Section 3. The usefulness of tax incentives in D.C. is limited by the make-up of its sectors

The District takes a very different approach to state business incentives when compared to neighboring jurisdictions in Maryland and Virginia.

The District offers a different mix of tax incentives than Baltimore or Virginia Beach. The District’s incentive-granting strategy relies primarily on local property tax abatements. According to the Subsidy Tracker, the recipients of the District’s largest property tax abatements were Gallery Place ($84 million) for mixed-use development in 1999, and the Advisory Board Co. ($60 million) for its corporate headquarter relocation in 2015 (See Appendix C for a selected list of abatements). By contrast, at the city level, neither Baltimore nor Virginia Beach have major property tax abatements. [1]

At the state level, Maryland’s tax incentives principally depend on job creation tax credits and research & development tax credits. Virginia’s tax incentives principally rely on job creation tax credits and customized job training subsidies. Interestingly, job creation tax credits in Maryland and Virginia are remarkably similar in industries they target. The similarity in industry-targeting of job creation tax credit policies in Maryland and Virginia provide suggestive evidence of competitive behavior.

The District’s highest tax incentives correspond to high tax rates, diverging from strategies in Baltimore and Virginia Beach. In the District, the industries with the highest tax rates receive the highest tax incentives. By contrast, in Baltimore and Virginia Beach, many industries with low tax rates receive some of the highest tax incentives. These patterns suggest that Baltimore and Virginia Beach are more selective in what industries they target. Consider, for instance, that Virginia offers tax incentives only in nine out of sixteen industries. Clearly, the objective is to incentivize business activity in certain industries over others. By contrast, the District offers tax incentives across all sixteen industries.

The District offers much higher tax incentives than Baltimore or Virginia Beach. The second column in Table 3, below, quantifies the tax incentives in terms of percent of present-value of value-added. The District’s highest tax incentives are ten times larger than the largest tax incentives in Baltimore or Virginia Beach. In addition, the District’s lowest tax incentive in “Professional, Scientific, and Technical Services” is as large as the highest tax incentive in Baltimore or Virginia Beach.

The District offers tax incentives to all industries while Baltimore and Virginia Beach employ a more targeted incentive strategy. As discussed earlier, research suggests that state and local policymakers ought to target export-based industries, which not only have highest job multipliers but also are less likely to result in job displacement. Notice that two of District’s top five industries receiving tax incentives are non-export base industries, while several of export-based industries (“Management of Companies and Enterprises”; “Transportation and Warehousing”; and “Professional, Scientific, and Technical Services”) rank low. By contrast, all of Baltimore’s top five industries and four of Virginia Beach’s top five industries are all export-based industries (See Table 3).

Table 3: comparison of tax rates and incentives of D.C., Baltimore, and Virginia Beach

D.C. tax incentives tend to target non-export base industries

Figure 3 compares taxes and tax incentives of the District, Baltimore, and Virginia Beach to the national averages based on 2015 data. Panel A displays tax incentives as percent of total state and local taxes (total incentives / total tax * 100). Panel B displays total taxes, and Panel C, total incentives. Panel D displays the difference between total tax and total incentives (total tax – total incentives).

The District offers high tax incentives to some non-export based industries and offers low tax incentives to some export-based industries. The District’s most generous tax incentives are in “Real Estate and Rental and Leasing,” a non-export based industry; on average, recipient of tax incentives in this industry will get a 40 percent discount on the tax liabilities compared to others (See Panel A). Although the industry has comparable tax rates to the national average and slightly lower tax rates than Baltimore, once accounting for generous tax incentives, the difference widens, such that a recipient of tax incentives pays lower taxes than the national average and the non-recipient pays higher taxes than the national average (Panel B is the tax liability of the non-recipient and Panel D is the tax liability of the recipient). The District’s unusual targeting of this industry is perhaps reflective of the federal government’s presence.

Another unusually targeted industry is the “Retail Trade,” also a non-export based industry. This is, at least in part, reflecting the District’s “Supermarket Tax Incentives.” Through the Supermarket Tax Exemption Act of 2000, the District waives certain taxes and fees to grocery stores that locate in specific neighborhoods in order to encourage local development and investment in areas lacking access to groceries.

