REAL ESTATE AND MUNICIPAL GOVERNANCE

1
REAL ESTATE AND MUNICIPAL GOVERNANCE THE CASE
OF THE MUNICIPAL DEVELOPMENT TAX (MDT) IN THE
LISBON METROPOLITAN AREA (LMA)18 th ERES
CONFERENCE, Eindhoven, 15-18 June 2011

• João Manuel Carvalho
• Economist, MAS Urban Regional Planning, PhD
  Urban Planning,
• Professor at Universidade Técnica de Lisboa /
  Faculdade de Arquitectura

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THE BASIC DEFINITIONS

• The MDT was first introduced in the Portuguese
  planning law in 1984 as a land development tax
  (urbanization tax)
• Its role was to provide for private urbanization
  negative externalities
• It evolved to a municipal tax on real estate
  development.
• The LMA is the most developed region in Portugal,
  comprising a population of 2,75 million in 2.944
  km2
• It is divided into 17 municipalities
• The municipalities are autonomous as far as the
  definition of MDT rules and amounts is concerned.

MDT

• LMA

3
CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipality funding
• Object and methodology
• Outcomes and conclusion

4
CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipal funding
• Object and methodology
• Outcomes and conclusion

5
LMA AS THE UNIVERSE OF ANALYSIS RELEVANT
FEATURES

• REAL ESTATE MARKET DIFFERENCES (RESORTS, HOUSING
  SEGMENTS, SECOND HOMES, INDUSTRIAL ESTATES)

DIFFERENT URBAN PLANNING PROBLEMS (NEW URBAN
AREAS, SPRAWL, DECAY)
POLITICAL DIFFERENCES (MUNICIPAL GOVERNMENTS
STANCE TOWARDS BUSINESS, VOTERS IDEOLOGICAL
PREFERENCES)
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LMA AS THE UNIVERSE OF ANALYSIS RELEVANT
FEATURES

• REAL ESTATE MARKET DIFFERENCES (RESORTS, HOUSING
  SEGMENTS, SECOND HOMES, INDUSTRIAL ESTATES)

Right bank of the Tagus (Northern LMA) includes
Lisbon and well known resorts and historical
areas preferred by developers higher
prices Left bank includes coastal municipalities
with a strong second home market and inland
municipalities with low cost housing and huge
industrial estates.
Municipalities
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LMA AS THE UNIVERSE OF ANALYSIS RELEVANT
FEATURES

• DIFFERENT URBAN PLANNING PROBLEMS (NEW URBAN
  AREAS, SPRAWL, DECAY)

Municipal governments either aim at providing
new urban territories (LMA outer peripheries), or
at regenerating inner cities or industrial areas
through redevelopment, or at rehabilitating
buildings, or even at deterring development.
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LMA AS THE UNIVERSE OF ANALYSIS RELEVANT
FEATURES

• POLITICAL DIFFERENCES (MUNICIPAL GOVERNMENTS
• STANCE TOWARDS BUSINESS VOTERS IDEOLOGICAL
• PREFERENCES)

• Left leaning municipalities concern with public
  space and services, with the survival of small
  businesses and with the provision of low cost
  housing
• Traditional lefts ideological stance against
  gains through land development or redevelopment
• Social role of municipalities reinforces funding
  needs.

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CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipal funding
• Object and methodology
• Outcomes and conclusion

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MDT HISTORY AND ARGUMENTS

1. From an externality compensation under the name
   of urbanization tax the MDT evolved to a
   development tax on land development business
   (i.e., allotment business) with a non-stated
   raison dêtre
2. Developers started circumventing the MDT by
   introducing allotment business as a building
   development business (later on, once the land
   development business was over, they would pass
   the business through)
3. By 1999 municipalities had decided that every
   (i.e., whether land or building) real estate
   development business should pay MDT

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MDT HISTORY AND ARGUMENTS

1. MDT co-exists with other real estate development
   dues, such as providing the land for public
   purposes associated with the development (e.g.,
   land for public green space and for social
   premises) and compensating (perequação) land
   owners with construction rights under the
   average, when the development takes place within
   an urban plan.
2. Though targeting each and every real estate
   development, MDT splits itself into MDT for
   allotment (land development) and MDT for
   construction (building development). As
   corresponding to two different business stages,
   in fact these MDT add up to building development.

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MDT HISTORY AND ARGUMENTS

1. MDT value is based on several criteria, ranging
   from municipal costs for permit analysis, to
   period along which private works occupy street
   space, including size of development and cost of
   works. A municipal devised multiplier is
   applied to physical quantities.
2. MDT could be calibrated to serve funding needs,
   urban planning strategies and political /
   ideological purposes, though it would most
   probably be eitheror.
3. Municipalities cant anyway forget that MDT is
   real estate developer originated and the latter
   is a business-minded entity, dependent on the
   market.

