In collaboration with Mason Engnes and Nathanial Matteson
In any market where land is utilized, there will always be interactions between the interests of private firms and those of society; short-term fixed costs, long-term debt obligations, private profits, and public externalities will be at the center of a firm’s conversation with local approval agencies. Real estate developers often encounter this debate as the implicit costs of construction and higher utility requirements must either be paid for by the firm initially, or fall on the region’s population over a period of time.
In their 2006 paper, “Impact fees and single-family home construction,” Gregory Burge and Keith Ihlanfeldt argue that private actors should embrace impact fees by local governments as they reduce the costs associated with seeking permit approval, increasing construction completion rates, as well as increasing the demand for homes by young, moderate income, first-time home buyers. Within building permit negotiations, a strategy local governments can employ is the stipulation of impact fees alongside urban and suburban development projects. Burge and Ihlanfeldt (2006) effectively describe them as:
“Impact fees are one-time levies, predetermined through a formula adopted by a local government unit, that are assessed on property developers during the permit approval process. They are used for the provision of public infrastructure services (such as roads, schools, parks, and other recreational areas, libraries, and water and sewer) that are necessary to adequately serve new development.” (Burge and Ihlanfeldt 2006)
The thought of additional costs frustrates many developers who believe their project provides a positive enough effect on a community as to justify government expenditures on project-related infrastructure like improved roadways and power. However, Burge and Ihlanfeldt (2006) believe that having developers cover these costs pushes them to plan their projects in a more durable manner.
Their paper serves to dispute claims made by developers that impact fees produce a backward shift in housing supply and increase the price of homes, deterring low-income consumers and affordable housing construction. The Burge and Ihlanfeldt model instead maintains that impact fees, under certain circumstances, actually serve to increase housing supply and promote regional desirability among young professionals and families by reducing future property taxes. Their findings conclude that impact fees, in nonwater and sewer infrastructure projects, increase the completion percentage of all homes in “inner-suburban” areas as well as medium- and large-scale home construction in “outer-suburban” areas. This focus away from water and waste infrastructure stems from a tradition that these nonwater/sewer public utilities be financed by local property taxes (instead of user fees) and that a reduction in these costs on the household serves to increase unit demand.
Their results rely on data assembled in contact with county planning and building offices in the state of Florida where 41 of 67 counties used some sort of impact fee during the study period 1993 to 2003. For control, the data is categorized into two types: first, those infrastructure costs of services funded by users (e.g., tolls to repay the costs of bridge construction) and second, those typically funded by property taxes; the first includes water and sewer fees, the second group does not. This distinction is important for Burge and Ihlanfeldt’s argument, infrastructure that is needed for development projects but cannot be funded through user fees will be especially costly for a region’s taxpayers. In addition, newly constructed single-family homes are grouped by size and expected affordability to moderate income households based on 2002 average home prices: very affordable, 600 to 1500 sq/ft (averaged $106,185 in 2002); affordable, 1501 to 2200 sq/ft ($139,384); and unaffordable, 2201 to 5000 sq/ft ($228,189). To account for the influence impact fees can have on existing structures, Burge and Ihlanfeldt utilize a standard repeat-sales model that studies year-to-year housing prices alongside a cumulative price index to build a “benchmarked annual real constant-quality price index” for the date period.
Burge and Ihlanfeldt’s (2006) model of housing equilibrium relies on a simple initial formula where housing prices (V), is dependent on a function of variable construction opportunity cost (C), the agricultural price of land (PL), project approval cost put on developer (A), and two sets of impact fees, those financed by property tax (FT) and user fees (FU). To support their theory, the authors must illustrate that an increase in FT or FU increases V by decreasing A. If the change in housing price (△V) exceeds the net change (△F−△A), we can conclude the city’s growth is accelerating; if △V does not, the city is in decline. A limit on this model is that landowners must be compensated, such that the price of a unit of housing stock (annual rent rate, R) exceeds the cost of capital (ρ). One consideration that is important is that development projects seem to serve merely a short-term purpose and come with heightened risk over time and require infrastructure with long-term costs. This situation will be highly inefficient without impact fees. When localities are left with costly public works that were destined for failed construction projects, the residents can become alienated and prefer exclusionary barriers and these regulations increase permit costs for all firms in the area, hurting housing supply.
Using the data collected and basic supply and demand intuition, the authors apply the numbers to three models of regression analysis; a fixed effect (FE), random trend (RT), and lagged dependent (LD) variable models. For their purposes, FE is central to the generalizability of the study’s broader findings to markets outside Florida and so it will be the focus. The RT and LD models are important, but lend themselves to more area-specific factors that don’t explain much about the nature of impact fees. The fixed effect model dictates that the number of houses completed (C) in area (i) during period (t) are dependent on variable levels of real water/sewer impact fees (WSIF) and real nonwater/sewer fees (NWSIF) from the previous year (t−1), subject to area-specific elements (αi) and (γt) as well as an idiosyncratic error term (εit).
Using this framework, the results found that impact fees increased the rate of homes completed in the fixed effects model; nonwater/sewer impact fees had a greater effect on the completion of houses than water/sewer infrastructure, in some cases, water/sewer fees actually had a negative impact on housing completions. Small-sized homes experienced less change than medium and large houses due to nonwater/sewer fees. Looking at the data, one also sees that inner and outer suburban areas experienced different effects, depending on the size of the home. For small houses, the difference in inner and outer suburbs was miniscule, changing only 0.04 percent in inner suburbs and 0.02 percent in outer suburbs due to nonwater/sewer effects. The medium-sized homes experienced a 0.142 percent change in inner suburbs and a 0.205 percent change in outer suburbs due to nonwater/sewer effects. Large houses had a 0.228 percent change in the inner suburbs and a 0.102 percent change in the outer suburbs due to nonwater/sewer fees.
