Inclusionary Zoning: why it does not work


This week the South Carolina Senate held a public hearing before a Judiciary subcommittee to consider legislation to allow South Carolina cities and counties to impose Inclusionary Zoning on home builders and developers.  Inclusionary Zoning is a regulation where government mandates that private home builders and developers sell or rent some homes at below-market prices without any financial participation from government.
Your Home Builders Association opposes Inclusionary Zoning because it does not work.  In fact, it makes the affordable housing problem worse.  We described the problem in a letter to Greenville Mayor Knox White.  The Greenville City Council adopted a resolution in support of the Inclusionary Zoning legislation and actively lobbied for its passage.  We also shared the letter with the rest of City Council, Greenville County Council, and the legislative delegations from Greenville, Pickens, and Laurens counties.  You can read the letter below.  Click here to read our policy paper on Inclusionary Zoning.

April 17, 2017

The Honorable Knox White, Mayor
City of Greenville
206 South Main Street
Greenville, SC 29601

Via Email: kwhite@greenvillesc.gov

Dear Mayor White,

I would like to provide you with some additional research and information on inclusionary zoning and why, in almost all cases, this regulation worsens the affordable housing problem in the communities where it has been implemented.

Attached is our policy paper on the subject. In addition, I have outlined below why an inclusionary zoning regulation would contribute to the affordable housing problem in Greenville, rather than improve it.

Scenario 1
Assume that an inclusionary zoning ordinance in the City of Greenville will require 10 percent of all housing units constructed to be below market prices. Assume also that 400 housing units are constructed in a year in the city (consistent with current activity and about 8 percent of the total new homes constructed in Greenville County). The result would be 40 new below-market housing units constructed in the city as a result of an inclusionary zoning ordinance.

However, we must assume that the developer will pass the lost profit on in the form of an increase in the prices of the remaining 90 percent of their development that is being sold at market-rate prices.

The average price of a newly-constructed single-family home in the Greater Greenville area is approximately $270,000. The average home builders’ net margin is about 5 percent. That is their profit. Some are more profitable. Others are not. That is an average.

Therefore, the home builder will need to increase the prices of the remaining 90 percent of market-rate housing units by $15,000 each.

  • $270,000 x 5% = $13,500 (average price times 5% net margin is the home builder’s profit per housing unit priced at $270,000)
  • $13,500 x 400 / 360 = $15,000 (average profit times total housing units produced, divided by market-rate housing units produced is the price increase on each market-rate housing unit)

According to the National Association of Home Builders’ Priced Out Effect study (nahb.org/pricedout), a $1,000 increase in the cost of a new home in Greenville, South Carolina, prices out 520 households from purchasing a new home. Therefore, that $15,000 increase in the price of a new home, the result of an Inclusionary Zoning Ordinance mandating that 10 percent of the project be sold at below-market prices, will price out 7,800 families from purchasing a new home as a result of the ordinance—PER YEAR.

The hypothetical ordinance would produce 40 below market housing units, but will cause an increase in the demand for below-market housing units by 7,800 households. And this only assumes that the net profit from the 10 percent of housing units that are below market is $0. If the city demands that the price be less than break even, which is likely, the priced-out effect is even worse.

Granted, I am applying the Priced Out data, which is a regional statistic, to the City of Greenville. However, I believe it fairly describes the cause and effect of an Inclusionary Zoning ordinance.

Scenario 2
The above example assumes that the ordinance regulates the end price of the house. However, some ordinances have regulated the end price of the lot. That method is even worse for affordability.

The lot cost is a combination of raw land cost plus development and infrastructure costs, as well as marketing, commissions, and carrying costs (debt), plus profit. Below is how the final lot price is often determined:

  • Land cost of $15,000 per lot ($60,000 per acre divided by 4 units per acre)
  • Infrastructure and development costs have risen dramatically and are now typically $25,000 per lot
  • The result is a $40,000 lot in hard acquisition and development costs
  • Therefore, a 30-lot subdivision would cost $1.2 million
  • Add risk, carrying cost, overhead, desire for a profit, and the $1.2 million in hard costs is typically grossed up using a 1.5 multiplier. Therefore, the retail price of the lot will be $60,000 lot.
    • The gross margin is $20,000 per lot from which comes business overhead (city license fees, office cost, employee salaries, insurance, utilities, transportation, etc.). That overhead number is about 10% of revenue, or $6,000.
    • Then there are the additional costs like sales commissions, marketing expenses, and interest expense.
    • The absolute best outcome for the developer is 10% net profit on the lot, but usually it is less.

