Gotham Gazette

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Direct Subsidy: A Realistic Strategy to Ensure Housing Affordability For All

Housing in the offing (photo: Ed Reed/Mayor's Office)

We all benefit from an inclusive city that allows all types of people, not only privileged residents, to live with dignity and security. Yet, New York City continues to become an even more impossibly expensive place to live, disproportionately displacing communities of color, “essential workers,” artists, cooks, security guards, drivers, retail workers, and their families.

If we truly want to overcome this disparity, a plan to provide housing for all must deliberately aim to fund the true cost of building enough low-rent units to meet the needs of lower-income residents.

The lag in supply of new low-rent units will otherwise cause rents for these residents to continue to rise, forcing further departures. Regrettably, neither housing plans put forth by elected officials nor existing affordable housing programs are adequate to respond to the scale of this crisis.

Nevertheless, a realistic and feasible strategy to build enough affordable housing does exist. The direct subsidy of private-sector development of low-rent units with public funding is a cost-effective and efficient means to accomplish the essential goal of providing quality housing for all.

In response to the crisis, elected officials have set targets in the hundreds of thousands of housing units. While the word “affordable” has been deployed in press releases, the specific number of low-rent units geared to the lower-half of households by income to be built in the city is yet unclear. The worry is that fulfilling a promise to build new housing of any sort, while challenging, admirable, and necessary, would not provide for those most in need, in danger of displacement, or vulnerable to homelessness. Importantly, even on their own terms, detailed support has not been provided to demonstrate how these proposals would produce enough low-rent units to manage the crisis.

The laundry list of proposed zoning and regulatory reforms is meant to be builder-friendly and to streamline the approval process. While these policies may help reduce the power of wealthy enclaves to oppose affordable housing, they would also reduce the ability of vulnerable residents and marginalized communities to protect the neighborhoods from the detrimental effects of gentrification where they can still afford to live.

Most significantly, these proposals do not do nearly enough to address the most significant constraint to providing enough housing to lower-income households – the high cost of land and construction in New York City.

Conventional wisdom tells us that housing construction has not kept up with population growth. To the contrary, new housing has largely matched the increase in total households. From 2010 to 2020, the city gained 144,000 new households while building more than 186,000 new units. That net gain in total households, however, is deceiving.

In that time period, over 238,000 households earning in the top third of income arrived, while 94,000 in the bottom two-thirds departed, according to Census data. This outcome has been driven by a rise in the real median rent from $1,200 to $1,500 per month — a 25% real world increase on an expense that typically consumes 30% to 50% of a lower-income household’s income. 

The notion that a less-constrained market and upzoning will spur enough construction to meet overall housing demand — including the need for low-rent units — is fundamentally flawed.

Developers will not construct apartment buildings for which revenues do not cover costs; nor will they construct more apartment buildings than they can rent. Because newly-constructed housing will always compete with pre-existing housing, no matter how many units are built, new construction cannot fill overall demand. Available pre-existing units will more often be filled by an influx of higher-income newcomers than by already overly-rent-burdened lower-income residents. As a result, residents who cannot afford the inevitable rise in rents are pushed out.

But what about existing affordable housing programs? These programs, most notably the 421-a tax exemption, Low Income Housing Tax Credits (LIHTCs), and zoning area bonuses, are not able to provide enough low-rent units to meet the city’s needs.

The inappropriately named “Affordable New York,” the last iteration of the 421-a tax exemption, ensured a portion of below-market units in new buildings geared to households earning “up to 130% of Area Median Income,” a level that nevertheless corresponds to the top 20% of New York City renters. While reinstating the expired program is crucial to continuing to ensure that the supply of market-rate rental housing is maintained, the exemption did nothing to increase the supply of truly “affordable” low-rent units.

For more than 35 years, the primary method of financing new affordable housing has been based on LIHTCs, a complex Rube Goldberg-type system of federal, state, and city sources requiring no or minimal private investment. While funding the construction of thousands of low-rent units, this program is capped at the federal level, limiting the number of units built annually. The economies-of-scale necessary to reduce administrative and construction costs for the most part preclude their use for projects with under 50 units, narrowing the number of available sites that can be used.

