Former City Councilor and long time affordable housing advocate Ted Hess-Mahan posted this on the Newton Civic Action Forum. We’ve re-posted it here with his blessing.
I realize this is probably a lost cause, but I thought I would briefly explain the economics of creating affordable housing, and why it is so hard to build more of it.
In Newton, it costs, on average, over $500,000 to create each unit of affordable housing. Using HUD income and price limits, to be affordable to a family of four earning up to 80% of the area median income (AMI), the maximum price for a home is $288,700. For a family of four earning 50% AMI, the maximum price is $159,500. So, on average, the developer loses between $211,300 and $340,500 per affordable unit. The only way that a developer can make up for that is to create market rate units that are at least $212,000 and $341,000 above the cost of production. Assuming that the market rate units cost the same as affordable units to construct (which is not necessarily the case, but for the sake of argument let’s say it is), the price has to be at least $712,000 and $841,000 just to break even.
If you have ever been involved in creating affordable housing (which I am going to assume most of the people on this forum have never done), you would know this. The only way you get 100% affordable projects, like the West Newton Armory, is to reduce the land acquisition costs to nominal (e.g., $1) and to heavily subsidize the affordable units with public funding. Economically, there is no other way. If the city were acquiring the armory at fair market value, it would increase the cost of the project by about $5-6 million, which would have to be offset by public funding to make it 100% affordable. If there is no public funding available, then you cannot have a 100% affordable project, and you have to subsidize the affordable units with market rate units–just to break even.
Please think about that the next time you expound on how the city should require many more affordable units out of every project.
The key question is the above assumptions is: what is the implied ROI for the developer? The reality is that the developers that have led the most recent projects- Washington Place and Northland are .01%’ers that don’t deserve the continued profits implied from these numbers.
Have you seen the 10 million dollar house on the Pacific Ocean for the developer that owns the Northland project? Why are people ok with being complicit in enabling that obscene wealth? City has gotten a raw deal in everyone one of those deals, and the developers’ wealth is proof. Those guys are vultures preying on well-intended people like THM.
Those numbers add up to me, I am currently managing a new house build for my mom in Northampton. 1200sqft groundfloor+900sqft upstairs unit. ~900k build costs all-in, or about 530k for the upstairs smaller unit. This house is a bit more high end in terms of materials, and cost was a bit higher due to the nature of the narrow in-fill site (excavation & foundation were ~70k) but the market is a bit cheaper out west so that balances. Material costs have driven the project up, but it is mostly labor that is driving the full cost. My PM work I am providing for free, some free install work I am doing (wood floors, low voltage, finish work) to the tune of ~100k if fully paid for my time. Our financing costs are very low at .75% and only cover about 400k of the project.
We are not building and selling, if we were to do so, add another idk 15% in for profit?
The options for the private market to create these units on their own are limited. I personally think housing authorities need to be empowered to purchase properties and expand, but again they have to pay fair market value. I can bet you folks would be screaming bloody murder if properties were taken for housing without fair compensation (even eminent domain has to pay fair maket). This of course ignores the federal restrictions on them expanding in any case (not sure exactly but I believe there is some federal limit that was put in place maybe in the 90’s?).
Very liberal ADU laws with some monetary push from the city, maybe in terms of plans, 0 cost permitting, property tax incentives, builder contact/pre-approved contracts info etc. could make a difference in overall housing numbers. Allowing 2-3+ multi-family everywhere with similar notes to above, especially with commercial/office mix could make an impact…as each additional unit allows the fixed costs to be spread out better. Removal of all parking requirements and in fact put a max to the amount of parking required (remember its 100k for an underground space, 20k+ for an at-grade space) could really help.
But while these help, you need to reduce labor costs for construction. Unless we want to use below fair wage labor (which tbh was how most of the housing stock was built at the turn of the century, cheap immigrant labor) the only way is heavy subsidy and the capital to publicly subsidize the amount of affordable units we need is just not there…so we are left with the market-based solution where “fair market” units subsidize the affordable ones.
Wow,
$500k to build an upstairs units?! Did you ever look into prefab?
We’ve clealy been discussing the wrong crisis. This is a construction costs (and materials) crisis, its insane. It creates a hard floor on the price of any liveable home.
Only cheaper prefab homes could possibly resolve this. Hopefully a prefab 700sqft ADU unit can come down to 50k and foundation, plumbing permits another 25k?
Yes so let’s let developers build build build and the increase of supply will drive down the price to affordable!
So simple!
