Tag: inclusionary zoning

• A question of land value

  

  Let’s say that we have a piece of development land worth $100. That is the market value of the land based on its highest and best use at this particular point in time. Now let’s assume that the land was just encumbered with a new burden: inclusionary zoning. All of a sudden there is now a requirement to make available X% of any residential units built at 50% of average market rents for the area.

  Technically, the land is now worth less than $100. And there is a school of thought out there that, in instances like this one, the price of all land should automatically reset downward to offset and account for the inclusionary zoning burden. But as I have argued before on the blog, land prices tend to be fairly sticky, unless the owner is distressed and really needs to sell.

  So what can often happen is that the land owner will stubbornly cling to the original $100 number. The thinking being, “I was once told that my land is worth $100 and so that’s the minimum price I’m willing to accept.” In this scenario, you may need a broad increase in rents in order for a transaction to occur. This way the market rate units might be able to fully subsidize these new affordable units, preserving any margins and justifying the original $100 number.

  Of course, the impact of inclusionary zoning is a hotly debated topic and there are a number of variables to consider. And so I will leave it at that for today. The real purpose of this post is to consider another permutation. Let’s once again say that we have a piece of development land worth $100. But instead of being owned by 13 siblings — and 3 cousins that live abroad and can’t be reached other than by fax — it’s owned by the government.

  In this case, the government wants to sell the land and is considering two options. It can either (1) sell it for $100 and maximize immediate taxpayer revenue or (2) it can sell it for $80 with the condition that the buyer agree to deliver X% of affordable units (and a bunch of other goodies and positive externalities). I would also add that this fictitious town is experiencing what some might call a housing crisis.

  If you were a private sector actor, you would probably choose option 1. You would take the additional $20 and retire to Florida (I’m off by a few zeros). But this is the government we’re talking about and presumably the government is thinking about the broader public good. Which option do you think is better at maximizing that?

  2020.05.08

• Solving the rubik’s cube

  

  Developing a building can often feel like you’re trying to solve a rubik’s cube. Among other things, you have to manage a myriad of different stakeholders, all of which — naturally — operate in their own self-interest. There’s the city, community, politicians, various agencies, consultants, tenants, purchasers, lenders, investors, the market at large (of which you really have no control of), and many others. Oftentimes you even have stakeholders whose interests are mutually exclusive. Indeed, the things that they want can sometimes be at odds with each other. Your job is to figure out a solution that satisfies as many of these interests as possible.

  To give you an example, let’s say that you’ve been asked to introduce a stepback into your building in order to break up the elevation. From an urban design standpoint, this may make perfect sense. Hello, datum line. But now your construction costs just went up. You have to transfer your mechanical lines, insulate the roof, introduce new bulkheads, and, for the purposes of this example, let’s say you now need to introduce a structural transfer. This is big cost item that you hadn’t accounted for. And because you just reduced the height of the building to satisfy another stakeholder, you don’t have the excess clear height to accommodate the additional depth required by this new structural element. There is, of course, always a solution. But usually something will need to give.

  At the same time, this raises some interesting philosophical questions. What’s more important in this example? The urban design move or keeping construction costs low so that the building can be delivered more affordably? The cynics will argue that this is a moot point because developers will always profit maximize. But I would encourage you to check out some of my past posts, such as “Cost-plus pricing” and “The impact of inclusionary zoning on development feasibility.” This problem solving dynamic is one of the things that makes development so challenging. But it is also one of the things that makes it incredibly rewarding.

  Photo by Ivan Bandura on Unsplash

  2019.09.14

• These 3 things happened after Portland enacted inclusionary zoning

  On February 1, 2017, an inclusionary zoning ordinance came into effect in Portland, mandating that all new residential projects with 20 or more units dedicate a portion of the building to affordable housing.

  For the first year, the requirement was 8% of all units for households earning 60% of the Area Median Income or 16% of all units for households earning 80% of the AMI. I’m not sure if it was or is possible to do a blend of the two income levels.

  After the first year, the requirement was supposed to step up to 10% and 20% of all units, respectively. But that step up was never enacted, which had many industry analysts arguing that it was a clear signal the ordinance was not performing as intended.

  According to Joe Cortright of City Observatory (which is based in Portland), the new ordinance largely resulted in 3 things happening:

  (1) Developers rushed to get new applications in during the transition period so that they would not be subjected to the new IZ rules; (2) applications increased for projects with less than 20 units (avoid the rules by building smaller); and (3), following the initial transition surge, building permit applications, as a whole, dropped off.

  This last point is what usually comes up in debates around inclusionary zoning. Does the requirement to build affordable housing actually reduce overall housing supply?

  I’ve written about this before, but the math is pretty simple. Inclusionary zoning policies are a drag on revenue and a direct cost to the project. What that means is that something else will need to give in order for the numbers to balance.

