Monday, March 27, 2017

Tag Archives: 421a

What Happened To Housing Development When 421a Was Suspended?

What Happened To Housing Development When 421a Was Suspended?

An ANHD White Paper, February 2017

 

The real estate industry has long claimed that the 421a tax exemption is absolutely necessary to get new rental housing built in our City and that this justifies the enormous cost of the program.

But new data and recent reports from policy experts show this is not true. In fact, the 421a exemption likely has been making new housing development more difficult all along by inflating land prices.

This is pertinent since policy makers in Albany are currently considering whether to revive the program, or not.

The 421a exemption costs City taxpayers over $1 billion a year, making it the most costly tax exemption in NYC. In 2014, the program subsidized over 152,400 residential units, but only 12,700 of those units were affordable while the rest were luxury or market rate. $100 was given away to subsidize luxury development for every $11 in actual benefit to the public.

This is why the real estate lobby, REBNY, fights so hard for the 421a program. Taxpayers have put up with the increasingly expensive and inefficient exemption for decades because REBNY’s influence made it seem inevitable. But, on January 1st, 2016, the program was suspended because of a surprising political impasse in Albany that triggered a sunset clause in the legislation.

Housing experts have long wondered exactly what impact the massive exemption had on the real estate market, but the tax exemption had been around for so long that we had no control-group data. Now, we can look at 2016 and see what actually happened.

To defend the program, REBNY has asserted unequivocally that “it was not feasible to build rental housing in New York City without the 421a subsidies,” and without it, new development would languish in many neighborhoods of the City.

REBNY has pointed to data like this as proof that new housing development plummeted when the 421a exemption was suspended:

But, by focusing on those two years alone, REBNY is ignoring the larger truth. If you pullback a few years, the data shows something very different:

New building permits did drop in 2016, but that’s because 2015 was a unique year as developers rushed to file their permits before 421a came up for renewal and renegotiation in Albany in June of that year. This drove the volume of residential permit applications through the roof in 2015 as reported in the Wall Street Journal. But 2012, 2013, and 2014 – which were strong but more normal years for real estate development – are almost exactly in line with 2016. There was an average of 15,654 new units approved from 2012 to 2014, and there were 15,697 new housing units approved in 2016. So, new housing development in 2016 occurred at normal rates, even in the absence of 421a.

This data clearly contradicts REBNY’s claims and the expectation of many other housing policy experts, even those skeptical of REBNY, that development would drop off without the 421a exemption. And instead shed light on an important fact which has become clear in the past year – the 421a exemption may have been hindering new development in many neighborhoods by driving up land prices.

In the past 12 months, new data has shown that the long-term presence of the inefficient 421a exemption inflated land prices. 421a acted as an artificial stimulant that drove up land prices, which is a major factor in whether a new development is economically feasible or not.

Here we can closely examine the price of land in Brooklyn per buildable square foot (PBSF):

When we also take a closer look at the rate of new development in BrooklynThe price of land per buildable square foot in Brooklyn trends steadily upward from 2012 to 2015, averaging a 23.75% increase per year. Then in 2016, it suddenly levels off to only a 5% increase when 421a is suspended. This flattening of land prices is a significant part of the reason why new development in Brooklyn kept up a normal pace in 2016, even without the subsidy of the tax exemption. There were an average of 5,663 new units approved each year from 2012 to 2014 (excluding the unique rate in 2015), and there were 4,778 new housing units approved in 2016. The citywide numbers make up this very modest decrease with the overall increase in new units in other weak market outer borough areas.

This effect of softening land prices is even more pronounced in the weaker outer borough real-estate markets. For example, in parts of the Bronx, lower land prices can be the margin of difference in whether development is feasible or not, and where government policy should correctly encourage new development since those are the neighborhoods where it will be more naturally affordable.This answer isn’t entirely surprising. A report from the NYC Independent Budget Office last week stated that “because the 421a exemption is partially capitalized [economically inefficient], it contributes to higher land costs.”

What is most notable is how quickly land process adjusted down without the exemption, and how quickly development became more feasible and rose back to natural levels without it.  

Housing markets are complicated and 421a is just one factor that explains why new housing construction is still strong – there are numerous other factors, including the strengthening of rent levels in some weaker neighborhood markets. But the fact is, new private rental construction is happening without 421a across the City, and specifically in the crucial weaker market neighborhoods where REBNY asserted it would not happen. This unsupported assertion has been the centerpiece for REBNY’s argument that 421a must not only be revived, but expanded.

It is important to note that, in 2016, New York City actually exceeded the affordable housing development goals set by Mayor de Blasio’s Housing New York Plan by building or preserving 21,963 affordable units, making 2016 the highest year on record for New York City affordable housing production. The fact that New York City did not need the 421a Exemption for its affordable housing targets is an indication that the 421a exemption is overwhelmingly a subsidy for high-end development. Furthermore, the City and State have better tax exemptions designed for affordable housing such as exemptions 420-c and Article XI.

We have long known that 421a is unjustifiably expensive and inefficient. Now we know it may not even accomplish the most minimum public purpose to justify its $1.4 billion price tag. Despite these facts, REBNY is currently working to convince the State legislature to make the subsidy even richer for themselves. (Even the New York Post condemned the new REBNY proposal in an editorial titled, Cuomo’s latest blow to city taxpayers).