If 3 of the lots in the 30-lot subdivision must be sold for $20,000 each in order to produce a house affordable to a buyer earning between 80 percent and 120 percent of median income, the lost $20,000 in cost (the lot cost is $40,000) and the lost mark up of 20,000 per lot, will be added back to the remaining 27 lots.

  • Therefore, the developer’s lot cost for the market-rate homes is $44,444 ($1,200,000 / 27 lots)
  • The retail price of the lot will be $66,666 ($44,444 x 1.5 = $66,666)
  • A difference in cost of $6,666 per lot that will be paid by the market-rate buyers in the subdivision

Therefore, the developer will sell the remaining lots to builders at $66,666 rather than $60,000.

In any final product, the lot is typically 17 percent to 20 percent of the cost of the home. To keep it simple, assume the builder uses a 20 percent value for the lot. Therefore, the builder will build a house that is five times the price of the lot.

When the lot cost increases by $6,666, that means the $6,666 increase in the lot will magnify into a $33,330 increase in the final price of the house. This is how it looks on paper:

  • $60,000 lot x 5 = $300,000 house price
  • $66,666 lot x 5 = $333,330 house price

With this lot-price control method, the city will have priced out of homeownership 19,314 families in the Greenville area.

You will understand from this analysis why the Home Builders Association has concluded that inclusionary zoning does not work. It, like many other government regulations on the housing industry, such as zoning and rent control, often make us feel like we are doing something constructive when we are, in fact, making the problem worse.

The study by the National Association of Home Builders that we reference in our policy paper has been applied to the Greenville area in the attached graphic. It demonstrates that housing in our community is nearly $70,000 more expensive as a result of regulation. As a result, less than 10 percent of all housing units built today are sold for less than $200,000. Just 17 years ago, 90 percent of all housing units were sold for less than $200,000. Inflation alone does not explain that increase in housing prices.

Our recommendation is that the City of Greenville and Greenville County work with the industry that produces housing to develop a meaningful housing policy for our community that will actually meet housing demand for all of our community’s citizens.

Home Builders Association of Greenville, SC, Inc.
Sincerely,
Michael E. Dey
Executive Vice President and Chief Executive Officer

Copy:
Greenville City Council
Greenville County Council
Legislative Delegations of Greenville, Pickens, and Laurens counties

Inclusionary Zoning: Your HBA’s position


How It Could Dramatically Increase the Cost of Market Rate Housing
Meeting the demand for affordable housing has long been a challenge in nearly every community in America. After all, home ownership remains a nearly guaranteed way for low- and moderate-income families to build wealth and improve their financial futures.

The solutions to the affordable housing problem are varied, but most involve some level of additional government intervention in the housing market which most observers agree usually contribute to lack of affordability, not improve it. One recently popular measure is inclusionary zoning.

What is it?
Inclusionary zoning occurs when local governments attempt to promote affordable housing through zoning that mandates that home builders sell a percentage of the homes built in new communities at prices that are below market rate.

Potential Problems:

By mandating a lower price for these homes, communities are directly impacting the value of land and restricting the rights of landowners to get the greatest possible return on their property. In addition, government is creating the potential for an automatic windfall for the buyers of these underpriced homes, which also must be regulated.

Another dilemma for property owners and home builders is the extra expense associated with complying with a inclusionary zoning ordinance. We may hope that home builders will just absorb these additional expenses, and lost income. In reality, they will pass them on in the form of higher prices for the remaining market-rate homes. That will have the effect of pushing a few families, on the edge of homeownership, into the group that will require assistance. It also will ultimately push higher the cost of housing throughout the community, further gentrifying the entire community. It is a slippery slope.

Supporting Studies:
The Reason Institute, in 2004, published a policy study, “Housing Supply and Affordability: Do Affordable Housing Mandates Work?” The Reason Institute study of 45 cities found that after passing an inclusionary zoning ordinance, the average city produced less than 15 affordable units per year, far less than the City of Greenville’s need. The study also found that new construction decreased by 31 percent following the adoption of an inclusionary zoning ordinance and the price of new homes in the median city increased by $22,000 to $44,000.

