Here is a recent chart from Mike Moffat showing how much development charges have increased in the City of Toronto from 2009 to today:

We've, of course, seen this before. Back in 2020, I shared an article that developer Urban Capital published where they did a cost comparison between a project they had done in 2005 and a project they were doing in 2020. What they uncovered was that development charges alone had increased by 3,244%! The most of any line item in their pro forma.

Development charges over the last real estate cycle have been an insidious problem. Meaning, the industry knew they were crazy high, and we were all trying to be vocal about it, but let's face it -- the general public doesn't have a lot of sympathy for developers complaining about high fees. They are also largely hidden from purchasers and renters. The charges just get lumped in.

If our industry could figure out how to be more transparent and separate out these charges, much like a sales tax, I think it would go a long way to showing consumers what they're actually paying when it comes to new housing. And then maybe something positive would happen. Because this is a major reason why new housing has gotten so expensive in this region.

Can you imagine if property taxes had increased by 3,244% over the last 15 years? I can't. Because no one would have ever allowed that to happen.

For better and for worse, the current market is going to serve as a rude awakening for municipalities. We've reached the breaking point. The housing market is, as we've talked about, in a "state of economic lockdown." And when people don't buy new homes, it means developers no longer have the money to pay development charges.

In the wake of Bill 23, there has been a lot of discussion and concern around development charges and parkland dedication revenues. At a high level, the concern is that the proposed changes will reduce the amount of money that cities are able to collect from developers, and that this will exacerbate any existing funding shortfalls and possibly force municipalities to do things like raise property taxes. In the case of Toronto, the estimated figure is about $230 million of lost revenue per year.

For all intents and purposes, this is objectively true. Bill 23 includes changes that will reduce the amount of revenue that cities are able to collect when new stuff is being built. Here is one such example:

New sections 4.1, 4.2 and 4.3 provide, respectively, for exemptions from development charges for the creation of affordable residential units and attainable residential units, for non-profit housing developments and for inclusionary zoning residential units.

This makes for great headline fodder: "Bill 23 is bad, it is going to reduce city revenues by $X million, your property taxes may need to go up, so you should be deeply upset about this." Hmm. We should talk about this. I'm not going to suggest that Bill 23 is entirely perfect. But I do think it is important to consider two important facts when it comes to things like development charges.

Firstly, the above exemption (to use just one example) is specifically related to affordable and attainable housing. It is not a reduction in DCs for the sake of reducing DCs. It is an attempt to recognize that we need more affordable/attainable housing and so maybe we should do things that make it easier and less costly to build it. And this brings me back to a point that I frequently make on this blog, which is that we can talk all we want about the need for more affordable housing, but at the end of the day it comes back to this: Who is going to pay for it? There is no such thing as a free lunch.

The common rebuttal to exemptions like this is that developers will always profit maximize and price their housing at the most the market will bear. In other words, there is no evidence that developers will pass on any cost savings to the end consumer. But this is not entirely true. For developers, pricing a project is typically a cost-plus exercise: how much is this going to cost to build and what do I need in revenue in order to hit my required returns?

When costs go down, it reduces what you need to make a project feasible. This in turn reduces developer risk, because there is always a very real question of absorption. The more you push pricing, the more you slow market absorption. So you might actually be better off selling for less, more quickly. An example of this line of thinking is when condominium developers choose to sell 100% of their inventory upfront as opposed to holding some back with the expectation that prices will increase in the future. Doing this means that you value certainty over profit maximization.

Secondly, this is what development charges are for (taken from the City of Toronto):

Development charges are fees collected from developers at the time a building permit to help pay for the cost of infrastructure required to provide municipal services to new development, such as roads, transit, water and sewer infrastructure, community centres and fire and police facilities.

Put differently, development charges are based on the idea that growth should pay for growth. When you build something new you create additional servicing demands, and so developers should pay for whatever incremental needs their projects are creating. This is, of course, fair. However, it is not the intent that growth pays for existing services. i.e. Ones that would be required regardless of whether there was the presence of development.

So in theory, if new development were to shut off entirely and if development charge revenue were to go to $0, there shouldn't be any issues funding the existing services. And in theory, nobody should be complaining about this lost revenue, because there is actually no need for this additional revenue. There is no growth to fund and all existing services are being adequately funded by the residents who are already there and using them.

Of course, not all city services are self sustaining. Public transit, for instance, typically requires subsidies. Ridership fares aren't enough to pay for operations, and this shortfall got understandably a lot worse during the pandemic. But is this a growth-related problem or is it an existing-resident problem? I mean, technically the problem is not enough riders. So isn't that kind of the opposite of growth related? More people would be a benefit right now.

In any event, the point I am raising today is that there is a right way and a wrong way to complain about lost development charge revenue. The wrong way is thinking, "ah, this lost revenue is going to impact my quality of life and the existing city services that I enjoy. I may have to pay higher property taxes." The relevant points for this particular discussion should not be that there's an operating budget shortfall or that existing taxpayers maybe can't afford to pay.

The more valid way to complain would be to say, "hey, these reduced development charges are going to make it difficult to fund the growth-related upgrades needed to support new and more housing in my community. And we need more housing!" Because if the concern is not actually this second one, then the headlines are a great big red herring. We have a larger financial problem on our hands that we are not speaking about.