What is most unusual about the District’s incentive-granting strategy is the absence of targeting in “Professional, Scientific, and Technical Services,” an export-based industry. Nearly a quarter of the District’s establishment expansion is found in this industry (See Appendix A for the industry breakdown of each local economy). More so than Baltimore or Virginia Beach, the District already has agglomeration economies in this industry and could better harness this advantage.

The District’s targeting of “Real Estate and Rental and Leasing” and “Retail Trade,” and the lack of targeting in “Professional, Scientific, and Technical Services” suggests a need for rigorous program evaluation to inform lawmakers and improve policy choices. There are many questions that arise, such as: Are the District’s generous tax incentives justified or should they be reduced across the board? Should the District discontinue tax incentives in certain industries and increase incentives in others? Should the District adopt a mix of tax incentives rather than relying so heavily on property tax abatements? The only way to answer these questions is through continued program evaluation.

Figure 3. Comparison of Taxes and Tax Incentives to the National Average, 2015

Graph showing incentives as a percent of total taxes for industries

 

Graph showing total taxes for all industries

 

Graph showing incentive rates for all industries

Graph showing net tax rates for all industries

The District’s tax incentives are exceptionally high compared to the national average, while its tax rates are just around the national average. The District has higher tax incentives than the national average in 12 of 16 industries; by contrast, incentives in Baltimore and Virginia Beach are low compared to the national averages (See Panel A and C). The District’s tax rates are just around the national average, with the exception of “Real Estate and Rental and Leasing” (See Panel B). As a result, the difference in tax obligation for the District’s tax incentive recipients and non-recipients is large. In theory, if these tax incentives are effective in targeting productive firms and promoting productive behavior, the policy impact will be large. However, if they are ineffective in targeting and incentivizing productive behavior, this policy can generate adverse effects.

According to the aforementioned 2012 study conducted by Pew Center on the States, the District, along with 25 other states, did little to nothing to evaluate the effectiveness of tax incentives. In fact, a 2011 study, conducted by Good Jobs First, investigated how well state subsidy programs delivered on jobs and ranked the District last, behind 50 states. Unlike other states, the District did not have requirements on how long new jobs should last, what benefits should be provided, or how close wages should be to market-rate. WAMU’s five-part special investigation in 2013 found evidence of political favoritism in the District’s tax incentive granting. Elected officials received more than $2.5 million in campaign cash from groups receiving the subsidies; in return, those officials approved $1.7 billion in tax breaks and discounted land deals between 2000 and 2010.

Since then, the District has made significant progress. The Pew Charitable Trusts’ 2017 national assessment of evaluation practices, the most recent study of its kind, finds an overall improvement in states’ evaluation of incentives. The District also enacted tax incentive evaluation law in 2014, authorizing Office of the Chief Financial Officer to periodically review incentives every five years.

 

Upcoming analyses

This study’s aim was to conduct a rigorous analysis of the District’s incentives and propose actionable policy recommendations. This study finds that when compared to Baltimore, Maryland and Virginia Beach, Virginia, the District’s tax incentive strategy could be more targeted. The most immediate way to improve the District’s tax incentive strategy is to target export-based industries.

The Washington DC Economic Partnership has laid out the District’s six key industries (hospitality, professional services, data science & analytics, tech, retail, and security technology). In the light of the findings of this study, do all six industries merit targeting, or should some industries be given greater priority? Retail, for example, is a non-export industry that poses risks of job displacement. My research suggests that targeting export-based industries is as important as recognizing one’s local comparative advantage, and as such, is an important factor to the District’s competitiveness. A well-targeted incentive strategy aligns the incentives to local comparative advantages. Professional services and technology industries are some of the most prominent export-based industries, but is the District’s economy able to produce certain goods and services in that particular industry at a lower opportunity cost to those of other localities? Future analysis will examine the District and surrounding jurisdictions to determine if they are giving incentives and resources to industries in which they have a comparative advantage. Additionally, future analyses will explain what the District’s local comparative advantage is and whether tax incentives are well-aligned with its local comparative advantage.


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[1] It is worth noting that property tax abatements are locally-determined, while all other tax incentives (e.g., job creation tax credits, research & development tax credits, and customized job training subsidies) are state-determined.

 

 

 

 

 

D.C. Policy Center Fellows are independent writers, and we gladly encourage the expression of a variety of perspectives. The views of our Fellows, published here or elsewhere, do not reflect the views of the D.C. Policy Center.

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Appendix

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