Spreading up-front costs spurs development

The Hemet (Calif.) City Council recently set out to reduce the cost of development within the community as a means of encouraging growth. The goal was simple: reduce the impact that high fees have on the bottom line. The council has argued that doing so would allow new projects to cross the threshold and become feasible during a slow economy.

The city attacked the challenge on two fronts. First, an engineering firm was selected to complete a feasibility study on “alternative collection systems for Development Impact Fees.”

The firm recommended a novel program that helps both the economics of the project and levels out the year-to-year swings in development fee income.

Second, the city council appointed a Community Development Commission (CDC) made up of community leaders involved in the development process. The CDC then appointed a Blue Ribbon Panel of private sector engineers and planners, as well as land owners and, most importantly, developers.

The panel set out to evaluate the capital plan of the city at buildout. As with many California cities, Hemet’s capital plan drives the Development Impact Fee calculations. Through careful review, capital projects were downsized, eliminated or revised. The many hours of review with city departments at times seemed painful and slow. New solutions for capital needs were discussed, and the engineering resources of the CDC found new solutions to old problems.

As the ideas began to come together, the city’s fee consultant was brought in to evaluate the potential outcome. Significant reductions were possible in all of the city Development Impact Fees. The CDC and department heads reached agreement and together submitted a recommendation to the city council. In October 1995, the fees for residential development dropped by 37 percent, from $4,835 per unit to $3,026 per unit. Fees for commercial development dropped a dramatic 55 percent, from $3,687 per foot to $1,686 per foot. The bottom line for commercial prospects will clearly improve, and the city will still get its needed facilities at buildout.

Additionally, a system was put in place allowing fees to be paid over time while ensuring that the city would be paid if the project failed or changed ownership.

In today’s financial market, the impact of spreading up-front costs over a seven-year life is valuable to the developer. From the city’s standpoint, the payment over time evens out fee collections and provides a predictable revenue stream that one day can support bond payments. Hemet carefully considered a number of funding mechanisms. Some of these included assessment districts, taxes, accounts receivable systems and recorded promissory notes, but none of the alternatives seemed to meet the city’s requirements.

Consequently, the city looked to the Mello-Roos Community Facilities Act of 1982, which creates a special tax for purposes of funding public improvements. The act allows for quick annexations, especially when the area to be annexed has been previously identified as a future annexation area during formation of a Community Facilities District and when the property owners subject to the future annexation agree to it.

The district can be used to acquire property, construct facilities, provide various city services and pay development fee obligations levies upon properties with the district.

In exchange for the city’s agreement to defer fees at permit time, the developers signed an agreement to join the Mello-Roos District, which is limited to commercial and industrial land.

To date, five development projects — a 10-acre commercial development project with an expected 60,0Q0 square feet of retail space, an automobile shop, a carpet company, a multiplex movie theater and an auto parts store — currently are using the district. The maximum special tax for these parcels ranges from $7,329 to $177,483. One of the district’s stipulations is that developers can pay the Development Impact Fees over a seven-year period.

The parcels will generate more than $300,000 in revenue and interest for the city between 1995 and 2002. The district also brings Hemet a steady income stream because the fees are collected over seven years. Hemet can budget for certain expenses knowing that the revenue will be available during this time period. Certain parcels are also subject to accrued imputed interest on the outstanding balance, which brings in additional revenue. In addition, no bonds are issued to cover the impact fees, and a financial advisor is not required. Developers are finding that using the district has a number of inherent advantages for them as well. California is emerging from a long recession, and most developers do not have deep pockets. Allowing developers to spread the Development Impact Fees over seven years improves their cash flow and may help provide them with the funds that are needed to complete basic improvements and develop additional projects.

The work of the CDC and the city council to reduce fees, backed up by the ability of the district to pay fees over time, clearly demonstrates the power of a public/private partnership with the common goal of economic vitality in the community.