hen developers negotiate incentive or finance agreements with municipalities, there is often confusion about whether funds can be used for certain types of costs. What categories of eligible costs can be paid for with these funds?
     When funds are being used merely for conduit financing, such as industrial revenue bonds, and no taxes are being used to fund development, there are a few restrictions on the use of such funds – so long as they're used for a qualified exempt or industrial purpose. But where anticipated tax revenues or other municipality funds are used to fund development, restrictions on the use of funds may be more elaborate.
     In the case of tax-increment financing, the statutes set out specific eligible costs for which a developer may be reimbursed. Categories of eligible costs include site-preparation costs such as clearing and grading, environmental costs, public infrastructure and roads, demolition, rehabilitation costs, job training, financing, 30% of a developer's interest costs and other administrative costs relating to the TIF development.
     One of the larger cost categories in many developments may be land acquisition – but this may also be the most politically sensitive category. Most municipalities will want assurances that land costs are reasonable and in line with other developments. However, even in the case where these costs are supportable, it may be politically palatable to allocate reimbursable TIF development costs to other categories, such as infrastructure or site work. To many governmental policymakers, providing public improvements or preparing a site for private investment is a more legitimate use of incentives. While the law clearly provides for such land acquisition costs, the political landscape may suggest a more politic allocation of funds.
     However, there are many cases where land acquisition will be both legally justified and politically acceptable. These cases might involve recalcitrant land sellers, such as land owners who must be paid an "assemblage" premium, or when condemnation is required. Progressive municipalities recognize that a vacant or underutilized area may not produce revenue for some time, and it may be better to help with acquisition costs or write-downs to facilitate development.

     In other cases the developer may allocate legally available dollars to more innocuous cost categories (such as site development or environmental cleanup), and then use these funds – which are fungible – to help with a large land assembly cost which may not be the explicit subject of governmental assistance. The TIF Act does not require there to be tracking of specific dollars to specific categories, but aggregate TIF dollars must match aggregate TIF eligible costs.
     One eligible cost category for TIFs that isn't widely used is the provision for 30% of a developer's annual interest cost. This can be especially helpful for very costly projects that do not have enough other qualified eligible costs. But there are some restrictions on computing this benefit and, more importantly, no TIF bond proceeds can be used for these interest costs. Instead, the developer is repaid its interest costs as new real estate taxes from the project are generated on an annual basis – the pay-as-you go model. The developer will have to front-fund this part of the incentive and wait for payments as taxes are generated.
     Major rehabilitations can also be major beneficiaries of TIF funds, since most rehabilitation costs are eligible. On the other hand, new construction of buildings may not be funded with tax-increment payments.
     Sales tax rebates and other general economic development funds have far fewer restrictions on their use. The general caveat is that the need must be justified – similar to the but-for test (see "The Complexities of the But For Test," June 2002 Real Estate Chicago, p.48) – and that the funds promote economic development as a public purpose. There are no specific statutory restrictions, but developers may still be subject to the political scrutiny of identifying "extraordinary cost" categories that justify the incentive agreement. Municipalities will identify categories of costs that they find palatable, whether or not this is a legal requirement. The more obvious the extraordinary cost, the more likely an incentive deal will be approved.