Page 27 - A U4SSC deliverable - Guidelines on tools and mechanisms to finance Smart Sustainable Cities projects

Box 6: Sources of funding and financing

Funding sources Financing sources
Property taxes Commercial banks
Business taxes Development banks
Municipal income tax Municipal or project bonds
Tolls and user charges Green bonds
“Pay-for-performance“ 1 Tax increment financing
Asset sales and lease Leasing and vendor finance
Government grants Credit guarantees
1 Environmental Incentives. Pay for Performance: Pay for Measurable Conservation Outcomes, Not Actions. Available
at https:// enviroincentives .com/ services -overview/ pay -for -performance/

In cases where funds are provided in full by the government, it is advisable to spread payments (for
example, to contractors) over the life of the real asset rather than paying upfront, as this reduces risk.
Moreover, for projects which are able to generate enough cash flow to pay off private-sector loans,
it is advisable to draw on both public and private sources of funding and financing respectively.

Types of investors in urban development

Debt and equity finance

Investors provide funds in two ways: debt and equity finance.

Debt finance is the process of borrowing money from a lender and, over an agreed time period,
the money is returned with agreed interest. The “lender” is the provider of debt financing. This
can be in the form of promissory notes, bonds, lending contracts, mortgages or other instruments
that require the payback of the loan. The borrower gives priority to returning money to the lender
over partners (equity financiers). The repayment terms may have a “grace” period during which
no repayments are to be made. Usually this corresponds to the construction phase, or even up to
the moment the infrastructure begins to function. Lenders do not generally have a say in activities
during the project. Real asset developers, therefore, generally prefer this kind of finance, due to
the independence it gives them to operate, since they do not need to consult lenders to make
decisions.

Typically, lenders earn interest on their debt, at a rate reflecting the risk of default; the lower the
default risk, the lower the interest rate. Lenders generally make loan decisions based on factors
including credit, income, balance sheet/assets, cash flow, and collateral. By providing lenders with
credit enhancement, default insurance, collateral enhancement, liquidation/creditor preferences

U4SSC: Guidelines on tools and mechanisms to finance Smart Sustainable Cities projects 9