A New Financial Instrument of Value Capture in São Paulo

In this paper, Paulo Sandroni discusses a new instrument called the Certificates of Additional Construction Potential bonds (known in Brazil by the name Certificados de Potencial Adicional de Construção or CEPACs). This instrument has been used by some municipalities in Brazil, asking developers to compensate the city for the cost of infrastructure needed to support new development. The principal idea of the CEPAC is to create development rights for upzoning and then to sell these rights to developers to raise funds to finance infrastructure construction. The total number of CEPACs, which is capped by law, is determined by the municipality. CEPACs are auctioned off by the Federal Bank of Brazil and can be used only in a designated urban operation area that a city government has targeted for public investments.

Sandroni states that CEPAC revenue provides municipalities with the initial capital for infrastructure investment. From 2004 to 2009 the total income collected from selling CEPACs in Faria Lima and Agua Espraiada, São Paulo, was R$1.62 billion (US$812 million). Municipalities also use CEPACs to pay their contractors. Developers benefit from CEPACs as well. They are no longer required to undertake their development projects immediately after the acquisition of building rights. Instead, they can decide on the timing of their investments according to market conditions. These benefits aside, implementation is not problem-free. The first auction of CEPACs in Faria Lima was delayed because the city council was concerned about possible increases in municipal indebtedness. When the auction finally took place, only a small number of CEPACs were sold because the minimum price was set too high. Many developers had accumulated building licenses before the commencement of the new system. Some reallocated their investment capital to Agua Espraiada, where comparable CEPACs could be obtained at lower prices.

The implementation was also adversely affected by the downturn in the housing markets and the change of city administration. Although Sandroni believes that CEPACs could improve the revenue generating capacity of São Paulo in the long run, he questions whether similar systems could be adopted by cities in the United States and elsewhere. Considerations abound. First, certificate holders may bear high financial and regulatory risks due to changes in the certificate prices and land use regulation. Second, a secondary market for trading certificates could take a long time to develop. Third, selling development rights can be lucrative only for cities whose property markets are buoyant. Fourth, considerable financial expertise is required to administer the system.

This paper was presented at the Lincoln Institute’s Land Policy Conference of 2009 and is Chapter 8 of the book Municipal Revenues and Land Policies.