The Cost of Regulations

By
12 min read

Zoning, Permitting, Plan Review and the Impact On Renters

“Mandates at all levels of government have expanded beyond basic safety and soundness considerations and morphed into complicated regimes, expensive code changes, energy efficiency mandates and/or restrictive land use policies. The compliance costs and fees associated with such policies are exacerbating the difficulty of  providing safe, decent and affordable rental housing.”

These comments were offered by Steven E. Lawson, chairman of The Lawson Companies, on behalf of the National Association of Home Builders at a September 6 hearing of the Housing and Insurance Subcommittee of the House of Representatives Financial Services Committee. While numerous studies have shown that no single element determines the supply of affordable housing, and land costs, labor and materials, developer experience, construction methods and quality and economies of scale are larger determinants, the costs of regulation nearly always factor into the equation, especially in the high-priced urban centers of the East Coast and California. However, the issue turns out to be more complicated and nuanced than a simple regulation vs. deregulation debate. And to a great extent, it hinges on the type of regulation under consideration.

Not surprisingly, California leads the nation in both regulatory challenges and governmental and professional introspection on how to deal with those challenges. As far back as 2003, the National Association of Realtors published a study, entitled “Housing Affordability in San Francisco” that declared, “Developers…find land use to be strictly controlled. In a state where environmental laws increasingly dominate the regulatory process, city building officials impose numerous exactions, growth phasing, and procedural impediments. Exhaustive and redundant plan reviews further increase cost. Housing affordability challenges in San Francisco intimidate buyers and renters, to be sure, but they likewise test the mettle of real estate developers otherwise eager to add new units to the supply and realize reasonable profit from their investments.” The challenges have only increased in the decade and a half since publication.

Geoffrey Brown, president and CEO of USA Properties Fund of Roseville, near the state capital in Sacramento, has certainly felt those challenges in his company’s mission to provide affordable housing. “There are a lot of ways regulation affects us,” he says, “starting with what we have to do with local and state regulations to get a project approved. Some jurisdictions create a very onerous process to try to prevent development in their areas. We’re working on legislation to address this.

“Building codes are constantly being updated, which adds a lot of cost and a lot of time in the predevelopment schedule. And because of Proposition 13 [limiting property tax rates] some localities aren’t as motivated for housing as they are for big box retail or hotels.”

Zoning and Land-Use
Among the most common types of housing regulation is zoning, and almost any developer who has to go through rezoning to build a project will say that the process adds considerable time (which translates into money) and legal expense to the effort.

American zoning began in the teens of the 20th century and was initially designed to keep residential housing from encroachment from burgeoning industrialism.

Landowners argued and brought lawsuits that these restrictive land-use regulations were so damaging to the value of their investments as to constitute violations of the 5th and 14th Amendments. Lower courts tended to side against these arguments and the issue was finally settled by the landmark 1926 Supreme Court decision in Village of Euclid [Ohio] v. Ambler Realty Co that upheld the validity of land use restrictions in city planning.

What happened next, though, was that the same type of regulations was often used to restrict the types of residences that could be built, in an effort to protect individual land and homeowners from the encroachment of multifamily apartment buildings. In modern practice, this has more effect on suburban areas, where lot size and density rules can restrict affordable housing development.

The next step, though, was the trend toward “sensible growth” policies. Given the governmental tendency to exert greater and greater control once given the legal authority, most urban zoning regulations became increasingly complex and specific. This has led to fewer locations a given type of use can be located and a daunting set of barriers developers must navigate. In exchange for rezoning, it can also shift various infrastructure costs from the municipality to the builder. In some areas, such as Virginia, these concessions are known as proffers and are an established and (grudgingly) accepted part of the zoning process.

A study by the National Bureau of Economic Research in Cambridge, MA determined that land-use regulations imposed “regulatory taxes” of at least ten percent in some of the most expensive cities, including New York, Los Angeles and Washington, DC, and makes it harder for affordable housing to keep up with increasing demand.

