The recent Seward Commons debate highlighted an important discussion about how the city uses Tax Increment Financing, or TIF. It’s one of the few financial tools cities have and control fully. But it’s not broadly understood. So what is TIF and how does it work? What has Minneapolis used it for in the past?
What the heck IS TIF?
TIF is a financing tool that is sometimes used for real estate and economic development projects.
State law puts strings on how it can be used, and the political process for approving TIF districts ensures another layer of oversight.
TIF can’t be used willy nilly. According to Minnesota State law, projects must pass a “but-for” test to receive TIF. Here’s how Minneapolis describes this limitation:
“One of the basic provisions of this policy is that any development receiving TIF assistance must satisfy the “but-for” test contained in the TIF Act. This test can only be satisfied if the City Council adopts findings that (1) the proposed development would not occur without TIF assistance, and (2) no other significant development is expected on the site, in the reasonably foreseeable future if TIF assistance is not provided.” (Source: the city’s TIF application, which includes more detail. Bonus info here in the city’s TIF policy.)
How do the Financials Work?
In a typical scenario, the TIF funding repays a loan from a bank, and that loan is one of several sources of funding needed to build the project. To memorialize the City’s intention to use tax increment to repay the loan, the City issues a ‘TIF Note’ to the bank.*
For the City, issuing a TIF Note is no risk. The Note is merely a piece of paper that says “Thank you bank for funding part of this project. In return for your funding, as we get increased property taxes from this project, we will pay most/some of it to you.” The City gives up no existing property tax revenues, because the taxes from before the development continue to be collected as before.
After construction is complete, the developer pays real estate taxes to the County just as they would if the project were not in a TIF district. As it did in the past, the County sends the taxes on the pre-improvement value to the City, School District, and other taxing jurisdictions.
The unique thing about TIF districts is that the County sends the taxes generated by the increased value (the increment) to the City. The City forwards these funds to the bank that made the loan to the project. After the TIF Note is paid off (or after 26 years, whichever comes first), the County stops sending increment checks to the City for the project, and the full real estate tax amount is distributed to the various taxing jurisdictions going forward. Thanks to the “but-for” test, that’s money that property owner wouldn’t have paid in without the project.
What is the process to receive TIF?
There is a political process to access TIF, as any new TIF District requires that the City Council specifically authorize the new district. There is a financial cost to request TIF, with a $3,000 application fee and a $15,000 payment at the end of the process. Getting TIF also requires meeting legal and financial criteria. Staff review any TIF before City Council consideration. In recent times, that has required a two-step process: projects first must win preliminary approval, and then return once the final TIF plan is developed.
Here are the questions considered as part of the preliminary approval:
- Does the proposed project meet the “but-for” test?
- What public purpose would be served?
- Is the project consistent with City goals, priorities and applicable plans?
- Does the project appear to be financially feasible?
- Have significant efforts been made to obtain other financing/funding?
- Can the project and/or site qualify for TIF assistance under the TIF Act?
- Are there sufficient TIF-eligible costs in the project?
- Is the proposed TIF financing mechanism (bonds, pay-as-you-go, etc.) appropriate?
- Does the developer have adequate financial capacity and experience?
If preliminary approval is granted, staff does much deeper analysis and brings back a proposed TIF district.
How has Minneapolis used TIF in the past?
Going back about 25 years, the City has primarily used TIF for four things:
- Supporting the Neighborhood Revitalization Program (NRP) and Neighborhood and Community Relations (NCR) department
- Funding major downtown projects
- Demonstrating the market for development in transitioning neighborhoods
- Funding affordable housing
Using TIF for NRP/NCR was possible only because the state Legislature passed special legislation to allow it. That’s such a different use, it doesn’t add much to a conversation about using TIF for development. However, the majority of TIF spending in Minneapolis (in the past 25 years) was allocated to NRP/NCR. You can see just how big that is in this chart that shows the percentage of Minneapolis tax base in TIF districts. The big drop in 2010 was a result of several of the NRP/NCR-supporting TIF districts going away. The rest of these will be decertified in 2020, and there will be another significant drop in the City’s percentage of tax base within TIF districts.
Funding major downtown developments fell out of favor soon after the ‘Block E’ controversy. Prior to ‘Block E,’ several major downtown developments were supported with TIF, with varying levels of success and/or controversy. When people refer to the ‘bad old days’ of TIF or the ‘excesses of the past’, these projects are the ones that sparked ‘buyer’s remorse.’
Development in transitioning neighborhoods, on the other hand, has been the quiet engine behind the success of some of the Minneapolis neighborhoods where development is strongest. I’ll cover this more in an upcoming post, but suffice it to say that Minneapolis would not be the city it is today without a wave of catalytic, TIF-funded developments between 1998-2003.
Funding affordable housing has been the primary use of TIF in the past decade. Using TIF has been restricted in reaction to the ‘bad old days’ of downtown mega-projects, and this has been the last remaining TIF use in Minneapolis. And even this use has dwindled significantly. In 2012, Minneapolis approved four TIF Districts for affordable housing projects. In the years 2013-2018, Minneapolis approved 6 TIF Districts for affordable housing, averaging only one per year. The need for affordable housing didn’t evaporate in 2013, but the flow of TIF funds for affordable housing slowed to a trickle. Most recently, the newly elected City Council members have signaled a willingness to consider TIF for affordable housing as a significant tool once again, and there are now nine active TIF applications for affordable housing.
What should Minneapolis consider going forward?
TIF is being considered as one of the key tools to get the benefits from a citywide Inclusionary Zoning policy without bringing much-needed housing production to a standstill. The Inclusionary Zoning policy just adopted by the Council will give developers a choice: build 10% of their units at a level of affordability of 60% of Area Median Income on their own, or get city financing to build 20% of the new units at an even more affordable 50% of AMI. TIF could a seamless rent subsidy for people of limited means to live in newly-built buildings where there are few alternatives.
Sometimes, cities can create revenue problems by putting too much of their tax base into TIF districts. Cities should aim to have less than 15% of the tax base in TIF, in general. That’s not an issue in Minneapolis today, especially not given upcoming district decertification – the percentage of our tax base dedicated to TIF districts is already less than 10%, and it will soon be even lower.
It’s time for Minneapolis to have a thoughtful discussion about how we want to invest TIF funds to achieve the goals adopted as part of Minneapolis 2040, to address our affordable housing shortage, to eliminate racial disparities, and to build climate change resilience.
*Sometimes the City finances TIF itself using General Obligation Bonds. This adds risk to the city if a project falls through or if improvements don’t have as much value to as projected. Minneapolis has essentially stopped using GO Bonds for TIF.