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The inclusionary zoning shortfall

Colliers recently hosted a webinar about inclusionary zoning here in Toronto. On the panel was Jeremiah Shamess (SVP at Colliers / moderator), David Bronskill (partner at Goodmans), Giulio Cescato (senior planner at IBI Group), and Richard Witt (principal at BDP Quadrangle). I wasn’t able to attend (either because of a critical meeting or because I was off attending to a gluttonous lunch burrito), but the slides are now available online. I was going through them this morning and I came across this chart from NBLC:

What you are seeing here is a comparison between a typical market development before IZ and a development after IZ. As you can see, soft costs remain the same, hard costs remain the same, and the profit margin remains the same. What changes is the overall revenue. Market revenue goes down because you now have fewer market-rate units and a new IZ revenue is added, which is the revenue generated from the addition of affordable units to the project.

But when you add up the market revenue and the IZ revenue, you don’t get back to the same economic equilibrium. In other words, there has been a destruction of value, and so something is going to have to give in order for this project to pencil and remain financeable. Otherwise, no development will take place. This shortfall is the red box area in the above graph that says, “impact of inclusionary zoning.”

We have discussed this red box gap a lot on the blog, because how you think this gap gets filled might determine how you think of inclusionary zoning as a policy tool. In this particular instance/graph, the gap is filled by a reduction in the value of the land. Everything else remains static. So what is effectively happening in this model is that the landowner, who has decided to sell their land to the above developer, is now the one who has to indirectly pay for this new affordable housing.

This may seem like a sensible way to go about it. I mean, people who own land must be rich. Let’s make them pay. But is this actually what is going to happen in practice and over extended periods of time? Soft costs — things like development charges — are always going up. Why aren’t land values perpetually declining in order to offset these additional costs? It is largely because market revenues have also been increasing. Housing keeps getting more expensive. And that is what has been keeping the market going.

I suspect that over an extended period of time, the same thing will happen here.

1 Comment so far

  1. The way to fill that profit gap, at least in NYC, has been to offer long-term tax breaks to developers, without which they could not do IZ. In NYC it is called Mandatory Inclussionary Housing (MIH). It is still controversial because people think Developers are getting away with a tax break while making too high profits for housing that is not really that affordable (e.g. 100-130% AMI), while Developers say they can’t build affordable housing any other way.
    Our 421a MIH program is coming up for yet another revision this summer when it expires. It has been around since the early 1970s when NYC was effectively bankrupt, in order to spur development, but has now morphed into a luxury (read: new) development tax break.
    It was never intended for condos/co-ops but is now used for that too.
    I have my own plan for our super-project, the RiverArch, but that is just one hurdle out of many to getting that project done in what is the hardest city in the country in which to build. It also happens to have the greatest need for affordable housing. Something is not figuring out right!

    Liked by 1 person

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