of professional practice that limit the sharing of knowledge; and • Overcoming differences in culture, perspective, and institutional norms. Case Studies This guide includes six case studies selected to demonstrate attributes of successful value capture finance projects. These case studies provide insight into strategies and challenges associated with significant funding of streetcar, light rail, heavy rail, and commuter rail projects. The case studies discuss: • Boston Landing at Allston/Brighton Station, Boston, MA: An affiliate of athletic shoe manufacturer New Balance primarily funded a $25 million commuter rail station as a key transportation element for its 15.48-acre office, retail, residential, and hospitality project in suburban Boston. • Denver Union Station, Denver, CO: Several public and one private group realized a $488 million project on 19.5 acres, including the redevelopment of a historic train station and construction of commuter rail, light rail, and bus facilities. Financing was secured primarily by sales tax revenues, TIF proceeds, and an appropriation backstop from the City and County of Denver. • Hong Kong Mass Transit Railway Corporation (MTRC), Hong Kong: While it oper- ates under different mandates and constraints than its U.S. counterparts, the Hong Kong MTRC serves as an illustrative example because it has been able to use the lease of prop- erty and partnerships with developers to fund the capital and operating costs of its system, making it one of the few profitable transit agencies in the world. • Kansas City Streetcar, Kansas City, MO: In May 2016, a modern 2-mile, $105 million streetcar system opened in downtown Kansas City, MO. Approximately two-thirds of the construction cost was funded with special assessments, district sales taxes, and parking fees. • Portland Streetcar, Portland, OR: The City of Portland developed a 7.35-mile, $251 mil- lion streetcar in downtown Portland, 45% of the funding for which was provided by spe- cial assessments, TIF, and parking fees. Value capture revenues provided approximately one-third of project costs. The city allowed development of greater density once streetcar and public infrastructure improvements were completed. • Dulles Metrorail, Washington, D.C., region: Special assessments financed approximately one-fifth of a 23-mile, $5.7 billion extension of the Washington, D.C., region’s Metrorail system. Establishment of special assessment districts was accompanied by implementa- tion of zoning and land use changes, allowing for increasingly dense mixed-use develop- ment around stations, lower parking minimums, and urban amenities.