Special assessments can promote economic development

These days, with so much attention being focused on TIF’s1, new community authorities2, JEDD’s, and other new financing techniques, it is easy to overlook special assessments, a remarkably useful, “tried and true” economic development tool that has been around for many decades. In the right circumstances, through the proper use of special assessments, municipalities can offer real estate developers powerful incentives to undertake new projects in the community, at little or no cost to the public.

What are special assessments?

In a nutshell, special assessments are like targeted property taxes, imposed only on those properties that are “specially benefited” by a public improvement. For example, if the city of Hometown, Ohio wants to repave Broadway between Maple Drive and Elm Street, under Ohio law it can assess the property owners along Broadway between those intersections for part of the cost. Even though every property owner in the city of Hometown may eventually drive down Broadway, enjoy the new pavement, and therefore benefit from the project, it is only those properties that actually abut the improvement that are considered “specially benefited” and are subject to assessment for the cost of the improvement.

Special assessments are authorized under a number of chapters of the Ohio Revised Code and are available for various types of projects ranging from sidewalks to county ditches3. This article will focus on the most commonly used statute, RC Chapter 727, which applies only to municipalities, and not to counties, townships, or school districts. Under this chapter, only properties lying inside the municipal boundaries may be assessed.

What types of infrastructure are assessments used to finance?

RC 727.01 contains a long list of suitable improvements, but in the context of economic development the types of projects that are most frequently encountered include street construction, water and sewer lines, traffic control and signage, streetlights, and landscaping. In general, every real estate developer looking to construct infrastructure to serve a new real estate development ought to consider the possibility of using assessments to finance some or all of the cost of that infrastructure.

How do assessments work?

Assessment projects are public projects. That means, in most cases, the municipality will follow its usual bidding and construction procedures and will pay prevailing wage rates. Once the project is completed, the final costs will be tallied, divided among the benefited properties, and (unless a property owner chooses to pay in cash, which is not typical), certified to the county auditor for collection. The assessments will appear on the property owners’ real estate tax bills in subsequent years until the assessments are paid off. Many municipalities will issue bonds to raise funds to pay for the construction costs, and rely on the collection of assessments to pay off the bonds. The life of the assessments (and the amortization period of the bonds) depends on the nature of the improvements. Assessments for road construction projects, for example, may be collected over as many as 20 annual installments. Street light assessments can run 30 years.

How are the costs allocated?

Ohio law offers three basic ways to allocate costs among the properties to be assessed: in proportion to the front foot, in proportion to the tax valuation of each property, or in proportion to the benefits resulting from the improvement. Which method to use will depend on the situation. For example, the front foot method often makes sense where the properties are quite similar in nature (two-story, single family homes in a cohesive neighborhood, perhaps) and the cost of the improvement relates to the width of the lot (curbs, gutters, and street re-surfacing, for example).

On the other hand, if the properties are not generally alike, the percentage of tax valuation method may be more appropriate. Thus in a mixed use area, with some large scale commercial development, some multifamily apartment buildings, and some small, single family homes, this method can work well, particularly where the project involves improvements (such as storm drainage facilities) that do not relate to the width of the real estate parcels.

But the most flexible method, and the method which offers the most options for economic development, is the “benefit method.” Here it is up to the municipal council, with input from staff and advisors, to craft a formula that will fairly apportion the assessments among the property owners. Virtually any factor may be considered in the formula, including frontage, acreage, traffic generation, existing tax valuation, and number of inhabitants or users of the buildings on the property. So long as council acts reasonably and in good faith, its benefit formula will not be overturned by the courts.

Why would anybody want to pay assessments?

It’s true that nobody likes to pay taxes, and in a sense assessments are a form of taxes, but if a real estate developer needs to construct infrastructure in order to open a new area for commercial, industrial, or even residential users, he (or she) may discover that assessments are actually the cheapest way to pay for that infrastructure. So the developer may be more than happy to pay the assessments.

Let’s look at an example. Suppose Mr. Jones wants to develop a 40-acre industrial park on the edge of town. The land is zoned for industrial uses, but it has no streets and no utilities. It will cost $1,000,000 to construct access roads and install water and sewer lines, drainage, and streetlights, thereby making the park attractive to new companies. Mr. Jones can go to his bank and take out a development loan, but the bank may not be willing to lend him the full $1,000,000. The bank may permit him, for example, to borrow only $800,000 and require him to invest his own equity for the balance. Mr. Jones will probably have to sign personally on the loan or provide other guarantees to the bank. Moreover, the interest rate he must pay will be based on taxable rates and the loan will likely have a fairly short term (perhaps 5-7 years).

Now consider what would happen if assessments are used to pay for the infrastructure. Instead of only 80%, the full $1,000,000 cost can be financed. Interest rates will be based upon the municipality’s tax-exempt borrowing rate (lower than 5% for fixed-rate bonds, in today’s market). The repayment period can be stretched out to 20 years. And Mr. Jones will not have to sign personally on the loan. Mr. Jones may find those terms to be much more to his liking!

So why doesn’t everybody use assessments?

