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Wait, What Impact Does the 421a Developers' Tax Exemption Actually Have?

October 7, 2016

The 421a Developers' Tax Exemption is the most important and most expensive New York City tax incentive that most people have never heard of, and has been an underlying fact of real estate development for the past 40 years. Something surprising happened this past January when the tax exemption was temporarily suspended, an unexpected causality of the struggle between big real estate and construction trades unions.

New data suggests 421a is less necessary than anyone thought.

The 421a Developers' Tax Exemption is the most important and most expensive New York City tax incentive that most people have never heard of, and has been an underlying fact of real estate development for the past 40 years. Something surprising happened this past January when the tax exemption was temporarily suspended, an unexpected causality of the struggle between big real estate and construction trades unions. (This tax abatement is now being referred to as "The Donald Trump Real Estate Tax Exemption" because Trump used the program early and often, and "reaped at least $885 million in tax breaks, grants and other subsidies for luxury apartments, hotels, and office buildings in New York.") The suspension of the 421a Exemption was expected to have a major and immediate impact on the real estate market, with the big real estate lobby predicting dire consequences. In the past few months, we have been learning some new facts about what is happening in some new-construction markets, and the impact may not be what we were told it was going to be. [pullquote]In the past few months, we have been learning some new facts about what is happening in some new-construction markets, and the impact may not be what we were told it was going to be.[/pullquote] Policy makers have argued over the exact role the exemption plays in generating new housing across all types of neighborhood housing markets. But there is one thing the real estate lobby has asserted unequivocally: "It was not feasible to build rental housing in New York City without the 421a subsidies." Some local newspaper editorial boards have accepted this as a principal reason to support the revival of 421a. However, new trends suggest this may not be correct. In the past few months, there has been increasing evidence of new market-rate rental private construction in exactly the types of low-cost housing markets where the real estate lobby insisted would never happen. A few recent examples include Brownsville, Ocean Hill, Kingsbridge, Fordham, Flatbush, and Bedford Stuyvesant. To be clear, these examples show a specific type of small-scale walk-up rental housing development where land and potential property taxes are relatively low, where the developer has kept construction costs low, and where market rents are starting to increase. These are important examples of new construction, but it is hard to know what the overall market impact is. But, the fact is new private rental construction is happening without 421a in neighborhoods where the real estate lobby asserted it would not happen. This assertion has been the centerpiece for the argument that 421a should be revived, a logic which should now be called into question. The 421a exemption is well-understood to be an extraordinarily expensive and inefficient program, costing City taxpayers over $1 billion a year in lost tax revenue, and puts the "b" in "boondoggle" by padding the bottom line of big private real estate developers, while at the same time generating very little public benefit in return. The 421a exemption is hard to defend on policy grounds, but it has been renewed year after year. Why?

  • Decision makers assumed it was a political inevitability because of the power and influence of the real estate lobby. The circumstances this past year are unusual, but it turns out it is not inevitable.
  • The real estate lobby told us the entire New York City new-construction private housing market would grind to a halt without the program. This has clearly turned out not to be the case, as new construction in neighborhoods with strong real estate markets has barely been affected.
  • Finally, the real estate lobby told us new private rental constructions in the weaker markets of the outer boroughs would never happen without 421a. This is also not true.

The de Blasio Administration - with all good policy intentions - has supported a reformed 421a as a necessary, underlying element of the Mayor's laudable affordable housing production goals. It may be time to reconsider how true that is, and whether the trade-offs are worth it. We know that the 421a Developers' Tax Exemption is inexcusably expensive and inefficient, and now we know that it may not be necessary for even the most minimal level of public benefit. Decision makers should take their time and fully consider this program's true impact on real estate markets before being rushed into renewing the program by the real estate lobby. [pullquote]Decision makers should take their time and fully consider this program's true impact on real estate markets before being rushed into renewing the program by the real estate lobby.[/pullquote]

The background of the 421a Exemption shows why it is so expensive and inefficient.  

The Exemption gives developers a 100% real estate tax break on the value of any new residential building. The 421a Exemption was created in 1971, at a time when the City was in an economic crisis and the private housing development market was frozen. It was designed not as an affordable housing program, but as an incentive to build anything at all. Over time, as the City's real estate market changed, the incentive was no longer needed to spur development in many parts of the city; instead, attempts were made to use it to leverage affordable housing out of market-rate development. Affordability requirements were put in place in the highest-rent areas of the city, eventually including all of Manhattan below 96th Street, and more recently parts of Brooklyn and Queens. But affordable housing requirements always lagged far behind when neighborhood rents were high enough to give real estate development a guaranteed high profit margin. Even where some affordability was required, the abatement was very inefficient, since the value transferred from unpaid taxes to the developer's profit margin far outweighed the value transferred to the community in the form of affordable housing.

An ANHD 2015 Analysis of the 421a Program shows that in fiscal year 2013-14 the program covered a total of 152,402 residential units, and granted $1.1 billion in tax abatements. But, only 12,748 of those units had affordability restrictions. That translates very roughly to about $86,000 a year that taxpayers are transferring to private developers to subsidize each affordable unit, making 421a by far the most inefficient affordable housing program on the books. [pullquote]That translates very roughly to about $86,000 a year that taxpayers are transferring to private developers to subsidize each affordable unit, making 421a by far the most inefficient affordable housing program on the books.[/pullquote] The 421a abatement is so valuable to developers that when it has been mentioned in the news, it has usually been because of a corruption allegation when a developer was paying for the favor of being granted an exceptional 421a benefit. This includes the most recent high-profile convictions of State Assembly Speaker Silver and Senate Majority Leader Skelos. The latest version of 421a was passed in Albany in June 2015. The revised law included affordability requirements throughout the City, but it also substantially increased the length of the tax abatement, and thus the benefit to developers and cost to taxpayers. ANHD's analysis of the revised 421a exemption passed in June 2015 and a Furman Center analysis of the reform's impact on developers and taxpayers shows why even the revised program is highly flawed. The legislation passed in 2015 also included a highly unusual, last minute provision regarding possible labor requirements for 421a developments. The provision stated that the new 421a model would only become effective if and when the Construction Trades Council and the Real Estate Board of New York came to an agreement on attaching new labor requirements to the law. To the surprise of most observers, no agreement was reached, and 421a was suspended. How 421a actually impacts the construction of new market-rate housing should be understood neighborhood-by-neighborhood because local market-rent determines how 421a is utilized. Housing markets are complex and difficult to predict, but here is ANHD's understanding of how many housing policy experts expected the suspension of 421a to affect new construction:

  • In Very Strong Markets (e.g.,below 96th Street in Manhattan), the suspension of 421a has little impact on new housing development. Most developers in these markets forgo taking 421a in order to build condominiums, which are ineligible for the tax abatement.
  • In Strong Markets (e.g., Williamsburg waterfront, downtown Brooklyn, Long Island City, parts of Manhattan from 96th - 110th Streets) where rents are high, developers can generally profit on new residential development with no tax benefit, but access to 421a may affect whether a developer chooses to build condominiums or rental apartments.
  • In Middle Markets (e.g., Astoria, Flushing, Clinton Hill), rent levels have been seen as high enough to support new development with no tax breaks, but it was assumed that the loss of 421a would soften the market and slow the pace of new development. Given all the evidence, this may or may not be the case.
  • In Moderate and Weak Markets (e.g., Flatbush, Crown Heights, Bushwick, Jamaica, East New York, Brownsville, Kingsbridge Heights), it had been understood that market rents generally cannot support unsubsidized development, even with 421a. Given recent evidence, how much this is actually the case may need to be reevaluated.

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