With the City and State facing the prospect of billions in additional local budget obligations because of the Trump federal budget cuts, legislators in Albany should resist the REBNY push to revive the 421a exemption.

Understanding REBNY’s New 421-a Tax Exemption Proposal

Understanding REBNY’s New 421-a Tax Exemption Proposal

What does it do? What does it cost?

In January 2017, a revised 421-a Tax Exemption, rebranded and given the title “The Affordable New York Housing Program,” was introduced and inserted into the proposed FY18 New York State budget. This version of the 421-a Tax Exemption is essentially an expanded and amended version of the expired June 2015 exemption that passed the legislature but with modifications intended to resolve the conflict created from a trade union wage provision that was inserted at the last minute, which subsequently led to legal complications and suspension of the exemption.

 

What is REBNY’s Proposal?   

REBNY’s proposed 421-a program does not improve or change any of the affordable housing requirements passed by the legislature in June 2015.

The June 2015 version was citywide and would have been used by almost all new residential development projects over 6 units, allowing developers affordability Options A, B, C, and D. (See image below for an explanation of the Options) The new REBNY proposal adds Options E, F, and G and requires developers to pay higher construction wage levels. The new Options E, F, and G also extend the length of the tax exemption to an unprecedented 35-year, 100% exemption. This is a major increase in the lifetime value of the exemption to the developer and a major increase in the cost to the New York City taxpayer.

The proposed new REBNY program is citywide, and would be widely used across most neighborhoods. Development of new buildings with 300+ rental units will be required to participate in the program in some areas, and eligible to participate in all other areas of the City. The new program is exceptionally generous to the developer, and most will take advantage of this financially generous opportunity.

What is the Cost of the REBNY Proposal?

The NYC Independent Budget Office recently reported that the current “421-a remains the city’s largest tax expenditure at $1.4 billion this fiscal year.”

New York City’s Department of Housing Preservation and Development (HPD) has stated that the REBNY’s proposed changes will increase the overall cost of the program by yet another 22% on top of the billion-plus dollars we are already spending on the program every year.

And the increase in cost won’t just come after year two of the extended tax exemption; it will come immediately. Developers will find the enhanced benefit irresistible since it allows them to not pay taxes for an additional ten years. We will see a rush of developers applying for REBNY’s 421-a program and see developments from the last 1.5 years retroactively being granted 421-a, costing tax payers an estimated additional $820 million in the first ten years, according to HPD.

 

Is 421-a an Affordable Housing Program?

Although the current 421-a Tax Exemption includes some requirements for affordable housing, it cannot be accurately described as an affordable housing program. It was designed in the 1970s to incentivize the creation of private, market-rate, and luxury housing at a time when the City economy was stagnant. The affordability benefits were a minor, late add-on the program. In fact, a 2014 analysis of the annual cost by ANHD shows that the exemption cost the City over $1.1 billion in lost tax revenue and covered 152,402 residential units, but only 12,700 of those units were affordable. That’s $11 of affordable housing benefit taken for every $100 given away to subsidize luxury development. That’s not an affordable housing program.

 

Who Will Benefit from the REBNY Proposal?

No additional affordable units, or deeper level of affordability will be generated by the REBNY proposal, and the increase in the length of affordability is minor. The primary beneficiaries will be market-rate and luxury real estate developers, who will have their already substantial public subsidy increased by an estimated 22.5% in each new building. A fraction of the increased value that is given to the developer will be passed along in the form of higher wages for the short-term construction labor, but this will be a minor amount.

Additional beneficiaries of the REBNY proposal will be landlords and politicians who oppose rent stabilization laws. The New York State Assembly, which tends to support rent stabilization laws, has often used the threat of not renewing 421-a as leverage to prevent the weakening of rent stabilization laws by the New York State Senate, which tends to support the 421-a Exemption. Since this version of 421-a included a higher construction wage for the first time, the Assembly – which tends to also be pro-organized labor –will find it far more difficult to use the threat of not renewing 421-a as leverage.

 

How Do the New “Options” Work?

  • Option E is allowed within any of the Enhanced Affordability Areas, and requires 10% of the apartments be affordable at 40% of Area Median Income (AMI), 10% at 60% of AMI, and 5% at 120% AMI. The average hourly construction wage must be $60. Additional public subsidy is not allowed.
  • Option F is allowed within any of the Enhanced Affordability Areas, and requires 10% of the apartments be available at 60% of AMI, and 20% at 130% AMI. The average hourly construction wage must be $60 an hour. Additional public subsidy is allowed.
  • Option G is allowed only within the Brooklyn and Queens Enhanced Affordability Areas, and requires that 30% of the new housing is affordable at 130% of AMI. The average hourly construction wage must be $45 an hour. Additional public subsidy is not allowed.
  • Any building with 300+ rental units outside of the Enhanced Affordability Areas can opt-into Option G, which, given the extraordinary value of the 35-year 100% abatement to the developer, is the most likely outcome.

 

 

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

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.

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.

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.

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.

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.

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.

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.