Booming data center industry both helps and hurts Virginia, JLARC study finds

RICHMOND, Va. (WRIC) -- Virginia is considered the data center capital of the world by many. While this comes with several benefits, it also presents several challenges, according to a new study done by the Joint Legislative Audit and Review Commission (JLARC).

In May, JLARC outlined its 2024 Action Plan. Among several other priorities, it promised to look into data centers and their impact -- both present and potential -- on the state of Virginia.

The resulting study was recently released, with JLARC outlining both pros and cons to data centers' prominence in Virginia, as well as making multiple recommendations to the General Assembly on how to address any issues.

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Overall, while data centers promise -- and have provided, in many cases -- substantial economic benefit, JLARC found that it is also a highly-taxing industry with demands that Virginia's infrastructure may not be able to deliver upon. These data centers also impact Virginians' way of life in more ways than one.

How big of a deal are data centers in Virginia?

JLARC defines data centers as "facilities that manage, process and share large amounts of data." Said data includes many things used in everyday life, like websites, applications and cloud-based platforms, like email and streaming.

With about 35% of the world's hyperscale data market found in Virginia, the Commonwealth has the highest concentration of data centers in the world, according to the Virginia Economic Development Project. The project estimates that this includes almost 150 total data centers.

Most of those data centers are located in northern Virginia, with 25% of all reported data center operation capacity domestically and 13% globally hosted there, JLARC said in its study. The commission added that several factors contribute to northern Virginia's dominance in the industry, including:

• A strong fiber network
• Proximity to major national customers
• Supply of reliable, cheap energy
• Available land for development
• Creation of a state data center tax incentive

However, central Virginia has certainly seen several pushes for data center development. Henrico County, in particular, has over ten data centers, with another in the works. More recently, a $2.7 billion data center project was approved in Powhatan County.

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"The data center industry is growing rapidly in Virginia, both in established markets and newer ones," JLARC said. "Significant new market growth is expected in counties outside of Northern Virginia and along the I-95 corridor to Central Virginia."

Data centers and their benefit to Virginia's economy

The economic impact of data centers on Virginia is best felt during their development, according to JLARC, as they are a large-scale capital investment. Virginia-based businesses that provide construction materials and services reap substantial benefits from that spending and, because they're local, those dollars stay in the Commonwealth.

Data center construction requires a lot of manpower. According to JLARC, construction usually lasts between 12 and 18 months and it typically employs about 1,500 workers at the height of development.

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Once they're up and operating, data centers employ fewer people than other industries. JLARC found that a typical 250,000-square-foot data center only employs about 50 full-time workers -- with half of them usually being contract workers. However, these jobs tend to be high-paying.

In total, JLARC estimates that the data center industry provides Virginia with about 74,000 jobs, $5.5 million in labor income and $9.1 billion in gross domestic product (GDP) annually. Again, most of these benefits are seen during construction.

Additionally, Virginia localities can benefit by collecting tax revenues from their local data centers, according to JLARC. This is primarily done through business personal property and real estate taxes -- though how much any one locality can benefit from levying them varies.

"For the five localities with relatively mature data center markets, data center revenue ranged from less than 1 percent to 31 percent of total local revenue," JLARC said.

According to JLARC, some localities have tried to make themselves more attractive to the data center industry by lowering their personal property tax rates for computer equipment. However, this naturally also lessens the revenue they can generate from taxing said potential data centers.

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Regarding attracting developments, JLARC said that localities in need of economic support could potentially benefit from data centers choosing to crop up within their boundaries -- however, that same economic distress contributes to those localities being a less attractive choice.

As described when discussing how northern Virginia is peak data center territory, data centers benefit from substantial available energy, wide open space and being close to population centers. Areas in economic distress, like southwestern Virginia, don't have those things, according to JLARC.

"However, these localities may be able to compete for data centers running certain artificial intelligence (AI) workloads, such as training," JLARC said. "These localities could potentially become more attractive to the industry if they are able to proactively develop industrial sites suitable to data centers."

Immense energy demand seems impossible to meet

Virginia's energy demand -- if unconstrained -- is expected to double within the next ten years, with that leap largely driven by data centers, according to JLARC's projections.

Between 2006 and 2020, Virginia's energy demand stayed about the same because, while the population did increase, so did energy efficiency improvements. However, that has changed with the rise of data centers in the state.

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Data centers on the whole use more power than other types of commercial or industrial operations, according to JLARC. This poses multiple problems for the state of Virginia.

In order to meet this rise in energy demand, Virginia would need to invest in an incredible amount of new power generation and transmission infrastructure -- solar facilities, wind generation, natural gas plants and overall increased transmission capacity would all be required, according to JLARC.