Photo by Scott Webb on Unsplash

Here is a recent chart from Mike Moffat showing how much development charges have increased in the City of Toronto from 2009 to today:

We've, of course, seen this before. Back in 2020, I shared an article that developer Urban Capital published where they did a cost comparison between a project they had done in 2005 and a project they were doing in 2020. What they uncovered was that development charges alone had increased by 3,244%! The most of any line item in their pro forma.

Development charges over the last real estate cycle have been an insidious problem. Meaning, the industry knew they were crazy high, and we were all trying to be vocal about it, but let's face it -- the general public doesn't have a lot of sympathy for developers complaining about high fees. They are also largely hidden from purchasers and renters. The charges just get lumped in.

If our industry could figure out how to be more transparent and separate out these charges, much like a sales tax, I think it would go a long way to showing consumers what they're actually paying when it comes to new housing. And then maybe something positive would happen. Because this is a major reason why new housing has gotten so expensive in this region.

Can you imagine if property taxes had increased by 3,244% over the last 15 years? I can't. Because no one would have ever allowed that to happen.

For better and for worse, the current market is going to serve as a rude awakening for municipalities. We've reached the breaking point. The housing market is, as we've talked about, in a "state of economic lockdown." And when people don't buy new homes, it means developers no longer have the money to pay development charges.

In the wake of Bill 23, there has been a lot of discussion and concern around development charges and parkland dedication revenues. At a high level, the concern is that the proposed changes will reduce the amount of money that cities are able to collect from developers, and that this will exacerbate any existing funding shortfalls and possibly force municipalities to do things like raise property taxes. In the case of Toronto, the estimated figure is about $230 million of lost revenue per year.

For all intents and purposes, this is objectively true. Bill 23 includes changes that will reduce the amount of revenue that cities are able to collect when new stuff is being built. Here is one such example:

New sections 4.1, 4.2 and 4.3 provide, respectively, for exemptions from development charges for the creation of affordable residential units and attainable residential units, for non-profit housing developments and for inclusionary zoning residential units.

This makes for great headline fodder: "Bill 23 is bad, it is going to reduce city revenues by $X million, your property taxes may need to go up, so you should be deeply upset about this." Hmm. We should talk about this. I'm not going to suggest that Bill 23 is entirely perfect. But I do think it is important to consider two important facts when it comes to things like development charges.

Firstly, the above exemption (to use just one example) is specifically related to affordable and attainable housing. It is not a reduction in DCs for the sake of reducing DCs. It is an attempt to recognize that we need more affordable/attainable housing and so maybe we should do things that make it easier and less costly to build it. And this brings me back to a point that I frequently make on this blog, which is that we can talk all we want about the need for more affordable housing, but at the end of the day it comes back to this: Who is going to pay for it? There is no such thing as a free lunch.

The common rebuttal to exemptions like this is that developers will always profit maximize and price their housing at the most the market will bear. In other words, there is no evidence that developers will pass on any cost savings to the end consumer. But this is not entirely true. For developers, pricing a project is typically a cost-plus exercise: how much is this going to cost to build and what do I need in revenue in order to hit my required returns?

When costs go down, it reduces what you need to make a project feasible. This in turn reduces developer risk, because there is always a very real question of absorption. The more you push pricing, the more you slow market absorption. So you might actually be better off selling for less, more quickly. An example of this line of thinking is when condominium developers choose to sell 100% of their inventory upfront as opposed to holding some back with the expectation that prices will increase in the future. Doing this means that you value certainty over profit maximization.

Secondly, this is what development charges are for (taken from the City of Toronto):

Development charges are fees collected from developers at the time a building permit to help pay for the cost of infrastructure required to provide municipal services to new development, such as roads, transit, water and sewer infrastructure, community centres and fire and police facilities.

Put differently, development charges are based on the idea that growth should pay for growth. When you build something new you create additional servicing demands, and so developers should pay for whatever incremental needs their projects are creating. This is, of course, fair. However, it is not the intent that growth pays for existing services. i.e. Ones that would be required regardless of whether there was the presence of development.

So in theory, if new development were to shut off entirely and if development charge revenue were to go to $0, there shouldn't be any issues funding the existing services. And in theory, nobody should be complaining about this lost revenue, because there is actually no need for this additional revenue. There is no growth to fund and all existing services are being adequately funded by the residents who are already there and using them.

Of course, not all city services are self sustaining. Public transit, for instance, typically requires subsidies. Ridership fares aren't enough to pay for operations, and this shortfall got understandably a lot worse during the pandemic. But is this a growth-related problem or is it an existing-resident problem? I mean, technically the problem is not enough riders. So isn't that kind of the opposite of growth related? More people would be a benefit right now.

In any event, the point I am raising today is that there is a right way and a wrong way to complain about lost development charge revenue. The wrong way is thinking, "ah, this lost revenue is going to impact my quality of life and the existing city services that I enjoy. I may have to pay higher property taxes." The relevant points for this particular discussion should not be that there's an operating budget shortfall or that existing taxpayers maybe can't afford to pay.

The more valid way to complain would be to say, "hey, these reduced development charges are going to make it difficult to fund the growth-related upgrades needed to support new and more housing in my community. And we need more housing!" Because if the concern is not actually this second one, then the headlines are a great big red herring. We have a larger financial problem on our hands that we are not speaking about.

Photo by Scott Webb on Unsplash