In a September 6, 2017, New York Times op-ed, economics professors Chang-Tai Hsieh and Enrico Moretti note that Silicon Valley, “has some of the most productive labor in the nation, and some of the highest-paying jobs, but remarkably low density because of land-use regulations. Surface parking lots, one-story buildings and underutilized plots of land are still remarkably common because of increasingly draconian zoning restrictions.”

Further, there are indirect costs of regulation. A recent study cited by the Mercatus Center of George Mason University found that, “Over the past 30 years, land-use regulations in high-productivity U.S. cities have caused above-average growth in housing prices, which in turn have slowed the mid-20th century trend toward greater wage equality.”

A new Democrat Housing Coalition Task Force, convened in March 2017, agreed that overzealous regulation was driving up the cost of affordable housing and therefore leading to an increase in homelessness.

Permitting
The permitting process is so ubiquitous as to be considered a cost of doing business. However, the ease or complexity of the local regulation, as well as the efficiency or inefficiency of the government bureaucracy itself, can have a profound effect on the cost of affordable construction. Also, permitting fees vary widely in various jurisdictions.

A 2016 study, “Addressing the Housing Affordability Crisis,” sponsored by the San Diego Housing Commission, identified 11 “Action Opportunities” to help address the crisis. Two of those are “Shorten Entitlement Process” and “Approve Community Plans with Master EIRs [environmental impact reports].” If we include other related items, such as reducing parking and commercial space requirements, supporting state legislation to streamline the Environmental Quality Act for infill projects, and aligning state housing agency oversight processes and requirements, more than half of the Action Opportunities relate directly to regulation.

Design and Plan Review
The 2014 California Affordable Housing Cost Study, released jointly by the state’s Department of Housing and Community Development, Housing Finance Agency and the Tax Credit Allocation and Dept. Limit Allocation Committees, found that a full third of the development projects studied were subject to local design review regulations, and that requirement added at least five percent to total costs and made the projects an average of seven percent more expensive to develop.

The same study noted that local community opposition to a project—NIMBY or for whatever reason—can add to costs through considerable delay. When that opposition is supported by local regulations that mandate public meetings, hearings and community review, that has to be considered an additional regulatory cost. The report states, “Our analysis indicates that projects with four or more community meetings were, on average, about five percent more expensive to complete relative to projects with fewer than four meetings.”

Interestingly, though California has the strictest environmental regulations in the nation, “When controlling for other factors that influenced cost, the level of CEQA [California Environmental Quality Act] review was not associated with higher project costs.”

“What [officials] require from a design and review perspective isn’t always plan or policy-based,” Brown notes, “such as reducing density on one part of the project to placate neighbors.”

Which leads directly to the next issue:

Politics
“I wish that regulation wasn’t such a function of politics,” states Allison Kunis, executive vice president of New York’s Millennia Housing Development, Ltd. “Politicians are faced with the question of ‘Who do we benefit and make happy?’ I’ve been in front of city councils and local boards all over, and we often come away with two conflicting messages: ‘We can’t get more affordable housing fast enough!’ and ‘If you build it, they will come, and we don’t want them to come!’ We had a problem with one community in New York state. They were making a concerted effort only to attract higher-income residents.”

“Things are as NIMBY as ever in many places,” adds Timothy “Tim” Henkel, principal and senior vice president of Penrose Developers in Philadelphia. “There is a lot of pressure to put affordable housing where it isn’t popular, and individual locales are inclined to not want it. It’s not the regulations themselves so much as the public policy directives that come with them and can be burdensome. So, our job is getting harder in terms of the time and money we have to put in. And that needs to be part of the ongoing conversation.”

Kenan Bigby, managing director of Trinity Financial, Inc. of Boston, has no problem with zoning or permitting regulation or oversight, as long as it is clear, coordinated and consistent. “I’ve found the most positively impactful type of legislations are those in which you can go into a project knowing what the expectations are. There should be good coordination amongst the various regulators and oversight boards so you’re not going through different review processes with differing criteria. You don’t want a situation where you think you’ve got a solution and then you go to the next review meeting and there’s a surprise. We all want a clear path to the finish line.”

