A Massive Expansion in Public Rental Homes Could Literally Pay for Itself
British Columbia could massively increase public investment in below-market rental housing. (Nathan Shurr / Unsplash)
Public investment in below-market rental housing could leverage private-sector development to secure housing for all. This idea is being floated to address British Columbia’s housing crisis — and should be taken up everywhere.
In the face of a mounting housing crisis, British Columbia should massively increase public investment in below-market rental housing. This up-front investment could literally pay for itself, with no increase to taxpayer-supported debt.
While this might sound too good to be true, it simply follows from the basic logic of rental housing development. When building new rental housing, the up-front costs of construction are offset by the stream of rental income the project generates over time. This is, of course, the premise on which private-sector rental housing developers base their business models. For them, building new housing is not a cost but rather a way to generate substantial profits.
Similarly, when the government — or the nonprofit sector — builds rental housing, the investment can also be self-sustaining. But there’s a key difference: instead of generating profits, housing projects can operate on a break-even basis, with rents set at below-market rates. Marc Lee, from the Canadian Centre for Policy Alternatives, did the math on break-even rental housing development in a recent report on affordable housing options in the Metro Vancouver market. The following is an analysis of what a similarly ambitious, publicly led build-out of self-sustaining rental housing would mean for government finances and debt.
When the government or the nonprofit sector builds rental housing, the investment can be self-sustaining. If we want to address the chronic housing shortage, rapidly build as many affordable homes as possible, and expand the stock of valuable public land assets, this option is at our fingertips.
To be clear, this approach of developing rental housing isn’t a complete solution to the housing crisis. For example, given how quickly land and construction costs have escalated in recent years, self-financing housing may still require rents that are higher than many people can afford, even if they are below-market. Further measures are needed to achieve deeper levels of affordability. The housing crisis is a multiheaded beast, and tackling it requires policy action in a range of areas, including property tax reform and ending the exclusionary low-density zoning that dominates our cities.
How Self-Financing Housing Works
Let’s consider the basic model for private rental development a little more closely. Different projects unfold in different ways, but the key sets of costs are the same from the perspective of the developer.
First, land needs to be acquired on which municipal zoning policy allows multifamily housing like rental apartments to be built (or on which the developer believes a rezoning for this purpose is very likely to be granted). Acquiring the land is often the most challenging and expensive of these steps, because exclusionary zoning policies often prohibit multifamily apartments, which drives up land prices for these scarce sites.
Once land is acquired, the developer must contract out the design and construction of the project. There are the ongoing operating and maintenance costs for the building and its amenities. A developer may sell off a project after completion to a long-term investor such as a pension fund, but for simplicity we’ll assume here that the developer holds on to the property as an owner-operator. Lastly, there is the cost of interest owed on the capital borrowed to finance the up-front investments.
A private-sector rental developer will only undertake a project if the anticipated income from rents will cover all these costs — land, construction, operating, and financing — plus a healthy profit margin. Public or nonprofit housing projects can also cover their up-front costs with ongoing rental income. However, eliminating the developer profit margin can achieve lower break-even (or self-financing) rents. In addition, the government can borrow at cheaper interest rates than the private sector and can amortize those costs over a longer period of time (fifty or more years, if desired), both of which can further reduce break-even rents.
In short, not unlike a private developer, the government can borrow money to develop new housing and use the rental income generated to fully cover the cost of servicing that debt over time, with no effect on the cash flow or tax revenue needs of the public sector overall.
Public or nonprofit housing projects can cover their up-front costs with ongoing rental income. There’s no real dispute about the basic logic of this. In fact, a recent report prepared by Coriolis Consulting for Metro Vancouver notes that government investment could be used to create “all the rental housing needed in this region” on a cost-recovery basis “depending on how rents are set.” The report points to jurisdictions like Vienna that have built public and nonprofit housing on a massive scale. But like much of the housing policy discussion, the report assumes there isn’t the political will to go this route, noting that the idea would run up against the “willingness of government to pay” up front.
Housing developer profits are often estimated to be about 15 percent of development costs. In the case of public development, the benefit of lower interest costs for government will further lower rental costs. We can reasonably assume rents that could be set at least 15 to 20 percent below market rates. As discussed below, there are other ways rents could be reduced to deeper levels of affordability. Marc Lee’s analysis found that a new wood-frame rental building with moderate land costs could achieve break-even rents of $1520 for a one-bedroom home. These homes would also be protected from the whims of rising market prices — a key feature of housing markets facing shortage problems.
Government Finances
What pressure would this type of massive, self-financing housing investment put on government finances and taxes? The short answer is very little. Investing in public housing need not affect the annual provincial budget balance or redirect tax dollars from other public-policy priorities.