Philadelphia has approved a new residential construction tax and changes to a property tax abatement program, paving the way to new bond sales to aid the city’s poorest communities.
City Council president Darrell L. Clarke wants the revenues from the new tax and reduced real estate tax breaks to support $400 million in bonds for antipoverty and affordable housing investments.
The City Council approved the new tax and reduced abatements in a legislative package of bills Thursday.
The legislation wil now be considered by Mayor Jim Kenney, who backed the measures prior to Thursday's vote.
“The COVID-19 pandemic magnified economic and racial disparities that have existed for far too long in Philadelphia, Clarke said in a statement after the legislation was approved. “We need to act now to create a more equitable future for every Philadelphian and all our neighborhoods.”
The new 1% development impact tax on residential construction will take effect in January 2022. Another bill that passed Thursday’s city council meeting reduces the real estate tax abatement for commercial construction by 10%.
Kenney supported the legislation after striking a compromise with Clarke exempting commercial properties from the construction tax and delaying implementation of the reduced tax breaks. Kenney had previous concerns that the changes would slow the city’s economic growth.
“The mayor appreciates the work City Council has done on this important issue, and looks forward to reviewing the measures once the law department has weighed in on them,” said Kenney spokesman Mike Dunn. “If signed into law, we anticipate that the tax would serve as one source of funding for the debt service on the bonds. The precise funding mix would be determined based on market conditions at the time of issuance, which would be several months from now at the earliest.”
Clarke has said he would like to see the bonds issued sometime in the first quarter of 2021 with resources available to fund city initiatives by the middle of the year.
Projections by the City Council’s budget and technical staff estimate that the development impact tax would yield $11.7 million in annual revenue. The 10% reduction in the commercial real estate abatement would generate a projected $83 million of revenues for city services and public schools over the next decade.
Revenue from the two initiatives will help back debt service on the planned $400 million bond issue.
Fitch Ratings rates Philadelphia A-minus, and revised its rating outlook to stable from positive in August citing uncertainty associated with the COVID-19 pandemic-related economic downturn and anticipated revenue declines that would reduce the reserves to low levels.
Philadelphia general obligation bonds are rated A by S&P Global Ratings and A2 by Moody’s Investors Service, both with stable outlooks.
Fitch analyst Shannon McCue said more analysis about how the construction tax and abatement changes affect future economic development will be needed before determining how the legislation impacts Philadelphia’s credit quality.
“We really want analyze the details to see how it is going to affect development in the city because there are some who feel who it could be somewhat of a disincentive,” McCue said. “We need more details to see how they are going to appropriate this revenue.”
McCue noted that Philadelphia entered the current economic downturn better positioned financially than in past years with unrestricted general fund reserves of $438.7 million, 9.2% of general fund spending at the end of the 2019 fiscal year. Philadelphia’s last quarterly city manager’s report released in August estimated a $57.6 million shortfall in general fund revenues relative to the fiscal 2020 adopted budget, which McCue said may be revised due to recently improved revenue figures.
Villanova University School of Business professor David Fiorenza said new taxes are not the answer to address Philadelphia’s fiscal challenges noting how the city has used this approach in the past with budget problems still persisting. He said the city should instead tackle inefficiencies to find budget savings with assistance from City Controller Rebecca Rhynhart.
Fiorenza cautioned that the tax might not generate as much revenue as hoped given economic headwinds posed by the COVID-19 pandemic. He also said there are risks of hampering construction activity that would have a compound effect on other economic activity.
“I think many economic factors that happened this year will have an impact beyond 2021, including revenues for this new construction tax,” Fiorenza said. “Stifling construction, whether residential or commercial, has a multiplier effect on many other industries that will have a negative impact on the City of Philadelphia.”
Clarke said the bond program is expected to spur $2.5 billion of economic activity and produce $71 million of tax revenues over the first four years. He wants to use the bond proceeds to fund housing, repairs to residents’ existing homes, support for first-time homebuyers, neighborhood business corridor revitalization as well as the creation of a more inclusive workforce and family-sustaining jobs across the city.
Pennsylvania’s largest city first enacted a 10-year tax abatement program in 2000 designed to incentive development by enabling property owners to pay no real estate taxes on new construction or renovations on commercial or residential buildings for 10 years. The city council last year cut the value of residential tax breaks by roughly half and left the abatement for commercial properties untouched.
An earlier version of the development impact tax
During testimony of the legislation, Clarke noted multiple tax breaks received by the Philadelphia development community from the Trump administration including $30 billion for new pass-through and real estate dividend deductions along with $16 billion for real estate exemptions from limitations on interest deductions.
He also highlighted that over the past five years Philadelphia has abated $700 million in property taxes owed to the city and school district on more than 14,000 properties.
“If people want to know why we’ve come to the construction and development industry and asked them to contribute, it’s because that’s where the money is,” Clarke said.