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MDT HISTORY AND ARGUMENTS

1. However, MDT value is mostly based on cost
   criteria and normally bears no explicit relation
   with real estate prices or with real estate
   market dynamics.
2. For many years after 1999 MDT criteria were
   concealed from direct consultation from
   developers, to avoid simply deterring these
   through too high values. Personal contact was
   needed (sometimes with a high rank municipal
   officer) to know in advance the value of the
   expected MDT for an intended real estate
   development.
3. Even today some now on-line formulae seem
   quite esoteric for most real estate developers,
   leading them to consultations with the
   municipality prior to development decision.

14
CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipal funding
• Object and methodology
• Outcomes and conclusion

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THE ROLE OF MDT IN MUNICIPAL FUNDING

• MDT is classified as current income in
  municipal budgets. But, for instance in Lisbon,
  it is an emolument received through the municipal
  urban administration, while being, in a lot of
  other municipalities, an indirect tax
• This is not a neutral option and alerts to some
  bad conscience that might exist concerning MDT
  the emolument option introduces MDT as related
  to the operation costs of the municipality,
  whereas the indirect tax option relates to the
  business of developers.
• The share of MDT on current income ranges from 1
  to 28, though mostly in-between 2 and 16. The
  average amount is 6 m .
• A great weight of MDT on municipal current income
  should make the municipal government worry about
  how to keep it stable. Small variations (namely
  negative ones) would therefore be expected in
  budgeted MDT values.

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THE ROLE OF MDT IN MUNICIPAL FUNDING

• The correlation between the weight of MDT on
  current income and the absolute value of
  variations of MDT in-between budgets is r 0,375
  i.e., the weight of MDT is not associated with
  budgeted stability of MDT values
• MDT and real estate development might be
  envisaged by municipalities as two entities
  apart, with their own separate rationales.
• However, the highest MDT values and the greatest
  weights on current income may be the consequence
  of hot municipalities as far as real estate
  development was concerned past the boom these
  are the territories where excess supply is
  greater and where real estate development has
  halted MDT values and weights decreased
  accordingly
• The hotness may comprise a bad municipal land
  management, to allow for high MDT values. This
  possibility is at the origin of much criticizing
  of municipal funding through development related
  taxes.

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CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipal funding
• Object and methodology
• Outcomes and conclusion

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OBJECT AND METHODOLOGY

• The hypothesis is that the connection between MDT
  rationales and real estate dynamics is weak.
• This would be a rather inefficient circumstance
  for municipal management, requiring new municipal
  governance approaches.
• The work on the hypothesis was based on the
  assessment of relations between a set of
  variables, namely
• MDT values on municipal budgets
• These are expected (i.e., budgeted) values and
  were taken as municipal averages for the economic
  crisis period 2008-2010. MDT budgeted amounts are
  expected to reflect the impact of the economic
  crisis on the real estate development business.
• MDT proportion of municipal current income
• Represents the expected weight of MDT on
  municipal operation outcome and it might increase
  even if the absolute amount decreased.

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OBJECT AND METHODOLOGY

• MDT budgeted variation in the period 2008-2010
• This variable represents the dynamic view of the
  municipalities concerning the MDT component of
  their operational income.
• Land development MDT as a proportion of total MDT
• Land development stands for the allotment
  business and reasons can be found for it to be
  either fostered or slowed down.
• MDT per sqm of gross construction area, as a cost
  to developers
• This is a way to spot specific municipal
  unfriendliness towards developers, as
  constructions costs tend to be similar along the
  LMA and low land prices tend to be associated
  with low prices of real estate final products.

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OBJECT AND METHODOLOGY

• Average housing price
• High housing prices appeal to developers, but
  this is just a starting point, as developers are
  expected to look for good business margins, and
  MDT may affect these.
• MDT proportion of housing price per sqm
• This variable is indeed the indicator
  municipalities should use to monitor the
  feasibility of their budgeted MDT values.
• Voters on right wing political parties as a
  proportion of total voters
• Mostly aiming to check at an exploratory level
  the role of political factors on MDT profile and
  to validate the underneath spatial model (real
  estate prices population income voters
  preferences).
• Simple correlations were calculated for each pair
  of variables.
• MDT had to be calculated ad hoc for the variables
  Land development MDT proportion of total MDT,
  MDT per sqm of construction area and MDT
  proportion of housing price.

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OBJECT AND METHODOLOGY

• To simulate MDT values, a standard development
  was adopted, which is taken as being attractive
  to most of the real estate developers (either
  large or small companies) operating in the LMA.
• The profile of the standard real estate
  development is the following
• Housing development
• Redevelopment of previous urban land
• Land plot area (initial) 2.500 sqm
• Maximum gross construction area above ground
  2.500 sqm
• Maximum number of lots 3
• Maximum number of storeys 8
• Average dwelling gross area 120 sqm
• Maximum number of dwellings 21
• Required land to be assigned to public uses
  1.250 sqm
• Mandatory parking area within the property
  937,5 sqm.

