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Amid all the high-profile constitutional amendments in this year’s Texas election (no COVID restrictions for religious services, property tax breaks for families of veterans and the disabled), one seemingly nerdy amendment stood out as important for urban and suburban areas such as unincorporated Harris County. That was Proposition 2, which allows counties to issue tax-increment bonds for transportation and other infrastructure.

Prop. 2 passed easily with about 63%. It could potentially allocate more money for infrastructure in urban unincorporated areas such as the cast unincorporated tracts in Harris County as well as The Woodlands in Montgomery County. But it’s not without controversy.  

Tax-increment financing is common throughout the world, especially to help build infrastructure in specific districts. The way it works is a specific district is identified (say, Midtown or Montrose in Houston), and then a certain portion of the increase in property tax revenues in the future (the “increment”) is dedicated to pay for infrastructure in that district. Oftentimes bonds are floated and paid back with the increment.

Tax-increment financing does not involve an increase in property tax rates. But it does take some property tax revenues that would otherwise flow to a jurisdiction’s general fund (to be used for anything) and dedicated it for a specific use (usually infrastructure) in a specific part of the jurisdiction (like Montrose or Midtown). The general theory of tax increment has always been that new infrastructure will facilitate new development that would not otherwise have occurred (and generate new tax revenue that otherwise wouldn’t have come about), so it’s a win-win all the way around—the district benefits but so does the general fund.

Although it’s commonly used, tax-increment financing is not without its critics. Many say it simply shuffles the funds around because the new development would have occurred anyway—that it doesn’t really increase overall tax revenue. Partly based on this reasoning, California abolished its robust tax-increment financing system a decade ago. In Texas, transparency has been an issue—tax-increment districts have unelected boards that are shaped by the state legislation that creates them, meaning the state legislator for the area often has enormous influence. Other critics—often taxpayer advocates—appear to argue that tax-increment financing is simply a stalking horse for property tax increases.

Cities have been able to use tax-increment financing—with the blessing of the state legislature—for 40 years. There are close to 200 TIRZs in Texas, including about 25 in Houston. Counties, which have very little power generally under Texas law, have never been able to use tax-increment financing. But incorporation of new cities and annexation to existing cities has slowed down in Texas, partly because the state has made it harder to annex without the consent of those affected. The Woodlands, Montgomery County’s largest community, rejected incorporation in the same election that Prop. 2 was adopted. (Also, Prop. 2 was also defeated in Montgomery County.) An increasing number of urban and suburban residents in Texas don’t have access to the powers of cities, such as ordinance-making power—and tax-increment financing, until now.

Prop. 2 was promoted primarily by the state’s contractors, who used the same political action committee, Texas Infrastructure Now, used in 2015 to promote Proposition 7, which required the state to devote sales tax above a certain amount to highways—essentially a state tax-increment requirement. Texas Infrastructure Now is run by Karen Rove, wife of legendary Republican strategist Karl Rove—but even so Proposition 2 ran into opposition from Republicans.

The Texas Republican Party opposed Prop. 2, saying it violated free-market principles. The GOP also opposed it because it supposedly violated the party’s plank against new creating new management districts, even though tax-increment districts and management distrits are completely different types of entities. It is true that they are often created and used in tandem. (Disclosure: I am a board member of the Midtown Management District, which shares staff with Midtown’s tax-increment district.) Toll road opponents also opposed Prop. 2, even though it specifically states that county tax-increment funds cannot be used to pay for toll roads.

The most likely use of counties’ new tax-increment power would be for transportation purposes in unincorporated areas. For example, one of the arguments that supporters of incorporation in The Woodlands made was that Montgomery County doesn’t spend enough money on roads in The Woodlands. (Though unincorporated, The Woodlands is the county’s largest community, with almost 20% of the county’s population.) Similarly, representatives of municipal utility districts in Harris County often complain that the county doesn’t spend enough money on roads in MUDs. (The Kinder Institute dealt with this subject in this 2018 report.)

So, with the passage of Prop. 2, leaders in The Woodlands and MUDworld might well begin to lobby their counties and their legislators to use tax-increment financing to improve roads in their areas. County officials—who would have to issue the tax-increment bonds—might resist because it reduces their flexibility in spending property tax money. It’s also true that county tax-increment districts could help provide a solution to the emerging problem of struggling MUDs in Harris County, which are facing the need to improve or replace their sewer plants (infrastructure) in the face of relatively low property values. Although no MUDs have suffered financial difficulty in recent years, several are likely to do so in the future, especially in northern and northeastern Harris County. In some of these MUDs, the increment might not be enough to pay off the bonds—but in others, Harris County might conclude that a tax-increment district is preferable to the county having to take complete financial responsibility for a MUD that is collapsing financially.

Then there’s the possibility of creating a county tax-increment district inside a city—which would actually take money away from a county government. For example, a county tax-increment district could be created inside the City of Houston, perhaps even with the same boundaries as a city tax-increment district. The result would be a powerful financial tool, able to use increases in property tax revenue from both the city and county to finance new infrastructure. But would the legislature—dominated by Republicans—permit a mostly Democratic jurisdiction to do this, especially if the perception is that funds would be taken away from Republican unincorporated areas?

How this plays out remains to be seen. But there’s no question that county tax-increment financing is more important—and more politically charged—than the bland and uncontroversial campaign that led to the constitutional amendment’s easy approval in November.