Rethinking Local Economic Development: Why Should Local Governments Handle Tax Incentives with Care?

Local governments in the United States spend at least $30 billion annually in tax incentives to attract and keep big companies.¹ However, tax incentives play a determinant role in companies’ location decisions only 2% to 25% of the time. This means that at least $22.5 billion are annually wasted public resources. Nonetheless, tax incentives are expected to increase in 2024 as most states ended 2023 with a fiscal surplus.²

State and local governments use tax incentives to attract companies in an attempt to create jobs and benefit their local economies from spillover effects that large companies bring. Evidence on the spillover effects of tax incentives, however, is mixed and ambiguous while evidence on the impact of tax incentives on revenue loss for public services is clear. It is time for voters and politicians to use tax incentives with care, given their high costs and controversial benefits. In fact, jobs created by tax incentives tend to be for high-skilled labor, rather than members of the struggling middle class.

A Princeton study shows the average discretionary subsidy deal costs $160 million and creates 1,500 jobs, almost all as direct employment but no evidence of additional employment in related industries.³ The study also finds that companies tend to choose locations that are richer, larger, and more urban than the average county. A company’s decision to establish their headquarters or relocate relies more on the availability of business inputs such as infrastructure, zoned industrial locations, a skilled workforce, and a strong local economy than merely tax incentives.

A recent Brookings report also found that industries receiving tax incentives tend to pay above average wages and heavily rely on skilled labor.⁴ People of color were underrepresented in these industries, due to the lower ratio of college graduates among communities of color. In these industries, tax incentives help offer better jobs to those who are already employed instead of creating jobs for the unemployed and struggling low-skilled workers.

Tax incentives can be effective in certain circumstances, such as when they are targeted towards a specific industry with the goal of expanding an existing industry, instead of only one company. A good example is Georgia’s 2008 film tax credit, which provided tax credits for companies that paid $500,000 or more on qualified production. The tax incentive program has been credited for helping establish Georgia as a hub for film and TV production.⁵

The evidence begs the question: if the economic benefits of tax incentives remain ambiguous, why are tax incentives still the main economic development tool used by state and local governments?

Compared to other economic development tools, such as workforce development and support to small businesses, tax incentives to large companies are more politically popular.⁶ States tend to offer more tax incentives in election years.⁷ Tax incentives are also easy to implement, making them attractive to politicians. Tax incentives are an easy policy to show voters that politicians can make changes and work towards a future with more employment availability. The administrative infrastructure and systems to facilitate tax cuts are already in place.

Voters should know, however, where the money for billions of tax incentives comes from. Researchers have been using recent state-required tax incentive disclosures to estimate the cost of tax incentives on schools’ budgets in form of forgone revenue, as public education budgets are heavily dependent on local tax revenue. A study by Good Jobs First covering tax abatements disclosure for 27 states found that 97 school districts lost more than $5 million each, and 149 districts lost more than $1,000 per student due to losses in revenue from tax abatements.⁸

The loss in revenues to public schools poses a question of equity. Public school losses from tax incentives are not racially or economically even. The Good Jobs First study found that districts with the highest rates of poverty had their school suffer from the highest losses in budgets.⁹

While the average loss across the state of New York was $541 per student in 2021, for example, the actual figures vary significantly by district.¹⁰ In white-dominated areas such as West Genesee and Hoosick Falls, the average loss in school revenue per student stood at only $3 and $5, respectively. On the other hand, areas with a high ratio of students of color such as Uniondale and Peekskill face an average loss of revenue per student of $2000 and $5000, respectively. This unequal burden of the cost of tax incentives further exacerbates the equity problem in the education system.

In an economy where workforce development is cited among the most important business inputs and in a country where the average level of educational attainment highly varies by race, offering tax incentives that perpetuate existing workforce development challenges should not be the most common economic development policy. Politicians will not avoid using tax incentives as long as they remain politically popular. Raising public awareness on the real costs and limited benefits of tax incentives is essential to decrease their political popularity and protect struggling public schools.

1. Cailin Slattery and Owen Zidar, “Evaluating State and Local Business Incentives,” Journal of Economic Perspectives 34, no. 2 (Spring 2020): 90-118. ↩︎
2. National Association of State Budget Officers, “The Fiscal Survey of States: An Update of State Fiscal Conditions,” 2023, https://higherlogicdownload.s3.amazonaws.com/NASBO/9d2d2db1-c943-4f1b-b750-0fca152d64c2/UploadedImages/Fiscal%20Survey/NASBO_Fall_2023_Fiscal_Survey_of_States_S.pdf. ↩︎
3. Slattery and Zidar, “Evaluating State and Local Business Incentives.” ↩︎
4. Joseph Parilla and Sifan Liu, “Examining the Local Value of Economic Development Incentives: Evidence from Four US Cities,” Brookings, March 2018, https://www.brookings.edu/wp-content/uploads/2018/02/report_examining-the-local-value-of-economic-development-incentives_brookings-metro_march-2018.pdf. ↩︎
5. Meyers Norris Penny and W2 Entertainment Finance, “Economic Contributions of the Georgia Film and Television Industry,” February 28, 2011, https://www.motionpictures.org/wp-content/uploads/2014/03/Georgia-Executive-Summary_Feb28.pdf. ↩︎
6. Andrew Schwartz, “The Realities of Economic Development Subsidies,” Center for American Progress, November 1, 2018, https://www.americanprogress.org/article/realities-economic-development-subsidies/ ↩︎
7. Slattery and Zidar, “Evaluating State and Local Business Incentives.” ↩︎
8. Christine Wen, Katie Furtado, and Greg LeRoy, “Abating Our Future: How Students Pay for Corporate Tax Breaks,” Good Jobs First, March 2021, https://goodjobsfirst.org/wp-content/uploads/docs/pdfs/Abating%20Our%20Future.pdf. ↩︎
9. Wen, Furtado, and LeRoy, “Abating our Future: How Students Pay for Corporate Tax Breaks.” ↩︎
10. Christine Wen and Greg LeRoy, “Corporate Subsidies Versus Public Education: How Tax Abatements Cost New York Public Schools,” Good Jobs First, February 2023, https://goodjobsfirst.org/wp-content/uploads/2023/02/How-Tax-Abatements-Cost-New-York-Public-Schools.pdf. ↩︎