22
CONTENTS

• LMA as the universe of analysis relevant
  features
• MDT history and arguments
• The role of MDT in municipal funding
• Object and methodology
• Outcomes and conclusion

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OUTCOMES AND CONCLUSION

• The statistical analysis show that the only
  significant correlations are the following.
• Cost of MDT per sqm of construction area vs MDT
  proportion of housing price per sqm (r 0,98)
• This seems to be an expected outcome (e.g., the
  higher the cost the higher the proportion of
  price), but on the other hand these variables
  could well be independent i.e., the MDT, mostly
  based on costs, would not vary when housing
  prices varied. The high correlation hints that
  the municipality looks at MDT more as a financial
  device than as a policy instrument i.e., it
  wouldnt use MDT to go against the market.
• Having in mind that MDT values are budgeted
  (i.e., targeted) values, this high correlation
  points to the stretch municipalities are ready to
  bring to the developers business, once real
  estate prices seem to have gone up.

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OUTCOMES AND CONCLUSION

• Housing price vs political bias, as given by the
  share of right wing voters (r 0,62)
• This is expected, as the highest proportion of
  voters on workers parties is associated with
  large industrial estates and low cost housing
  and, therefore, with low housing prices, and
  vice-versa (which was the chosen path).
• The correlation validates the idea of
  non-homogeneity of the LMA territory as far as
  the real estate development business is concerned
  and therefore the market fundamentals for MDT.
• Importance of MDT for municipal funding (as given
  by the proportion of current income) vs variation
  of budgeted MDT (r -0,49)
• This is an unexpected outcome and it may point to
  the municipality not controlling this category of
  its current income.
• MDT is conceived as a short-term financial
  device when it is budgeted it doesnt take into
  account (at least rightly) market dynamics.

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OUTCOMES AND CONCLUSION

• Importance of MDT for municipal funding vs
  housing prices (r -0,44)
• Low housing prices mean weak property taxes and
  small municipal shares of income taxes the
  relative importance of MDT in current income
  tends therefore to be greater. This corresponds
  to a negative correlation.
• The political bias may also reinforce MDT where
  housing prices are low, as these would tend to be
  left leaning municipalities (r -0,41 for
  Importance of MDT vs Proportion of right wing
  voters).
• However, MDT amounts should not be expected to be
  high where housing prices are low, as real estate
  developers would probably prefer business
  elsewhere.
• The independence of variables (i.e., r very
  close to 0) was also taken into account for a
  possible meaning. The following cases have been
  chosen.

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OUTCOMES AND CONCLUSION

• Importance of MDT for municipal funding vs MDT
  cost per sqm and Importance of MDT vs MDT
  proportion of housing price
• Any hypothetical link between MDT and the real
  estate market seems to vanish with the
  independence of these variables.
• Importance of MDT for municipal funding vs the
  land development MDT proportion of global MDT
• A meaningful correlation would allow for the
  hypothesis that a great importance of MDT on
  municipal funding could be attached to a strategy
  that would either privilege land development or
  building development. No such connection between
  the MDT role on municipal current income and a
  planning strategy seems therefore to exist.
• MDT costs per sqm vs Political bias
• This (i.e., MDT costs per sqm to the developer
  not being influenced by the political bias) might
  mean that the political influence on MDT is quite
  limited to the role it must have on municipal
  funding, whatever the cost to the developers.

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OUTCOMES AND CONCLUSION

• Land development MDT proportion of total MDT vs
  housing price
• It seems to confirm the hypothesis of no planning
  strategy being served by MDT (e.g., a significant
  positive correlation could stand for a MDT role
  in enhancing housing supply).
• Two main conclusions may be drawn
• The role of MDT as a planning device is, if any,
  a secondary one, while its financial role is
  primordial
• The link of MDT to the real estate market seems
  at most to be an indirect one, as, when fixing
  MDT as a cost to developer, the municipality does
  not ignore the level of prices in the real estate
  market.
• These features raise, for municipality
  management, the issues of budgeted MDT
  feasibility, of its stability (which has to count
  on the association of MDT to urban planning) and
  of how to determine its probable amount.

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OUTCOMES AND CONCLUSION

• The importance of real estate knowledge for MDT
  budgeting purposes and the role of MDT in
  municipal funding, point at the need of enhancing
  real estate themes in municipal governance,
  namely
• Analysis of local real estate developments in
  search of types to use in the simulation of MDT
  values, to assess their feasibility
• Survey and analysis of past common development
  business margins, to determine a range within
  which MDT might be without, in normal economic
  times, deterring local development decisions
• Build a monitoring device directly linked to real
  estate prices, to validate regularly (e.g.,
  yearly budget) the MDT value to include in the
  current income budget.