  That could come in the form of lower costs (such as an impact fee abatement) or in higher rents on the balance of the units. But this latter approach is easier said than done. Sometimes you need to wait for the market to “catch up”, which could be what some developers in Portland are doing.

  They’re waiting for housing to get more expensive — overall — so they can then offset the pro forma drag from the affordable units.

  2019.05.17

• Limits of housing affordability

  

  The San Francisco Chronicle recently published an article called, “SF residential projects languish as rising costs force developers to cash out.” It talks about the impact that rising costs (both construction and other) are having on new housing supply. Some developers aren’t building even though may have entitled sites. And that’s because the math doesn’t work, even though we’re in a market with a severe housing shortage.

  Here is an excerpt from the article that talks about the kind of pricing that is needed in order to make a project work:

  Chris Foley, a real estate investor and partner in brokerage firm Polaris Pacific, said that in the current construction environment a condominium developer needs to sell units for at least $1,400 a square foot for a wood-frame building and $1,800 a square for a taller, steel-frame midrise or high-rise. Even in a city where more than 80 percent of the population is priced out of the market, those numbers are a stretch, Foley said.

  San Francisco also has inclusionary zoning, which requires a certain percentage of units in any new development to be priced below market. According to the article, it is 18% for new rental projects and 20% for new condo projects. That’s a cost that needs to be absorbed by the remaining market rate units – so price accordingly. 

  The MIRA tower designed by Studio Gang is currently under construction and has 156 affordable units and 393 market rate units. The market rate pricing looks something like this:

  That’s the case with three buildings rising near the new Transbay Transit Center: Mira, the Avery at 400 Folsom St., and One Steuart Lane, which overlooks the Embarcadero at the foot of Howard Street. Unless there is a remarkable drop in the market, units in all three of those buildings will probably have an average sales price of more than $2,000 a square foot and penthouses could fetch $3,000 or even $4,000 a square foot. A 3,326-square-foot penthouse at 181 Fremont St., which opened last spring, recently sold for $15 million, or $4,500 a square foot.

  Projects being squeezed by rising costs is something that we are also seeing here in Toronto. And I don’t believe that the general public fully appreciates that there are limits to the costs that can be shouldered by new development. And the reason for that is because there are limits to what people can afford to pay for new housing.

  Photo by Jamie Street on Unsplash

  2018.09.07

• One year of Inclusionary Housing in Portland

  

  About a year ago, Portland enacted “Inclusionary Housing” policy requiring new apartment buildings of 20 units or more to offer up a portion of the units at below market rents.

  Developers are able to select from a few different options and the rents are calculated according to a percentage of the city’s median family income (30-80%). I’m not sure how this policy would apply to new condo buildings.

  This is an interesting account by The Portland Mercury of what this policy may be doing to the housing market. I say may because it’s only been a year and there could be other factors at play.

  Between 2013 and 2017, Portland typically built between 3,000 and 6,000 new units per year. Since the IH policy went into effect on February 1, 2017, 682 new units have applied for permit. 

  About half are coming from one developer who appears to be building the requisite affordable units in exchange for no parking minimums. They are now proposing buildings with zero parking.

  Again, in all fairness, it’s only been a year. But already Mayor Ted Wheeler is looking at other incentives to encourage more new construction in the central city. The biggest levers: height and density.

  All of this begins to speak to the very real impact of inclusionary zoning on development feasibility.

  Photo by Zach Savinar on Unsplash

  2018.02.08

• The impact of inclusionary zoning on development feasibility

  

  After my recent post on inclusionary zoning in Ontario, I was asked to provide my comments on the draft regulation and on how inclusionary zoning could and will impact development feasibility. So I will endeavor to do that today.

  It’s important to first understand the costs and inputs that go into a development pro forma and how overall project feasibility is determined. For simplicity, let’s breakdown the costs as follows:

  – Land

  – Soft Costs

  – Financing Costs

  – Municipal Fees/Charges

  – Hard Costs

  All of these costs buckets are significant. For a project to be feasible, you obviously need the revenues of the project to be greater than the above costs. There also needs to be a remaining profit margin that is commensurate with the risk profile of the project and that meets your investor’s return expectations. Most developers rely on outside equity and debt to finance their projects.

  One of the misconceptions that I often hear is that people seem to think that the profit margin on projects is so great that developers could simply build affordable housing (or do many other things) if they weren’t so greedy. The reality is that development happens on the margin. It’s not easy to find sites and projects that make any sort of financial sense. More often than not they don’t.

  The other reality is that in a growing market all of the above costs are also continually increasing. If revenue (i.e. rents and condo prices) is also growing, as has been the case here in Toronto for many many years, then developers can generally absorb reasonable increases and continue building. But if revenue stops growing, grows at a slower pace or, worse, shrinks, then feasibility could disappear and development would stop.

