Will state’s race to attract data centers pay off?

As more and more businesses have shifted IT operations to the cloud, state leaders around the country turned to data centers — the giant server warehouses that power the internet — as one way to rejuvenate their economies coming out of the Great Recession.

Over the past decadeplus, more than 30 states have created tax breaks or other incentives for data center construction, and the technology sector’s biggest players, from Facebook to Google and Amazon, have taken full advantage.

This year, Connecticut joined the race.

In late February, state lawmakers passed emergency legislation allowing the Connecticut Department of Economic and Community Development, for the first time, to offer tax incentives to certain data center developments.

Specifically, the state will waive sales and property tax obligations for 20 years for data centers that invest at least $200 million in Connecticut — or just $50 million if the facility is located within a state-designated enterprise zone. The tax exemptions could be extended to 30 years if a $400 million investment is made, or a $200 million investment in an enterprise zone.

But with so many other states offering incentives, and Connecticut arriving relatively late to the game, the legislation’s expedited passage through the Assembly struck some observers as odd. The bill obtained emergency certification — sending it immediately to the floor for a vote, with no committee referrals or public hearings.

DECD Commissioner

David Lehman said that was all because of one particular detail: Connecticut agreed to waive its right to impose a financial transactions tax on any qualifying data centers. At the time, New Jersey lawmakers were considering passing a $0.0025 tax on every financial transaction processed electronically in the state. Given how much of Wall Street’s exchange server infrastructure is located in New Jersey, the proposed tax had massive implications for the finance industry.

“We were moving very quickly,” Lehman recalled. “The governor, myself and others were having conversations with these companies around potentially relocating their exchanges to Connecticut … This legislation was really important if they were going to make the move.”

Connecticut lawmakers had the data centers bill on Gov. Ned Lamont’s desk within a week. Lamont signed it on March 4.

Lehman estimates Connecticut could have seen as much as $750 billion in data center investment if New Jersey had passed the financial transactions tax. But New Jersey’s bill has stalled in committee, and it looks like the data centers powering Wall Street are staying put for now. “There’s no imminent move from the financial exchanges at this time,” Lehman said.

Richard Auxier, a tax policy analyst with the Urban-Brookings Tax Policy Center, said he’d be surprised to see any state pass a financial transactions tax, or FTT, given the possible negative economic consequences and the tenor of the opposition it’s raised to date. Plus, he added, “my guess is states are too busy with [American Rescue

Plan] funds and other pandemic-related issues to start tackling new taxes like this at the moment.”

So, about that emergency bill

The prospects have dimmed for Connecticut to wrest Wall Street’s backoffice data infrastructure from New Jersey. But in several communities, particularly in the eastern part of the state, other kinds of data center developments — aimed at a broader clientele — are beginning to take shape.

Depending on the agreement they work out with the local municipality, new data centers will typically make an annual flat-fee payment in lieu of paying local taxes on the property value of their real estate and equipment. It’s a significant discount, but supporters say it could be worth the trade-off.

“This gives more opportunities to some of our rural towns that may have farmland being taxed at the [lower] farmland tax rate,” said Sen. Heather Somers, R-Groton. “Some towns are looking at generating millions of dollars off this.”

Somers also said that, compared to other industrial sites, data centers are “low impact.” Once construction is completed, there are no trucks or heavy-duty machinery on site, and the small number of employees means there’s essentially no impact on traffic in the surrounding area, she said.

“Usually on property tax exemptions, we get very hesitant,” said Randy Collins of the Connecticut Conference of Municipalities. His group worked with legislators to include language in the bill that would protect towns in cases where the developer doesn’t hold up their end of the deal. “We wanted to make sure a municipality wouldn’t be taken advantage of,” Collins said.

At the same time, CCM didn’t want to cut off an economic opportunity for distressed communities. “When you take a town with no economic prospects for this parcel — sure, in a perfect world, I’d get $5 million on this parcel but I take $1 million. Maybe the economic development around it will build off what they’re doing,” Collins said.

For developers, the upfront investment and lead time for data center projects is substantial. In some cases, the towns they’re targeting will have to draft new zoning rules, since many laws on the books hadn’t contemplated this particular type of development. Data center developers can apply for the state incentive program only once they’ve worked out a fee agreement with the local town. From there, they negotiate a power purchase agreement with the local utility and begin construction.

In the short-term, construction could create well over 1,000 jobs per site. But data centers generate far fewer permanent, full-time positions. Lehman estimated each project could result in 25 to 50 permanent jobs. He and others described those jobs as “white collar,” noting the higher salaries would boost payroll tax revenue.

Not everyone saw eye-toeye on the program’s costs and benefits.

State Sen. Matt Lesser, D-Middletown, one of five senators who voted against the bill, expressed his concerns during the Senate debate in February before the vote was taken.

“We are gathered here to try to lure an industry to

Connecticut that, as far as I can tell, will provide few lasting jobs but provides major costs,” he said. “Those costs are to taxpayers who will be providing the industry with significant 30-year tax breaks.”

Data centers “chew through” computer equipment, and operators spend several million dollars a year to replace servers and other hardware, said Bill Hassan, a specialist in data center site selection with commercial real-estate brokerage CBRE. Under Connecticut’s new incentive program, those equipment purchases won’t be subject to the state sales tax. If they were taxed at Connecticut’s 6.35 percent rate, each data center could potentially owe several hundred thousand dollars a year to the state.

DECD’s Lehman said that’s a moot point, because “The key thing around any incentive is, if you didn’t provide it, would this still happen?” Many other states grant sales tax exemptions for data center equipment, he said, and in order to compete, Connecticut needed to offer the same.

“I think we can say, hand on heart, we would not have the investment over the next 10 years unless we put forth this legislation,” Lehman said.

The Office of Data Infrastructure Administration and Security, within the DECD, launched July 1. Lehman said so far the office has fielded a handful of requests for applications from developers. Within three years, he said, he expects the number of approved new data center projects to be in the “midto high-single digits.”

Power struggle

Connecticut’s current data center tally stands at 14, and their overall data capacity is small compared to that of other states. The main reason for that is the relatively high cost of power in the state.

These facilities use a massive amount of power, which means most development to date has happened in parts of the country where electricity prices are low. The average price per kWh for industrial customers in Northern Virginia, for example, is 5.5 cents. In New Jersey it’s 8 to 9 cents, and in Connecticut it’s 12 to 13 cents. So a user who might pay $750,000 a year for power in Northern Virginia would be paying more than $1 million in New Jersey and more than $1.5 million in Connecticut, according to CBRE calculations.

David Silverstone, who represents customers of the public electric utilities known as Connecticut Municipal Electric Energy Cooperative, said there’s plenty of power available to add data centers to the grid. “However, you’ve got to get the power to the customer,” and that involves building a bigger power line out to the location in order to accommodate the additional capacity. “If you’re a data center, there’s no pole in the street. There has to be a whole system to bring the power to you.” That would be another part of the powerpurchase negotiation between the developer and the electric company — as well as additional cost, he said.

Data center developers don’t just chase cheap power. They’re also looking for strong broadband infrastructure and minimal risk, CBRE’s Hassan said. While developers in Connecticut could theoretically tap the fiber line along I-95, locations along the coastal corridor present other hazards, he said, such as hurricanes or the possibility of car fires and major accidents on the interstate.

That could force a facility offline; in the internet infrastructure business, that just can’t happen.