A recently updated study by the National Association of Home Builders found that regulatory compliance accounts for 29.4 percent of the price of a new home. In Greenville that comes to nearly $70,000 on an average newly-constructed home. Two thirds of that cost is found in the regulation of land development, which includes zoning. More significantly, the study found that the impact of regulation on the cost of housing has risen by 30 percent since 2011.

In a 2009 study by New York University, which also looked at California, specifically, San Francisco, as well as Boston, the study found that controlling for 27 variables in San Francisco and 24 variables in Boston, a detailed regression analysis indicated that in both areas there is evidence that inclusionary zoning constrains new development, particularly during periods of regional price appreciate. There is also strong evidence that implantation of region-wide inclusionary zoning put upward pressure on single-family home prices in the suburbs of Boston between 1987 and 2008.

Another study, by the National Center for Smart Growth Research at the University of Maryland, found in 2008 these measurable effect of inclusionary zoning laws in that state:

  • Increased a city’s multifamily housing starts by 7 percent, essentially shifting production to multifamily from single family product; this effect increased to as much as 12 percent as inclusionary zoning requirements also increased
  • Raised the price of new homes by 2 to 3 percent, and by as much as 5 percent for more expensive homes, compared to communities without inclusionary zoning
  • Reduced the size of new homes by 48 square feet

The study found that these results all pass strong tests for statistical significance and are consistent with the economic theory that such programs act like a tax on housing construction. Just as with other taxes, the burdens of inclusionary zoning are passed on to housing consumers, producers, and landowners, and so such policies do not come without a cost. Given that more of the units built are multifamily, that the new homes sold are both smaller and costlier, the impacts show that inclusionary zoning means consumers of new housing pay more to get less. Some may argue that the price increases and size reductions seem relatively small, but to policymakers in areas where affordability is already a concern, a policy that moves at all in the direction of exacerbating a problem it is intended to solve would seem undesirable and ineffective.

The most recent research on the variety and effectiveness of different inclusionary zoning programs across the country comes from the Lincoln Institute of Land Policy’s report from 2014 titled “Achieving Lasting Affordability through Inclusionary Housing”, by Robert Hickey, Lisa Sturevant, and Emily Thaden. The paper pulled data from 307 programs across the country and focused on case studies for 20 of those programs. The case studies revealed that achieving lasting affordability requires more than simply setting long affordability periods, which has been a hallmark restriction in inclusionary zoning programs. “Strong legal mechanisms, carefully designed resale restrictions, pre-purchase and post-purchase stewardship practices, and strategic partnerships are important for ensuring that inclusionary properties continue to be sold or rented at affordable prices, and are not lost due to illegal sales, foreclosure, or lax rental management practices. Despite the acknowledged importance of stewardship, most jurisdictions report having insufficient resources for comprehensive stewardship and many have not adequately planned for long-term monitoring and stewardship of inclusionary housing units.” The Lincoln Land report found that while inclusionary zoning can create large numbers of affordable units in some communities, overall, they have had a relatively small impact on the supply of affordable housing nationwide. While differences in retention levels can be partially explained by program stewardship, differences in the production levels can be partially explained by local housing market conditions. Strong demand for market-rate housing has produced more affordable units compared to weaker housing markets.

Additional Questions:
This type of zoning gives rise to many other questions and concerns:

  • Would a more comprehensive approach to the affordable housing problem, that examined infrastructure needs and growth patterns, be more effective than simply targeting new subdivisions?
  • What if we rethought our overall zoning and planning policies which have inflated land values and caused the scarcity of affordable housing?
  • What if home builders choose not to accept the higher cost and lower profit of working in an inclusionary zoning environment and build somewhere else to meet demand for housing?

Our Position:
It is the position of the Home Builders Association of Greenville that creating affordable housing and homeownership for every socio-economic class is absolutely necessary. But additional regulations only produce additional costs for those who buy homes without government assistance. What is needed is a comprehensive approach, not a new regulation.


Board of Directors, Home Builders Association of Greenville
Adopted March 21, 2017