Memorandum
City of Lawrence
City Manager’s Office
TO: David L. Corliss, City Manager
CC: Cynthia Boecker, Assistant City Manager
Diane Stoddard, Assistant City Manager
FROM: Roger Zalneraitis, Economic Development Coordinator/Planner
DATE: November 3, 2008
RE: Benefit Cost Model Background
The following memo provides an overview of the benefit-cost model that has been developed internally for the City.
Background
The state of Kansas requires that a benefit-cost analysis be conducted for any property tax exemption offered by a local government (KS 79-251(a)(1)). To fulfill this requirement, the City of Lawrence contracted with the Institute for Policy and Social Research at the University of Kansas. The Institute developed a model and provided analysis for all tax abatement applicants.
Earlier this year, KU notified Lawrence that the model needed to be updated. At the same time, there was a desire on the part of the City to have an in-house model in order to be able to simplify the analytical process, both in terms of the number of variables used and in terms of the ability to run multiple analyses on an application. For these reasons, the City chose to develop its own model.
Research
Staff conducted extensive research in developing the benefit-cost model. In order to create the model, staff did the following:
· Reviewed best practices as noted by existing literature;
· Met with KU staff and reviewed the KU benefit-cost model to understand how the analysis has been conducted to-date;
· Reviewed the State model that is available for municipalities as well as the questionnaire they recommend for applicants for tax abatements;
· Identified key issues and conducted several internal meetings to develop preliminary approaches to modeling these issues;
· Visited Lee’s Summit, MO; Kansas City, MO; Lenexa, KS and Manhattan, KS to review their models and how they handled some of the more difficult issues in modeling (these issues included multipliers, discount rates and costing infrastructure);
· Spoke with consultants to discuss where to obtain certain variables such as multipliers; and
· Met with City, County, and USD497 officials to apprise them of progress and better understand their budgets and costs.
Output- First Draft
A first draft of the model was ready by the end of August. The draft version of the model measures costs and revenues for the City, Douglas County, USD497, and the State. Revenues and costs are measured both for the firm as well as new residents that move to the community. Revenues include sales tax, property tax, any sale or lease of property owned by the City or County, franchise fees, state transfers to the school district, and income and corporate income taxes for the State. Costs include any new infrastructure built for the project, ongoing operating costs for the taxing jurisdictions, interest paid by taxing jurisdictions for bonds issued, and for the State any new transfers to the School District.
All data is derived either from the applicant’s questionnaire or from easily obtainable public sources. The data is entered on a single page and the source of the data is clearly identified for users of the model.
Some key features of the model are more abstract. In particular, this includes the multiplier, the number of new residents, and the discount rate. The multiplier is taken from the Bureau of Economic Analysis (BEA) RIMS II database and will need to be updated every few years. The number of new residents uses a procedure that derives its estimates from the U.S. Census’ Local Employment Dynamics (LED) database. Finally, the discount rate attempts to value the stream of future revenues and costs in today’s dollars, under the key assumption that a dollar tomorrow is not worth as much as a dollar today. The discount rate in the model values “tomorrow’s” dollar at a rate equal to a risk-free rate of return plus a risk-adjustment for the likelihood that the total projected return will not be made.
Presentation
Upon completion of the first draft of the benefit-cost model, staff held a series of meetings to introduce the model, explain it, and receive feedback. The first meeting was conducted with City, County, and Chamber of Commerce representatives. The second meeting was held with the City Manager and Commission Rob Chestnut. The final meeting was held with three professors from the University of Kansas as well as some community members who have a strong interest in economic development.
These meetings helped identify several issues that needed further research and resolution with the model. A discussion of these issues is presented in an attached memo. Briefly, however, they are as follows:
Conceptual issues:
1) Should a “but-for” estimate be included in the benefit-cost model?
2) Should the discount rate be adjusted to include firms that fail to fully comply with performance agreements?
3) How should we treat city assets that are built, acquired, or sold?
Operational issues:
1) Which cost and revenue items from the city and county budgets should be included when calculating the impact of new residents and employees on government expenses?
2) Similarly, how should “persons” within the city be counted- in particular are residents who work in the city being double-counted?
3) Should we use average costs or marginal costs for capital improvements?
4) Should spending by construction activity be incorporated into the model?
Presentation issues:
1) What results would the City Commission like to see presented when reviewing incentive requests?
While the attached memo provides recommendations for additional work on the model, none of the recommendations have been adopted as they await formal review and comment from the City Commission.