“You can’t just fall down when you’re punched,” Kunis stresses. “It’s like cooking: Figure it out with the ingredients you have. Get creative. Of course, sometimes, the politics and regulations are so overwhelming that the project doesn’t get done.”

On the Other Hand . . .
If we’re going to look at the total context of regulatory effects on affordable housing, we have to include those regulations that support or encourage the affordable residential stock. For example, some municipalities exempt low- and moderate-income housing units from growth management and density control limits.

“Regulation, for the most part, is there for a reason,” Kunis says. “It keeps developers from usurping from the beneficiaries of affordable housing, the residents. But they must have incentives.”

Henkel agrees. “On the big regulations, we need to make sure our industry is protecting itself. If there are bad actors, they can do things wrong. Let’s make sure we protect our integrity.”

“Certain HUD regulations are great. HUD has gotten better and better by the year, more developer-friendly. Every development has a unique set of facts and HUD’s approach is to evaluate on a case-by-case basis.”

Highly controversial because of its apparent or perceived arbitrariness, rent control is one of the oldest regulatory devices for assuring a supply of affordable housing, dating back to World War I. Today, it is much more common in Europe than the United States, where only four states —California, New York, New Jersey and Maryland—and the District of Columbia have rent control as part of its regulatory code. Within those states, it is very much a local issue. San Francisco has among the most pervasive rent control measures in the nation, affecting an estimated 60 percent of renters. In spite of this, it has one of the most acute affordable housing shortages. Voters in Santa Rosa, Freemont and Palo Alto voted last year to repeal their rent control ordinances.

Proposition 10, the local rent control ordinance, is on the state ballot in November. “If that passes, cities will be able to impose rent control below current HUD median income standards,” Geoff Brown says. “The way to get where we need to be isn’t rent control. It’s to streamline and relax regulation constraints frustrating the supply of affordable housing.”

Nine other states permit rent control, but have no municipalities currently enforcing it.

Zoning can work as either a detriment or a benefit to affordable housing. For example, in 2016 New York City Mayor Bill De Blasio introduced mandatory-inclusionary zoning requiring 30 percent of all new construction units to be affordable. The tradeoff incentive is higher density than city regulations would normally allow.

“Some towns use regulations as positive,” Bigby notes. “They’re creative about using regulatory controls, such as density bonuses for meeting affordability goals.”

California has recently eased regulation on accessory dwelling units (ADU), the so-called “granny flats.”

And writing in the May 20, 2018, New York Times, Metro reporter Kim Barker detailed how affordable housing is being lost in New York City because of a “broken system” in which favorable housing regulations are not being enforced.

The Bottom Line
It is difficult to quantify the actual direct and indirect costs of regulation because situations, policies and market conditions, as well as definitions of regulation, vary so widely. Where does increased homelessness fit into the equation? But it is clear these cost factors add a considerable burden. A joint study this year by the National Association of Homebuilders and the National Multifamily Housing Council asserts, “Regulation imposed by all levels of government accounts for an average of 32.1 percent of multifamily development costs.”

This is a far cry from the five to seven percent cited in the California study, and may represent one extreme of the data analysis. And no one is rationally calling for an end of all federal, state and local regulation. What is apparent, though, is that the less restrictive, costly and time-consuming regulation can be made, the more new affordable housing will come on line. As Vanessa Brown Calder stated in a 2017 policy analysis for the Cato Institute, “Reforming local regulation is both inexpensive and addresses the housing affordability problem directly.”

One thing is clear from the conclusion of the report of the House subcommittee cited at the beginning: “When regulatory costs become too expensive, it can hinder development, reduce housing supply and further exasperate housing affordability problems.”

Story Contacts:
Kenan Bigby, [email protected]
Geoffrey Brown, [email protected]
Timothy Henkel, [email protected]
Allison Kunis, [email protected]