However, such expansion is easier said than done. According to JLARC, the growth would need to be at a pace not yet seen before.

"For example, new solar facilities would have to be added at twice the annual rate they were added in 2024, and the amount of new wind generation needed would exceed the potential capabilities of all offshore wind sites that have so far been secured for future development," JLARC said. "Large natural gas plants would also need to be added at an equal or faster rate than the busiest build period for these facilities (2012 to 2018), depending on VCEA [Virginia Clean Economy Act] compliance."

As unconstrained demand is, in a sense, the worst-case scenario, JLARC ran these projections with just half of that same energy demand. Even at that halved rate, meeting those demands would still be difficult, regardless of whether or not the VCEA was taken into consideration. Infrastructure investments would need to be profound.

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"The state could encourage or require data centers to take actions to help address their energy impacts by promoting [the] development of renewable energy generation, participating in demand response programs and managing energy efficiency," JLARC said. "However, these actions would have only a marginal impact on decreasing data center energy demand."

JLARC added that both scenarios -- the full unconstrained demand and half that demand -- would also rely on "as yet unproven nuclear technologies." This means that, not only does Virginia face a challenge that requires unprecedented investment, but it requires technology that does not yet exist.

That energy demand could hurt Virginians' wallets

As data centers' demand on energy increases, JLARC said that cost will trickle down in such a way that increases energy costs for all Virginians.

Through a third-party study on electric utility cost recoveries, JLARC learned that data center customers are currently paying for the costs they're responsible for incurring. However, JLARC said that this will not remain the case.

"A typical residential customer of Dominion Energy could experience generation- and transmission-related costs increasing by an estimated $14 to $37 monthly in constant (or real) dollars by 2040 (independent of inflation)," JLARC said.

Non-data center customers will begin to pay their price for three main reasons, according to JLARC.

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Firstly, as generation and transmission infrastructure is built to benefit data centers, utility companies will need to recover the costs associated with them.

Secondly, as it will be difficult to supply the energy necessary to keep pace with data center demand, companies will likely benefit from increasing costs for all customers.

Finally, if utility companies have more need to import power, they may not be able to find low-cost power and thusly will be more susceptible to energy market price spikes.

JLARC advised that changes like "establishing a separate data center customer class," altering the way costs are allocated and adjusting utility rates more frequently could help protect non-data center customers from these price hikes.

Additionally, JLARC cautioned that data centers introduce significant risk to electric utility companies and their customers because of their abundant need for energy. The report named three specific concerns.

The first is that electric utility companies who try to meet this forecasted need for energy by developing more generation and transmission infrastructure may find they do not actually need it -- whether because new data centers don't choose their coverage areas or because several existing data centers in their area close.

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According to JLARC, these companies would then still be out of the costs needed to build that infrastructure but have no way to recoup them without increasing charges for their everyday customers.

The second is similar to the first, hinging on potential data center-related failures -- but it's specific to electric co-ops, which are not-for-profit and are owned by their member customers. According to JLARC, if a data center customer delayed, disputed or failed to pay an energy generation bill with an electric co-op, all other members of said co-op would eventually be forced to pay up.

"A large enough bill could potentially result in a co-op defaulting and going bankrupt," JLARC said.

The third and final risk JLARC noted in its report involved the state retail choice program, through which large-load customers can purchase electricity generation through third parties instead of the electric utility that offers coverage in their area. Data centers' participation in this program could potentially shift costs to other area customers by leaving their incumbent utility for retail choice options.

Data centers have an impact on air quality, water supply

Virtually all data centers have diesel generators on-site in case of a power outage, ensuring that the center remains functional at all times. According to JLARC, these generators are known for producing several air pollutants, such as nitrogen oxides, carbon monoxide and particulate matter.

There are already regulations in place that limit the impact these generators can have on air quality, established and monitored by the Virginia Department of Environmental Quality (DEQ). This includes limitations on when these generators are allowed to run and for how long. There is also a cap on the total amount of emissions any site permitted to use such generators is allowed to create.

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According to JLARC, almost all current data centers use "Tier 2" diesel generators. The Virginia DEQ only allows Tier 2 generators to be used during emergencies -- like power outages -- or during routine maintenance testing.

JLARC found that, currently, data centers in Virginia are typically only running these generators for maintenance reasons. The majority of data center operators JLARC interviewed for its report said their centers experienced no more than two minor outages per site in the last two years -- with some reporting zero outages -- and that most outages were only a few hours long.

In northern Virginia -- the largest data center market in the Commonwealth, as previously stated -- the diesel generators of data centers make up less than 4% of the region's nitrogen oxide emissions and 0.1% or less of its carbon monoxide and particulate matter emissions, according to JLARC.