  Now let’s talk specifically about inclusionary zoning. IZ is typically an incentivized or mandated requirement to provide a certain number of below-market housing units as part of new developments. Affordable housing is important. That’s why a number of cities already have inclusionary zoning policies – though it remains a fairly controversial tool.

  From a development feasibility standpoint, a mandatory inclusionary zoning requirement represents a decrease in revenue. There’s now a percentage of the units that can no longer be rented or sold at market prices. And so to maintain the project’s feasibility – because remember development happens on the margin – something has got to change.

  There are a few options.

  Option One: You could simply try and pay less for the land. As we have talked about many times on this blog, land is supposed to be the residual claimant. Work backwards from revenues and your other costs to determine what can be paid for the land. The problem with this option is that land prices tend to be sticky.

  Many or most landowners don’t give a shit about your development pro forma. They often have a number in mind and if you try and tell them that development charges just went up and you can’t pay as much for their land, they’ll simply sit on it and wait for someone else – even if that means waiting for the market to catch up (i.e. waiting for rents to go up).

  Option Two: Charge more for the remaining market units. If the market is sufficiently robust, perhaps this is an option. This is one of the reasons why inclusionary zoning often produces more units in markets where there’s already strong demand for new housing.

  But it’s also one of the reasons why IZ is controversial. You’re asking the other renters/buyers in the project to effectively subsidize the below market units. And there is research out there (previously posted on this blog) suggesting that in some instances IZ policies have created additional upward pressure on market rents and home prices.

  Option Three: Incentives are provided by the municipality to offset some or all of the additional burden placed on the project. This could come in the form of a density bonus, financial contribution, a waiving of other municipal charges/fees, and so on.

  Though I have questions about the details, this is something that was proposed in Ontario’s draft regulation (albeit not to the extent that the industry wanted). Now you know why I said and why I believe that these offsets are important to the industry and to overall housing affordability.

  My hope with this post was to provide the developer’s perspective, but also take a very matter of fact approach to inclusionary zoning. Most people recognize the importance of affordable and accessible housing. The question is how best to execute.

  Photo by Toa Heftiba on Unsplash

  2017.12.23

• Inclusionary zoning is coming to Ontario

  

  On Monday the province of Ontario posted a draft regulation intended to establish a framework for inclusionary zoning. It builds on a bill that passed last year allowing municipalities – should they choose – to require affordable housing in new developments and redevelopments.

  Below are some, but not all, of the things that are being considered in the draft regulation. Some of these items were recommendations made by the development industry through the Ontario Home Builders’ Association (OHBA) and the Building Industry and Land Development Association (BILD).

  – The total number of affordable units or gross floor area dedicated to affordable housing units would not exceed 5% of the total units or 5% of the total gross floor area (excluding common areas). This number increase to 10% in high density transit station areas.

  – The affordable period would be a minimum of 20 years but no greater than 30 years.

  – There may be opportunities to provide the inclusionary zoning units off-site.

  – The policies would only apply to developments / redevelopments with 20 or more units.

  – The affordable component could not be used to determine community benefits under Section 37. Section 37 would also not apply if the proposed development (with IZ) is in a location where a development / community planning permit is used.

  – Municipalities would be required to offer incentives to help offset the IZ cost burden, but only if the development is not subject to a development / community planning permit. The incentives could include a waiver or reduction in application fees, parkland dedication fees, development charges, and so on. These offsets are very important to the industry and the affordability of the market rate units. But interestingly enough, increases in height and/or density are not being contemplated as a possible incentive or financial contribution.

  – The financial contribution would be based on the following formula: (A – B) x 0.4. A is the total sum of the average market price for all of the affordable housing units and B is the total sum of the affordable price for all of the IZ housing units. In other words, the intent is that municipalities would be required to offset 40% of the costs associated with providing the affordable units.

  Click here for the rest of the draft regulation. The OHBA also published this media release following the draft. They like the “partnership model” but were advocating for a 50/50 public/private cost share on all government-mandated units.

  If you’re looking for more reading on inclusionary zoning, check here, here, and here.

  Photo by Omair Khan on Unsplash

  2017.12.21

• 616 Croft Ave., LLC, v. City of West Hollywood

  

  The Supreme Court of the United States may soon consider whether inclusionary zoning is in fact unconstitutional.

  A pending petition by the developer of an 11-unit condominium project in the City of West Hollywood is asking whether a $540,393.28 “affordable housing fee” – which is being imposed as a mandatory approval condition – is “subject to scrutiny under the unconstitutional conditions doctrine” set out in previous cases.

  The petition is supported by a collection of researchers and academics from Yale University, George Mason University, as well as many other institutions.

