Measuring Housing Credit Cost-Effectiveness Post-Tax Changes

By Michael A. Spotts

The Tax Cuts and Jobs Act of 2017 (TCJA) had significant effects on the delivery of affordable rental housing. Most notably, the decrease in the corporate tax rate is expected to reduce the amount of Low Income Housing Tax Credit (Housing Credit) equity available for new construction and preservation efforts, potentially reducing production levels by more than 200,000 units over the next decade. The implications of the TCJA and efforts to fill this new gap have rightfully received a great deal of attention among affordable housing practitioners. However, I do want to call attention to an under-explored implication of the TCJA's provisions that could influence how the effectiveness of the Housing Credit is viewed - the law's impact on metrics.

Over the past six years, I have spent a considerable amount of time studying the cost-effectiveness of affordable housing production and the Housing Credit in particular. Through this work, I have observed numerous metrics for evaluating costs - total development costs, total subsidy required, leverage ratios, etc. These metrics have varying relevance in different contexts.

The TCJA's corporate tax rate reduction is having a significant impact on production figures based on Housing Credits per unit (and the inverse, the number of units produced for a given amount of credits). For those less familiar with the Housing Credit, one of the relatively unique elements of the program is that that unlike a grant, the subsidy awarded - an allocation of tax credits that can be claimed over ten years - is generally not equal to the amount of equity that the developer ultimately receives. Equity investors purchase Housing Credits from developers based on their perceived value, which takes into consideration discount rates (equity is provided upfront, while credits are claimed over a decade), macroeconomic conditions, regulatory requirements, and local market factors, among other elements. The amount of equity raised per credit can vary significantly, and can be higher or lower than a 1:1 ratio depending on the context.

A lower corporate rate affects this calculation and reduces the amount of upfront capital available per unit. Estimates of this reduction (at the aggregate level) reach approximately 14%. This reduction began before the TCJA passed, as investors began anticipating and "pricing in" future changes.  

Why does this matter, beyond the bottom-line reduction in units and increased need for subsidy to fill the gap? Perceptions of a program's effectiveness are often shaped by metrics. With equity prices lower, developers will be able to produce fewer units per Housing Credit awarded, even if their development costs have stayed the same or fallen. While the drop in productivity (again, on a per Credit basis) is technically true, any assessment of the effectiveness of Housing Credit allocators and developers must take this extraneous factor into account. 

Cost-effectiveness is critical in a resource-constrained environment. There are many metrics that are effective in measuring development cost trends, and those metrics should be used to inform any policy or programmatic changes. Moving forward, it will be important to avoid drawing conclusions from the wrong metric, and all assessments of the Housing Credit program should be done in the context of the TCJA provisions.

Can Arlington scale up affordable housing efforts to meet ambitious goals?

By: Michael A. Spotts

From 2012-2015, my adopted hometown of Arlington, VA held an intensive process to update its housing affordability policies, culminating in the passage of an Affordable Housing Master Plan (AHMP) and Implementation Framework. Over the course of three years, I had the honor of serving as the vice-chair of the working group that advised County staff and leadership on this effort. In the end, local advocates, County staff, and the working group were successful in building unanimous support from the County Board for an ambitious set of goals and targets. Notably, the AHMP included the goal of maintaining the County's current economic diversity through increasing the supply of affordable homes. This is a difficult task given that market pressures have significantly decreased the stock of affordable rental housing options, and affordable homeownership opportunities are few and far between.

Since 2015, County staff have worked to implement several of the recommendation included in the Implementation Framework, including recently-passed revisions to the County's Accessory Dwelling Unit (ADU) and parking policies, as well as ongoing efforts to support the preservation of market-rate affordable rental properties. While I have concerns about certain aspects of recent efforts (for example, I believe the new ADU policy is still far too restrictive), they represent steps in the right direction and further demonstrate the commitment of both board and staff to housing affordability. 