Special assessments are not entirely good news; they will add complexity to the project and will not be appropriate in some situations. As previously mentioned, if special assessments are used, the project will become public and public bidding will be required. Thus Mr. Jones will not be able to negotiate a construction contract with his favorite contractor. Moreover, prevailing wage rates will be required, which in some communities will increase costs. And there may be delays. It may take longer to prepare the plans and specifications, go through the public bid process, and complete the work.

In addition, special assessments may not be favored by some municipalities because of the requirement that, if the municipality issues bonds or notes to finance the public improvements, that those securities must be issued as a general obligation (“g.o.”) of the municipality, meaning that the full faith and credit taxing power of the municipality would be pledged to pay debt service on the securities4. So, while bond investors would typically prefer a g.o. pledge behind the securities as opposed to just the pledge of the special assessments, this requirement could have a negative impact on the municipality’s ability to borrow for other projects and, thus, affect the municipality’s willingness to facilitate the project5.

Another factor to consider is the possible negative effect assessments will have on the marketability of the developed ground. If the development will contain single-family homes, for example, it is very likely that assessments will be problematic. Residential mortgage lenders often insist upon pre-payment of all assessments (including interest to come due in the future!) before closing the loan. The result will be to inflate the overall purchase cost to the homeowner and therefore drive away some potential purchasers. This particular problem however, ordinarily does not arise if the development is aimed at only commercial and industrial users.

Despite these undeniable areas of concern, developers like Mr. Jones often will decide that the important benefits available from special assessments far outweigh the disadvantages.

How cumbersome is the assessment process?

Assessment projects can be done voluntarily (by petition of the property owners) or involuntarily (at the direction of the municipality). As a rule, voluntary projects are much easier and faster. The property owners will be asked to sign a petition that waives several of the normal procedural steps (such as sending out notices by certified mail, providing an opportunity to object, etc.) and the required legislation can be combined into a single ordinance. The process can be compressed into a time frame of as little as 90- 120 days. Moreover, if the project is based on a petition, 100% of the project costs can be assessed to the property owners.

On the other hand, if the project is done at the direction of the municipal council without property owner consent, the process can take a year or longer, and the municipality will be required under the statute to pay a portion of the project cost (not less than 2% plus “the cost of intersections”). In these “involuntary” assessment situations, the municipality should also expect some of the property owners to file objections, which will have to be addressed by an assessment equalization board appointed by council. And it is entirely possible that some property owners will be so unhappy over what they perceive to be an unnecessary, overly expensive project that they will attempt to stop the project in court. Thus the involuntary project can take significantly longer and end up costing more than the petition project. For that reason, every effort should be made to obtain property owner consent, in the form of a well-drafted petition, before starting into an assessment project.

What would an “ideal assessment project” look like?

Special assessments make the most sense as an economic development tool, and offer real advantages to both the municipality and the property developer, when the following conditions are present:

• The project involves commercial and/or industrial development on a “greenfield” site (i.e. new infrastructure is needed and no residential development is planned).

• The development area is owned by one or a small number of owners, all of whom are willing to sign a petition.

• The developer has considerable experience and is accustomed to working closely with municipal officials.

So where do we go from here?

If you have a project that may be suitable for special assessment financing, the first step is to consult with your lawyer and your engineer. It will be essential to obtain a clear sense of the scope of the project, the boundaries of the assessment area, the identity of the current landowners, the nature of the ultimate users of the developed land, the background of the developer, and a host of other related facts. Keep in mind that the assessment laws are complex and must be followed precisely in order to avoid problems and delays in the future. Make sure that key decision makers (members of council, for example) are kept informed as the structure of the project is worked out.

Special assessments can be a blessing or a curse. But where the conditions are right, they can give municipal officials the ability to promote economic development in the community in ways that many developers will find hard to resist!

Footnotes

1. See Don’t Let Your "TIF" Cause a "Tiff", by Price D. Finley, originally published in the July/August 2003 edition of Finley’s Ohio Municipal Service, Volume 15, Issue 4, for a discussion of tax increment financing.

2. For a detailed discussion of new community authorities, see New Community Districts Provide Opportunities to Finance Infrastructure Improvements That Stimulate Economic Development, by Price D. Finley and Emmett M. Kelly, originally published in the January February 2004 edition of Finley’s Ohio Municipal Service, Volume 16, Issue 1.

3. As noted, Ohio Revised Code Chapter 727 is the most frequently used provision to implement a municipal special assessment project. Municipalities also are expressly empowered to levy special assessments for sidewalk improvements pursuant to Ohio Revised Code Chapter 729. In addition, counties may levy special assessments directly for purposes of financing county water systems (R.C. Chapter 6103), county sewer districts (RC Chapter 6117), county engineer improvements (RC Chapter 5543), county road improvements (RC Chapter 5555), single county ditches (RC Chapter 6131), joint county ditches (RC Chapter 6133), interstate county ditches (RC Chapter 6135). Counties may also levy special assessments indirectly through the creation of special districts such as conservancy districts (RC Chapter 6101), sanitary districts (RC Chapter 6115), and regional water and sewer districts (RC Chapter 6119).

4. RC 133.17.

5. G.O. special assessment bonds would be exempt from the 5-½% and 10-½% direct debt limitations applicable to municipalities but would be subject to the indirect or “ten-mill” limitation that applies to all unvoted debt.

Reprinted from Finley’s Ohio Municipal Service, with the permission of the publisher and copyright owner, West Group.