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EXECUTIVE SUMMARY

Overview

This Primer examines how broad-based economic shocks affect value capture mechanisms and how those impacts can be mitigated. It relies on data and examples from the Global Financial Crisis (GFC) (from mid-2007 to 2009 and the COVID-19 Pandemic (COVID-19 or the Pandemic), which began in 2020. While there is uncertainty on the full-extent of COVID-19’s impact on real estate and value capture, the experience in the last two years provides useful data in planning for similar shocks when utilizing value capture techniques.

Review of Value Capture Techniques

The Primer begins with a review of the value capture techniques that are discussed. These techniques and how an economic shock can affect them are described in Table 1.

Table 1 . Overview of Value Capture Techniques

Technique	Description	Economic Shock Potential Impacts
Special Assessment District	A funding technique under in a fee is charged on property within a designated district that are the primary beneficiaries of an infrastructure improvement.	Low appetite among property owners and/or public agencies for new fees during shock.
Tax Increment Financing	A geographic area in which incremental tax attributable to revenues generated by an infrastructure investment are captured to fund or finance the infrastructure investment.	Growth in property tax revenues lower than expected or delayed during economic shock. Lower tax receipts growth or delayed growth could also apply to other taxes used to fund infrastructure, such as sales, hospitality, and employment taxes.
Joint Development	Involves development of a transportation project and adjacent private real estate or infrastructure development where a private developer either implements the real estate or infrastructure improvement directly or helps to defray its cost.	With a decline and jobs, demand for private real estate development may decline thereby reducing demand for joint development projects.
Impact Fees	Charges imposed on developers by municipalities to help fund additional public services, infrastructure, or transportation facilities required due to the new development.	Low appetite among property developers for new fees during shock since they feel that impact fees reduce the competitiveness of affected properties compared to properties in jurisdictions without such fees. Also, decrease in development during shock means less fees collected.
Transportation Utility Fees	Periodic municipal fees paid by a property owner or a building occupant based on transportation system use.	Potentially lower appetite to pay, though experience has shown that these are consistently paid, regardless of the state of the economy.
Naming Rights	An agency sells the right to name infrastructure to a company looking to increase its brand awareness.	Market for naming rights depends on how businesses are doing.

Impacts of Economic Shocks on Value Capture-Funded Projects

Impacts of Economic Shocks on Real Estate

Projects funded using value capture techniques are inherently subject to cycles and volatility of the real estate market. Many value capture techniques rely on growth in real estate values to fund infrastructure projects. When segments of the real estate market wax and wane, so too does the funding available through value capture techniques applied to that market segment. COVID-19 is one example of such economic shocks, affecting the private and public office market and, to a lesser extent, the housing market.

Impacts to Value Capture Funding Sources

Economic shocks like COVID-19 and the GFC generally affect the broader economy and often specifically the real estate market. While economic shocks vary, they can lead to reduced value capture revenues, driven by several factors, such as:

• Lower property value appreciation: Economic downturns have been shown to slow or even reverse property value appreciation. Such lower appreciation can affect the revenues anticipated from TIF, joint development, and special assessments.
• Lower assessments and/or difficulty levying new assessments: Where special assessments are tied to a property’s value, these fees collected may also decline during a shock. It may also be more difficult to levy new special assessments.
• Less new development leading to lower impact fees: Impact fees may decline, or even be discontinued during economic shocks. This is because the amount collected via impact fees is tied to new development. During an economic shock, new development can slow significantly.
• Less commerce leading to lower sales tax district fees: Correlated with retail sales, sales taxes often decline during an economic shock. The decline in sales taxes caused by an economic shock can negatively affect the revenues collected within a sales tax district that was created to help fund a transportation asset.
• Changing naming rights demand: This is because large firms and institutions are likely to cut back on branding and marketing budgets during a downturn.

How a value capture source will be affected by an economic shock will be determined by the nature of the economic shock. For example, during the GFC the residential real estate subsector was extraordinarily impacted declining by over 1,200,000 housing starts during the recession to around 500,000 at its worst. Housing start production did not return to pre-GFC levels until five years later. During the Pandemic, however, housing starts declined from 1,600,000 to 1,000,000, recovering within a year.¹

Project Implications

The impact of economic shocks on value capture funding sources can lead to funding and financing implications for projects relying on value capture funding sources, including that the project may be unable to:

• Meet funding or debt service requirements, and/or
• Secure project financing.

Further, loss of value capture revenues can lead to the public agency changing its mind about pursuing a project and/or how it funds or finances a project. In the face of reduced value capture sources, a public agency may:

• Have less willingness to fund future projects, and/or
• Switch to a pay-as-you-go modality, developing a project over a longer period, and potentially jettisoning more complex, yet traditionally higher-yielding value capture funding and financing.

Tools to Manage the Impacts of Economic Shocks

As shown in Table 2, agencies/sponsors can employ several tools to reduce the impact of economics shocks in value capture funded projects.

Table 2. Summary of Tools to Mitigate Economic Shocks

Symbol	Tool
	Analyze downsides: Conducting this analysis will help public agencies and project sponsors understand what funding mechanisms need to be in place to ensure the project has enough cash flow to survive periods of stress.
	Over-collateralize: Increasing the debt service coverage ratio and/or the value-to-bond ratio in comparison to the total assessed value of properties included in a SAD helps to reduce default risk.
	Build in reserve funds: Providing a buffer to address expected real estate-related volatility, these can consist of reserves that the agency/sponsor establishes using project revenues and other resources to which they are legally entitled.
	Collect revenues before project start: Agencies/sponsors can begin to collect revenues and/or tax increments before a project has started or before project financing, thereby creating a reserve and demonstrating to lenders the adequacy of pledged revenues.
	Reduce Early Year Cash Flow Pressure: Several financing techniques can reduce or delay debt service payments, including delaying repayment of principal, capitalizing interest, and matching debt service growth to expected property assessment growth.
	Develop projects by phase: Developing projects in phases allows the project to start and revenues to flow or debt capacity to become available to raise financing.
	Backstop projects with creditworthy sources: Consider creditworthy funding sources such as a secondary pledge or backstop, e.g., using special assessment funds as a complement to TIF funds.

Footnotes

¹ U.S. Census Bureau and U.S. Department of Housing and Urban Development, New Privately-Owned Housing Units Started: Total Units [HOUST], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/HOUST, March 12, 2022.

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