  More specifically, the question asks whether a “mandated permit condition” satisfies the “essential nexus” and “rough proportionality” tests established by the following decisions: Koontz v. St. Johns River Water Management District, 133 S. Ct. 2586 (2013); Dolan v. City of Tigard, 512 U.S. 374 (1994); and Nollan v. California Coastal Commission, 483 U.S. 825 (1987).

  To put it crudely, the nexus and proportionality tests essentially state that for an exaction to be constitutional, there needs to be a reasonable relationship between the ask and the adverse public impacts that can be directly attributable to the project in question.

  Here is an excerpt from the petition:

  Together, the nexus and proportionality tests hold that the government cannot condition approval of a land-use permit on a requirement that the owner dedicate private property to the public, unless the government can show that the dedication is necessary to mitigate adverse public impacts caused by the proposed development.

  In the case of 616 Croft Avenue, the argument is that this 11-unit condo project is not directly responsible for the lack of affordable housing in the city. In other words, the need for affordable housing exists independently of this project. So it fails the test.

  Another excerpt:

  Accordingly, the City
  provided no evidence of nexus and proportionality,
  admitting on the record that the in-lieu fee was not “intended to mitigate impacts caused by development.” Instead, the City explained that the fee was designed to meet “needs for affordable housing that exist independently of the Applicants’ residential
  development project.

  The petition also gets into the fact that, irrespective of this test, inclusionary zoning has not necessarily been shown to have a meaningful impact on affordable housing supply. And it may actually increase housing prices because of a reduction in overall supply and because the cost burden typically gets shifted over to the market rate units. More reading here.

  What do you think of this argument? It will be very interesting to see how this one plays out.

  2017.07.02

• The 0.1%

  City Observatory recently published a post called, The 0.1 percent solution: Inclusionary zoning’s fatal scale problem. 

  I recognize the political attractiveness of this land use policy, but I’ve always been skeptical about its effectiveness. 

  Here’s an excerpt from the post:

  “While inclusionary zoning gets top mention as a preferred policy by many affordable housing advocates, there’s precious little evidence that its ever had more than a token effect on the size of the housing affordability problem in any city. In addition, because inclusionary zoning requirements essentially shift the cost of housing subsidies onto new development, they raise its cost, and likely reduce the number of units that get built–which tends to aggravate housing shortages and further accelerate prices.”

  Sadly, I think that many housing policies tend to be more about optics, than about impact. There’s rarely such thing as a free lunch.

  2017.05.13

• More thoughts on inclusionary zoning

  Alan Ehrenhalt recently published a balanced piece in Governing that largely reflects my own views on inclusionary zoning. It’s called: Why Affordable Housing Is So Hard To Build.

  His argument is that there are lots of cities trying to build more affordable housing, but that most strategies have not yet proven to be all that successful.

  I’ve written a few posts on inclusionary zoning. The most recent is this one. And though I believe that a mix of incomes is a critical component of good city building, I am having a hard time believing that inclusionary zoning is the silver bullet that will get us there. Admittedly, it sounds like a great idea. But how does that translate into reality?

  Here’s a snippet from Alan’s article (shout out to Daniel Hertz of City Observatory who seems to get cited in almost every article I read these days):

  Just about every city that has tried an inclusionary zoning law in recent years has had a similar experience. In some cases, the results have been much worse. According to BAE, Chicago’s inclusion law produced $19 million in 11 years, but only 760 affordable units. Thirteen years of inclusionary zoning in Seattle brought the city $31.6 million in fees and a grand total of 56 units. As the urbanist Daniel Hertz wrote recently, inclusionary zoning has been “more powerful as a symbol than as a way of helping people.”

  Of course, the devil is in the details. Many inclusionary zoning policies allow cash in lieu of actual housing:

  San Francisco actually has had an inclusionary zoning law since 2002, and it has been a flop. It mandates a 12 percent affordable set-aside, but allows developers to escape the mandate by paying a fee to the city. As in Arlington, this is what they have done. A study by the research firm BAE Urban Economics found in 2014 that after 12 years the San Francisco law had brought in $58.8 million in developers’ fees and had generated 1,560 units. That’s better than nothing, but it’s a drop in the bucket for a city facing an affordability problem in virtually every neighborhood.

  All this said, I’m still not so sure that it’s as simple as eradicating the cash in lieu option and forcing mandatary inclusionary zoning. As Alan rightly points out in his article, if we set the bar too high, then all of a sudden it starts making some market rate housing infeasible to build. 

  And if this ends up lowering the overall supply of new housing, then we could be hurting affordability while at the same time trying to mandate more of it. Does that make sense? Clearly this is not as simple as it may seem.

  I get the appeal for cash poor cities. It sounds like free affordable housing. But I’m always suspect of “free” lunches. In any event, I think we can all agree that this is an important discussion to be having.

  2016.06.01