As Cities Seek Payments in Lieu of Taxes, Colleges Are Urged to Work Out Deals

November 29, 2010

As the need for new revenue deepens, cash-strapped cities may be increasingly likely to turn to colleges, as well as other nonprofit groups, to make payments in lieu of the taxes on the property they use for educational purposes. However, municipalities and local nonprofits should work to hammer out payment plans that are transparent and predictable, according to a new report by a research organization based in Cambridge, Mass.

The report, by the Lincoln Institute of Land Policy, acknowledges that such plans may not make sense for all communities, such as those in which nonprofit groups do not own large amounts of tax-exempt property. And the think tank suggests that state and local governments should consider alternatives to such compensation agreements, which are known as PILOTs, for payments in lieu of taxes.

"PILOTs are not a panacea, not a blanket solution to all municipal financial problems," says Daphne A. Kenyon, one of the report's authors and a visiting fellow at the institute.

Private colleges and other nonprofit organizations, such as hospitals, churches, and soup kitchens, are exempt from paying property tax in all 50 states. The forgone revenue from the property-tax exemption could total as much as $32-billion nationwide.

But as municipal budgets have been stretched thin, mayors and local politicians have called on colleges and other such groups to compensate cities and counties more for the services they use.

A survey by the Lincoln Institute found that PILOT programs have been used in 117 municipalities and 18 states since 2000.

Many of those agreements, however, appear to be haphazard, secretive, and calculated in an ad hoc manner, the authors found. Even within the same city, payments can vary significantly. Harvard University, for example, pays Boston nearly $2-million annually, while Boston College contributes less than $300,000 through the program.

What's more, payments in lieu of taxes typically generate relatively little revenue, as a share of overall municipal budgets, and often are not a reliable long-term source of funds. In the 2009 fiscal year, PILOT payments from tax-exempt nonprofits accounted for just 0.66 percent of Boston's total municipal budget.

The plans also may not make sense in all communities, such as those that do not rely heavily on property taxes or that are not home to nonprofit groups with substantial real-estate holdings. A Minnesota study cited in the Lincoln Institute report found that while PILOT agreements could increase property-tax collections by more than 10 percent in six of the state's cities, such plans would yield "negligible" revenue in most Minnesota communities.

Still, such programs can provide an essential source of funds to cities and help offset the costs of municipal services used by colleges and other nonprofit groups, the report states.

Ms. Kenyon and her co-author, Adam H. Langley, a research analyst at the Lincoln Institute, argue that municipalities and nonprofit groups should work collaboratively to negotiate plans for payments in lieu of taxes that are transparent, equitable, and predictable. As a model, they cite a series of recommendations made this past spring by a Boston panel appointed by Mayor Thomas M. Menino that included representatives of nonprofit groups.

Among the hallmarks of such plans, Ms. Kenyon and Mr. Langley write, are clearly articulated methods for deciding which nonprofit groups will make payments in lieu of taxes and for calculating PILOT amounts. Cambridge, for one, uses square footage to determine payments, while Baltimore bases such disbursements on an organization's annual operating income. The Boston panel proposed that the city seek payments equal to 25 percent of the property taxes that would be owed if the nonprofits' real-estate holdings were fully taxable.

The authors also suggest that multiyear plans with escalator clauses can reduce uncertainty for both nonprofits and municipalities. And they say that cities should consider granting community-benefit tax offsets for public services, such as providing scholarships or job training, rendered by nonprofits that directly benefit local residents.

There are alternatives to payments in lieu of taxes, the authors note, such as charging municipal­-service fees to tax-exempt groups or levying special tariffs, such as tuition taxes, on groups that use nonprofit services. Such taxes and fees, however, are open to court challenges. Most recently, public officials in Pittsburgh backed away from creating what would have been the nation's first tuition tax after the city's largest nonprofit organizations, including Carnegie Mellon University and the University of Pittsburgh, agreed to make voluntary payments.

States, which create property-tax exemptions in the first place, also could reimburse cities and counties for a portion of lost revenue, as they do in Connecticut and Rhode Island. But in the current economic climate, Ms. Kenyon says, such reimbursement plans are unlikely to gain traction with state legislators.