"While they make up only a small part of regional emissions, DEQ is conducting further study to ensure no harmful impacts occur locally," JLARC said. "If the study detects any local air quality impacts, DEQ has the authority to increase protections as needed."

Another important environmental impact of data centers is their water usage. According to JLARC, data centers require industrial-scale cooling for their computing equipment, which sometimes relies on water.

The amount of water any given data center may use varies, according to JLARC, with it depending on said data center's size, the density of its computing and the type of cooling system it uses.

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Most data centers source their water from local water utilities. These utilities get that water from various sources across the state, like rivers and groundwater reserves.

The majority of data centers use about the same amount of water -- or even less -- than the average office building, while some others use less than a typical household. However, JLARC noted that some data centers use "substantially more" than average.

While the Virginia DEQ regulates water usage and requires permits for large-scale withdrawals, JLARC advised that oversight on how water is shared across any given locality is more lacking.

"Virginia as a whole is relatively water-rich, but water is more limited for some localities that do not have access to large amounts of surface water and are in groundwater management areas," JLARC said.

These developments are changing residential landscapes

While data centers are "largely incompatible" with residential uses, according to JLARC, one-third of them are located near residential areas -- and that trend is only expected to continue.

"Inadequate local planning and zoning have allowed some data centers to be located near residential areas, which sometimes causes impacts on those residents," JLARC said.

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JLARC said multiple factors contribute to this. One is that local zoning ordinances in some areas do not consider data centers to be industrial use. Another is that some localities zoned industrial-use areas near residential-use areas, despite land use principles saying this should not happen.

"Local elected officials have also granted data centers exceptions that led to adverse residential impacts, such as approving rezonings that would allow data centers next to sensitive locations," JLARC said.

One of the largest issues with putting data centers near residential areas is their noise, which is constant, according to JLARC. Their low-frequency noise -- while quiet enough that it cannot damage hearing -- is something that many residents have reported affects their well-being.

Data center noise is rarely ever loud enough that it violates local noise ordinances, according to JLARC. These ordinances are typically put in place to control everyday noises that can be a nuisance to residents, with JLARC providing the noise of parties and barking dogs as examples. Violations also usually only carry a maximum civil penalty of $500. Because of this, data center noise can be difficult for localities to address without taking additional action.

Localities could more effectively address this noise if they included noise restrictions in the zoning ordinances they issue, JLARC said. If the zoning ordinance for any given data center established a maximum allowable sound level, localities would be able to better address data center noise -- both in measuring potential violations and in establishing more effective penalties.

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However, JLARC said some localities were "uncertain whether they have the authority to establish these restrictions in such ordinances."

"Some data center companies are conducting sound modeling studies before building data centers, but not all Virginia localities currently require this and some were unsure whether they had the authority to do so," JLARC added.

As an increasing number of residents continue to oppose data centers near their homes, some localities are deliberating on how they can minimize residential impacts.

The three largest data center markets in Virginia have made or are considering making changes to their zoning ordinances that would better address data center development, according to JLARC. Additionally, several other localities whose first-ever data center developments are in the works are also making such changes.

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"The effectiveness of local efforts to minimize residential impacts ultimately depends on the decisions of local elected officials when considering more restrictive zoning ordinances or individual special permit or rezoning requests," JLARC said.

Recommendations to help address some of the issues

JLARC presented a total of eight recommendations in its report. The first of which is directed at the Virginia Economic Development Partnership, which JLARC said should clarify that data center sites are eligible for grants under the Virginia Business Ready Site Program by adjusting the details of said program's site characterization and development guidelines.

The remaining seven are directed at the General Assembly, listing things JLARC said its members should consider when developing data center-related policies. Those include:

1. Guarantee power service to customers: Consider specifying that electric utilities can delay but not deny service to customers when the addition of customer load cannot be supported by current transmission systems or available generation capacity.
2. Expand the Accelerated Renewable Buyers program: The Accelerated Renewable Buyers program currently allows electric utilities' large customers to claim credit for purchases of solar and wind energy, offsetting certain utility charges. JLARC suggests also allowing them to claim partial credit for purchases of battery energy storage system capacity.
3. Create programs to tackle demand and involve data centers: Consider requiring electric utilities to both create and mandate their large data center customers participate in demand response programs.
4. Protect everyday customers from increased energy demand: Consider directing Dominion Energy to develop a plan that addresses how generation and transmission infrastructure may impact existing customers, who could be "stranded" with their costs.
5. Address data center water usage at local level: Consider expressly allowing local governments to monitor data center water use by requiring that data center developments submit water use estimates and allowing officials to consider that water use when making rezoning and special use permit decisions.
6. Address data center noise impact at local level: Consider expressly allowing local governments to monitor data center noise by requiring that data centers perform sound modeling studies prior to project approval.
7. Allow localities to enforce data center noise constraints: Consider expressly allowing local governments to establish and enforce maximum data center sound levels. This would include data center-specific metrics, rules and enforcement mechanisms tailored to their low-frequency noise.