Yet achieving the AHMP's supply-related goals will require an increase in scale. Success will hinge on the County's ability to continue to remove barriers to more naturally affordable housing types (ADUs, "missing middle" building typologies), as well as dramatically increasing the production of committed affordable housing. Each individual effort takes time and political will. 

To help address the issue of scale, a coalition of housing experts and advocates was formed to identify potential policy changes that could increase the production of committed affordable units. The result is a new report - Fulfilling the Promise: Meeting the Production Goals of Arlington's AHMP. This report was presented to the County board and staff in December. The coalition offered a menu of options that the County could consider to ramp up production from current annual levels of approximately 220 units to the nearly 600 units/year that would be necessary to preserve Arlington's current economic diversity.* Importantly, these options include not just funding increases, but also cost-reduction strategies that would allow scarce resources to be stretched further. This is particularly important in the context of changes to the federal tax code that will reduce the amount of subsidy available via the Low Income Housing Tax Credit program. Policy options considered include:

• Reducing site plan conditions for new affordable housing construction
• Waiving permit and tap fees for affordable housing projects
• Reducing use permit conditions for rehabilitation projects
• Modifying bonus density policy
• Pursuing community-serving real estate opportunities
• Offering property tax abatements/exemptions
• Expanding sources of funding for the Affordable Housing Investment Fund

Moving forward, members of the coalition will be available to work with County staff and board to further vet these proposals, and hopefully move closer to achieving the goals of the AHMP.

*If Arlington is successful in removing barriers to more production of  naturally affordable housing types, the 600 unit annual target could be lower. 

Multiple approaches to densification are needed

By: Michael A. Spotts

One of my New Years resolutions was to post to the blog more. While I'm not off to a great start, I'm not giving up yet.

today, I came across an article from Strong Towns contributor Andrew Price: Surprise Approaches to Achieving Density. In this article, he discusses the different forms that density can take (with pictures) and the problems associated with the tower-based all-or-nothing approach to density.

I offered my initial thoughts on Twitter (click through for full thread: https://twitter.com/MichaelASpotts/status/951851203511701504 )

1) From @StrongTowns - high-rises aren't the only path to density - https://t.co/SH1ItX3olI

— Michael Spotts (@MichaelASpotts) January 12, 2018

Before elaborating further, I want to make it clear that I agree with the same caveat that was featured in the article. Towers can be fine, even preferable depending on the market context. Where land costs are already (and durably) sky-high, it can make sense to build up. However, it is important to avoid creating a situation - artificially through zoning - that makes high-rises the only economical form of multifamily housing. In addition to my thoughts on building costs offered on Twitter, I think it is important to add a note on the distributional impacts of this type of zoning dichotomy.

First, concentrating all density in a small area also concentrates the burden of paying for municipal services and infrastructure. The tax base supporting low-density neighborhoods can be insufficient to support the infrastructure supporting those neighborhoods. High-density neighborhoods may end up subsidizing low-density neighborhoods. In addition to concerns about the long term fiscal sustainability of this arrangement, it is even more problematic if rental housing that is home to a jurisdiction's lower-income households is concentrated in the high-density neighborhoods. This could lead to a regressive situation in which these households are actually subsidizing higher-income homeowners.

A second concern is with the balance of development across a region. By restricting development in some neighborhoods while encouraging it in others, municipalities may facilitate the concentration of capital in certain neighborhoods. While the amount of capital available for real estate development may not be firmly fixed, it is not unlimited within a market. An unbalanced approach to development and density can exacerbate wealth disadvantages and lead to disinvestment and decline in lower-demand neighborhoods that do not support high-density development. Meanwhile, as developers compete for a smaller number of sites where density is allowed and can be accommodated, gentrification can become a concern.

Therefore, while densification is often necessary  and desirable, it is important to pay attention to how it is accomplished. In general, planners would be wise to recognize the limits to predicting where demand will flow and the second order consequences of planning and zoning decisions. This calls for a diverse range of development types and density levels within neighborhoods and across a jurisdiction, allowing for multiple "paths to success," even if development does not occur as predicted.