From Rust to Gold? Pennsylvania’s Keystone Opportunity Zones

posted on Thursday, June 3rd, 2010
Old tracks pass an abandoned building in Lansdale, PA. Photo by Sara Lee.
The tax-free Cira Center in Philadelphia, PA. Photo by Mitch Troutman.

From Michigan to Pennsylvania there’s a stretch of abandoned industrial buildings collecting rust. That’s why it’s called the rust belt. In an attempt to revive Pennsylvania’s corroding economy, the state government created the Keystone Opportunity Zones (KOZ) in 1998. The idea is for the state to give tax breaks to businesses in a trade for job creation and rebuilding of old industrial sites; however, a recent state report admitted that there is not enough data to decide whether the program is a success or a failure. Pennsylvanians need to decide for themselves.

What are KOZs?

Pennsylvania enacted the KOZ program with a few goals. The Legislature wanted to increase employment and local investment and make use of contaminated and blighted property. The program exempts businesses and residents from paying local and state taxes for 10 years. This exemption is called tax abatement. In return, property owners promise to create jobs and fix up the properties. The program created twelve regions around the state, with each region including a maximum of 5,000 acres of tax-free land. The state set the boundaries of these zones, but specific sites were chosen by local governments.

The “one-time only” program earned praise from a prominent business journal in 2001. The same year, without studying the program, the state passed an expansion, followed by a second and third in 2003 and 2008.  These expansions created new zones and also let property owners in old zones apply for new, longer expiration dates. To date, 70 percent of KOZ land is undeveloped.

The KOZ statutes contain “clawback” provisions. Clawbacks allow the state to revoke tax breaks if companies don’t hold up their end of the bargain. For example, if a business doesn’t remain in a KOZ for at least five years after their tax breaks expire their tax exemption can be – but won’t necessarily be – revoked.  There are no clawbacks, however, for businesses that fail to create jobs.

Why Should We Pay Their Taxes?

When business owners decide where to locate their investments, they considers many factors. By eliminating taxes, the state creates incentives for the business to choose a KOZ location. Hence, tax abatements are also called tax incentives. The theory is that the amount of benefits brought by business will offset the unpaid taxes.  The argument is that if the property is empty, no taxes are paid anyway.  KOZs are intended to promote long-term investment, generate taxes paid by workers, and create secondary economic benefits through side-contracts and money spent in the community by workers.

In exchange for job creation and local investment, businesses are not required to otherwise contribute taxes on the local or state level. The burden of the unpaid taxes falls onto the residents and pre-existing businesses in the area of a KOZ site.

Politicians often treat tax income as a profit – money that can be used to fill in budget gaps or to create new projects. In fact, taxes are cost of providing residents and businesses with basic public services.

Businesses in a KOZ use infrastructure created and maintained with tax dollars, such as roads, emergency services, public utilities, regulation enforcement, and other resources. When a business is given a tax abatement, the rest of the community pays the bill for the business to operate through wage, income and property taxes.

Red Flags

Little information exists on the KOZ program’s effects and results. The state has done two recent reports: one in 2008 from the Center for Rural Pennsylvania and the other in 2009 by the Legislative Budget and Finance Committee. The main finding of the latter is that little is known about how KOZ’s have worked. It found that “records for the KOZ Program’s first four years (1998 through 2002) are missing,” and that the 2003 to 2006 records were poorly organized and incomplete.

Based on what information is available, the report concluded that “it is very difficult to determine the total number of projects or participants currently active in the program.”

In fact, there are a lot of numbers we don’t have. We don’t know how many tax-paying businesses moved to KOZs from elsewhere in Pennsylvania. We don’t know how much KOZ participants have actually invested in improving their properties. We have incomplete data on both job creation and job retention. Businesses that leave KOZs after their tax breaks expire are not being monitored closely to implement clawbacks. A similar program called Empire Zones, cost New York State about $650 million and failed to deliver promised jobs. The program, which started in 1999, included 9,800 certified businesses.

Not every form of abuse of KOZs violates the law. There’s both legal and illegal corruption associated with them. Since the program is unstudied, holes found in the system could be larger than we know. All we have right now are individual stories.

For example, with 900 lawyers Dechert L.L.P is the largest law firm in Philadelphia and the 37th largest in the world. In 2004 they moved from their downtown Philadelphia location to the new “Cira Centre” KOZ. This allowed the already-established law firm to stop paying taxes.

In Luzerne county, an ongoing FBI investigation may be turning up evidence of KOZ-related misdeeds. Robert Mericle is famous for his conviction as part of the Luzerne County “Cash for Kids” scandal of bribing judges to wrongfully sentence children to long jail terms in order to fill beds in the juvenile prison.

As it turns out, all of Mericle’s properties have KOZ status. Robert Childs, director of the Hazleton school board, pointed out that Mericle’s properties were approved during a suspiciously rushed voting process. Despite Mericle’s criminal conviction, the school board approved a KOZ extension worth over $340,000 for Mericle’s property. This is much more than the one-time, $250,000 maximum fine that Mericle faces for his involvement in the scandal. FBI agents recently subpoenaed documents about zoning decisions and building permits in Pittstown, where Mericle’s CenterPoint Commerce and Trade Park is located.

History has taught us again and again that when politicians have benefits to hand out without oversight, corruption is often not far behind.

Up to Us

KOZs and similar tax-abatement programs are based on the theory of free market capitalism, which has been highly praised and highly criticized. One criticism is that free market policies accelerate the consolidation of wealth. In other words, the rich get richer and the poor get poorer, faster.

Regardless of ideology, the KOZ program is massive, mostly unstudied and thus inconclusive. Many questions need to be asked. Are businesses staying past the length of their benefits? Are they eventually paying taxes? How open is the KOZ program to manipulation or corruption? Are businesses relocating from within the state? Are they creating quality jobs? Would the business have opened anyway, regardless of tax abatement? Is a local KOZ empty - who used to be there, did they get abatement, and why did they leave?