JLARC also provided a list of 10 specific changes to policy the General Assembly could make to address issues discovered in its report. Two of them are as follows:

1. Safeguards for electric co-ops: Consider allowing electric co-ops to create for-profit subsidiaries, which could fulfill their legal obligation to provide energy services to high-load customers.
2. Limit data center participation in retail choice: Require electric utilities to create caps on retail choice program participation. This could protect ratepayers from undue costs. The caps would need to be approved by the State Corporation Commission through a formal case process.

The remaining eight recommendations depend on a specific piece of leverage JLARC advised could encourage data center companies to comply with suggested changes,.

Leveraging significant potential tax savings to drive change

Data center companies abundantly report that tax exemptions are "an important factor" when deciding where to develop or expand their business, according to JLARC. This primarily includes sales and use taxes, which Virginia has used to attract data center development since 2010.

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Using these exemptions, data centers can purchase computers, equipment like servers and network infrastructure, cooling equipment and generators without paying sales taxes. In fiscal year 2023, the data center industry saved almost $1 billion by not paying these taxes, according to JLARC.

"Because the data center exemption is a valuable incentive and used by most of the industry, it could be used to incentivize data centers to take actions to address many of the issues discussed throughout this report," JLARC said.

Five such suggested policy changes involving tax exemptions JLARC made are as follows:

1. Tie tax exemptions to energy management: Consider requiring that data center companies meet and certify to an energy management standard in order to get a sales tax exemption.
2. Tie tax exemptions to meeting environmental standards: Consider requiring that data center companies meet and certify to an energy management standard in order to get sales and use tax exemptions.
3. Tie tax exemptions to use of cleaner generators: Require that data centers use only Tier 4 generators, Tier 2 generators with "selective catalytic reduction systems" or generators with equivalent to lower emission rates in order to get sales and use tax exemptions.
4. Tie tax exemptions to protecting state history: Consider requiring that data center companies conduct historic resource studies of proposed development sites -- as well as a "viewshed analysis" when a site is near a registered historic site -- in order to get sales and use tax exemptions. They would need to report those results to the appropriate locality before starting development.
5. Tie tax exemptions to limiting noise: Consider requiring that data center companies conduct a sound modeling study prior to developing a data center within a certain distance of or in an area zoned as residential use in order to get sales and use tax exemptions. They would need to report those results to the appropriate locality before starting development.

As of now, these sales and use tax exemptions currently expire in 2035, which JLARC said data center companies unanimously reported would "negatively impact the state's ability to [both] attract new data centers and keep existing ones."

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JLARC outlined three potential paths forward regarding giving data center companies these exemptions.

Option 1: Maintain current industry growth and its economic benefits

The General Assembly could extend these tax exemptions for data center companies until 2050, giving said companies another 15 years of these highly lucrative benefits.

JLARC said this decision would maintain the data center industry's current growth and allow Virginia to continue reaping its associated economic benefits.

This path would not, on its own, necessarily have an impact on energy demand.

Option 2: Reduce industry growth and its energy-related impacts

Conversely, the General Assembly could allow these tax exemptions for data center companies to expire in 2035. In doing so, JLARC said legislators would slow the data center industry's growth.

This would be the route to take if the General Assembly determined that the economic benefits of the data center industry's growth are overshadowed by the impact of its increased energy demand on Virginians.

"While the General Assembly could allow the exemption to expire only in certain regions, like Northern Virginia, that approach would be less effective in reducing overall growth in energy demand because significant growth is occurring in several counties outside of Northern Virginia and is expected to continue," JLARC said.

Option 3: Balance industry growth and its energy-related impacts

A potential middle ground would be the General Assembly allowing the terms of full tax exemptions to expire in 2035 -- or choosing to end them earlier than that -- and then applying a partial sales tax exemption, which would last until 2050.

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JLARC said this route would "better align the economic benefits the state receives with the value of the exemption."

As said earlier, most of the economic benefits of data centers are felt during construction. This path would allow the state to benefit from data center developments while reducing the value of the exemption in later years of data center operation, when those economic benefits slow, JLARC said. It could also, naturally, increase state tax revenue.

Regardless of what path the General Assembly chooses, a decision on whether or not to expand these tax exemptions would need to be made soon, as data center companies typically look 15 to 20 years ahead when considering location decisions, according to JLARC.

The General Assembly is set to reconvene for its next session on Wednesday, Jan. 8, 2025.