The main results of the data show that medium- and large-sized houses benefited from nonwater/sewer fees, but small-sized houses did not. It is also seen that being in an inner or outer suburb does not fully determine whether or not nonwater/sewer fees have an impact on housing completions. It has to do with both the type of suburb and size of house; however, the data does support the idea that impact fees increase housing completion and the supply of housing in the long run.
Small houses in the outer suburbs experienced no change, but in inner suburbs they experienced an 82-percent increase in completions. Medium houses that were completed experienced a 30-percent increase in inner suburbs and a 36-percent increase in the outer suburbs. Large houses experienced a 24-percent increase in the inner suburbs and a 26-percent increase in the outer suburbs in completions. All houses combined experienced a 44-percent increase in completions in inner suburbs and a 29-percent increase in completions in the outer suburbs. This goes along with their idea that nonwater/sewer impact fees increase the supply of housing. Overall there were a total of 1863 extra houses completed because of these impact fees. This gives opportunity for even more houses to be built if the ideas of impact fees being an asset can continue to grow in the minds of local governments.
Overall, the paper offers a fresh view of impact fees. Burge and Ihlanfeldt (2006) aim to persuade developers that impact fees can be beneficial by eventually increasing the supply of houses in the market by indirectly reducing project approval costs. They effectively brought light to the indirect effects impact fees have on the housing market when focused on the right projects within the state of Florida.
A related phenomenon to the study of impact fees is the discussion of banking regulation and reform after the most recent global financial crisis. The 2014 book, “House of Debt,” written by Atif Mian and Amir Sufi, argues that the “Great Recession” of 2008 to 2009 was a result of a large increase in private household debt prior to 2007. This debt theory proposes that recessions are preceded by a large increase in household debt that is disproportionate to home equity. When this imbalance exists, and housing prices decline as a result of market imperfection, mortgage borrowers fall victim to a “levered losses” framework where those who take on debt are held primarily responsible for a conditions outside of their control. Burge and Ihlanfeldt (2006) believe that if developers pass impact fees onto the public, and projects result in unsuccessful construction or unprofitable businesses, then people are hurt by both higher taxes and an increased distrust of private development. Much like the issue of combating moral hazard in finance by making firms liable for risky investment strategies, impact fees serve as a sort of insurance policy for local governments by pressuring firms to provide additional funding for projects. This in turn should push firms to carefully offer only their most profitable and socially practical proposals to permit committees.
Burge and Ihlanfeldt (2006) prove their theory with the data they found, yet there remains room for further research within the paper. The scope of their study is limited to just Florida and using their study to justify impact fees across national markets could prove problematic. While Florida is one of the top states in terms of the housing market, it does not fairly represent the average state’s housing market. Additional research is needed to quantify a more definite understanding of the benefits of impact fees under more diverse circumstances. If it is the case that the Burge and Ihlanfeldt (2006) study is specific to Florida, the random trend and lagged dependent variables will become increasingly important in their findings. Further research could be conducted in order to back up their findings. While they did prove that impact fees do increase construction, one may wonder whether their results hold true in states other than Florida.
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1. According to Burge and Ihlanfeldt (2006) what was the total number of all types of houses that were increased due to nonwater/sewer impact fees in both inner and outer suburbs in the state of Florida?
a. 1580
b. 1820
c. 1863
d. 1945
Explanation: Nonwater/sewer impact fees increased the number of new houses constructed by 1863 in Florida. There was an increase of 1393 in inner suburbs and 470 in outer suburbs. This was a 44-percent increase in inner suburbs and a 29-percent increase in outer suburbs. This increase represents a significant change due to nonwater/sewer impact fees for small-, medium-, and large-sized houses in both the inner and outer suburbs. Because of these impact fees the supply of houses increased significantly in Florida.
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2. According to Burge and Ihlanfeldt (2006), which of the following is not an example of a provision of public services that benefit from impact fees?
a. Water and Sewer
b. Schools
c. Roads
d. Hotels
Explanation: Impact fees are involved in all of the above except for hotels. Water and sewer infrastructure is included in impact fees; however, for the sake of data in the paper, water and sewer are separated into their own type of impact fees. Schools and roads are a type of service that is a benefit to the community after completion so that they are affected by impact fees. Hotels are private construction that serves a benefit to a private market and not the local community, so the local government does not contribute to their construction.
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3. According to Burge and Ihlanfeldt (2006), what is the best description of an impact fee?
a. Impact fees are one-time levies, predetermined through a formula adopted by a local government unit, that are assessed on property developers during the permit approval process
b. Impact fees are multiple time levies, predetermined through a formula adopted by a local government unit, that are assessed on property developers during the permit approval process
c. Impact fees are one-time levies, predetermined through a formula adopted by a local government unit, that are assessed on property developers during the construction process
d. Impact fees are multiple time levies, predetermined through a formula adopted by a local government unit, that are assessed on property developers during the construction process
Explanation: Impact fees are predetermined by the local government through a formula that specific government adopted. They are only one-time levies and assessed on the developers during the permit approval process. They were created to be used for building public infrastructure services such as roads, schools, parks, and other recreational areas, libraries, and water and sewer. They are not multiple time levies and they do not take place during the construction period.
References
Burge, G. and K. Ihlanfeldt (2006), “Impact Fees and Single-Family Home Construction,” Journal of Urban Economics 60, 284–306.
Mian, A. and A. Sufi (2014), “House of Debt,” The University of Chicago Press: Chicago, USA.