In addition, zoning area bonuses for the construction of low-rent units, known as Inclusionary Housing, are attractive because government expenditure is not required. Here, free additional zoning area for developers is meant to offset a portion of below-market rental units in new otherwise market-rate buildings. Another advantage of the free additional area is that project feasibility is not contingent on land price variation throughout the city.

Zoning area bonuses, however, don’t work where market rents aren’t high enough to cover costs. Yet, in expensive areas of the city, they are inherently inefficient because the fully monetized value of the zoning area bonus is not realized in the inherent subsidy.

What’s more, the stipulated reduced rents are either not high enough to cover their added construction cost or not low enough for lower-income households. Indeed, from 2016, when New York City’s Mandatory Inclusionary Housing (MIH) program was enacted, only 2,065 units had been approved under MIH as of January 2020 – even before the construction slowdown caused by the pandemic struck. 

The key to producing enough affordable housing in New York City is to contribute the additional funding to cover the cost of building the necessary number of new low-rent units. This is where the direct subsidy of private-sector development with public funding can make up for the shortage of new low-rent units that the market will not provide. Direct subsidies, in effect, would reduce the overall cost of development projects so that low rents are sufficient to compensate private investment.

Together with standard equity investment and debt financing, direct subsidies would avoid LIHTC financing and its cap altogether and could be used for any sized project. In addition, direct subsidies would significantly reduce bureaucracy, the overall cost to the government, and the time required before construction can start.

By leaving subsidies in place upon completion, a developer could even be encouraged to hand over a new building to a tenant co-op ownership association in exchange for an investment return suitable to the inherent risk undertaken. 

Along with the same tax exemption for LIHTCs and 421-a, a direct subsidy of $175,000 per unit, an amount comparable to what the city’s housing agencies (HPD/HDC) already supplement to LIHTC projects, would yield a range of new low-rent apartments. This range could include studios with rents of $1,200 to $2,100 per month with a weighted average of $1,750 per month and two-bedrooms from $1,650 to $2,600 per month with a weighted average of $2,250 per month.

In conjunction with existing programs, direct subsidies totaling $1.5 billion annually would fund the additional construction of 8,500 new low-rent units per year — equal to the number of lower-income households that left the city annually between 2010 and 2020.

Funding can be found by rectifying the ingrained unfairness of a regressive property tax system that over-taxes multi-family rental buildings in comparison to co-ops, condominiums, and single-family homes. For example, currently the value of luxury condominiums and co-ops are assessed for tax purposes the same as nearby rental buildings. As a result, the overall effective tax rate on their real-world value is 30% lower than for rental buildings, with an increasingly disproportionate share of this disparity allotted to higher valued properties. In other words, gentrification, and correspondingly displacement, are effectively now being subsidized.

Simply equalizing the effective tax rate on condominiums and co-ops would yield an additional $1.95 billion annually. Reforming the property tax on single-family homes would yield even more.

To augment these funds, like MIH provisions, developers of luxury buildings could purchase zoning area bonuses at market prices directly from the city. Monetizing the actual market value of zoning area bonuses could fund the construction of twice as many new low-rent units than by offering the free zoning area in MIH. In addition, fees could be charged for building above certain height thresholds to compensate for the effects of extremely high towers.

Ultimately, providing affordable housing for all New Yorkers is a choice — our collective choice, not to be left to individual spirits. Our underlying incentive is to sustain a New York that is home to diverse culture and communities. To solve the housing crisis, we need to come to grips with its price tag. An actionable plan needs a measurable goal, an understanding of its cost, and a way to pay for it all. The direct subsidy of new construction of low-rent units with public funding will ensure supply will meet demand even when the market alone cannot.

David Finehirsh is the Principal of Urban Artisan LLC, a development firm in New York.

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