@Rick Frank, I thought of this as well. We can get a tiny number of affordable units via the Armory path. Or we can create a moderate number via private development, which has the great advantage of allowing in more folks who have very good jobs or have managed to save money for retirement. Nothing we do will make Newton inexpensive, especially for single-family houses. Even a strict no-tear-down policy will not stop richer folks from outbidding the locals for small houses.
@Alec, you are sweet to be concerned about vultures preying on well-intended folks like me. Fortunately for me, this is not my first rodeo.
Chapter 40B limits the Return on Total Costs (ROTC) that developers are entitled to. For rental projects, a “reasonable return” is between 10% of the total costs and an upper limit determined by the Subsidizing Agency based on the developer’s equity in the project and program limitations on a reasonable developer’s fee. For ownership projects, a reasonable return is between 15% and 20% of the total costs. Developer profits on residential development vary by region, but for a smaller project in the Northeast, a 15-20% profit is not unreasonable. For larger projects, 20-25% is considered reasonable. So these profit limits are more or less in line with other types of development. Profit margins may vary depending on local circumstances.
@Bugek, the construction costs are just a slice of what it costs to create affordable housing. Prefab homes may reduce construction costs, but the biggest nut in Newton is the land acquisition cost. The assessors department has calculated the median assessed values for different types of properties as follows:
Single Family $1,055,600
Two-Family $869,100
Three-Family $962,300
Condominium $635,300
Apartments (4+ Units) $1,441,600
Assessed values are based on sale prices that are at least a year old, so the current fair market value is generally higher. For example, the median sale price for a single family in 2020 was $1.26 million. So add $50,000 for a prefab home to $1.26M for the land and the total development costs are still higher than what it costs to subsidize affordable units, even if you put 3 prefab homes on a single family lot.
Moreover, in addition to land acquisition costs and construction costs, there are also soft costs such as permitting, legal fees, design fees, etc. When a permit is appealed, the legal fees can make up a considerable portion of the total costs.
The City of Newton tried to do an affordable housing project on land it owns at Crescent Street. In the end, all of the procurement requirements and other restrictions on a municipality doing its own development and construction pushed the price way up above $500,000 per unit, making it uneconomic. The West Newton Armory which the city can purchase for $1 from the state in exchange for creating 100% affordable units, will be leased at nominal cost to a developer that will pursue a Chapter 40B comprehensive permit to create about 45 affordable units. Given the profit limitations on 40Bs, the developer will have every incentive to reduce its construction and soft costs to the bare minimum required to construct quality housing.
What I am presenting here has been significantly simplified to make it (I hope) easier to understand. I am by no means an expert on creating affordable housing, as there are many people in Newton who know far more about it than I do, including both nonprofit and for-profit developers.
“The only way you get 100% affordable projects…is to reduce the land acquisition costs to nominal (e.g., $1) and to heavily subsidize the affordable units with public funding.”
Ted, the Newton Centre triangle parking lot is currently assessed at $1.5M, whereas if it were assessed the same on a land area basis as business parcels across the street on Langley Road, it would be $20M. And probably higher since the assessed value of the Langley properties includes the buildings themselves. Couldn’t the city leverage the large equity it owns for this most valuable land in Newton, to finance construction of a mixed use development, including a range of housing? The city could determine the mix of housing prices that allows it to break even on its investment. And the profit motive would be gone. I know the City doesn’t necessarily want to get directly into housing management, but that could be contracted.
(I’m guessing this parking lot generates about $150k/year in parking revenue, so that’s part of the equation, too)
Nathan, That is EXACTLY what needs to happen. No land acquisition costs. Personally I would keep it mostly housing and green space and that will revitalize the empty retail space that currently exists in Newton Centre
@Nathan, as I noted above, Newton tried redeveloping land it already owns as affordable housing, and the project turned out to be uneconomic. Other communities have a nonprofit developer associated with their housing authority, like the City of Lynn, that takes on the development of affordable housing. The Newton Housing Authority could do this, but I am unsure whether development is their forte. Even then, a nonprofit developer is still entitled to a developers fee, which can be sunk back into the organization and the life cycle maintenance, improvements, and repairs for the project. And with a non-profit, it is very likely that the city would have to contribute a substantial amount of public funding regardless of the level and percentage of affordability. I’m not saying it is impossible, just that there are costs, risks, and benefits attached no matter how you slice it. In the short and long run, though, I think a responsible developer-nonprofit or for-profit, is best qualified to develop housing for the best price, which if it is a private for-profit developer could be little or no cost to the city and additional tax revenue.
@Claire, while I would like to see the triangle developed into something, it would have to include parking for the public as well as residents, just like the Austin Street project. And, just like Austin Street, there would need to be a comprehensive parking management plan during construction to ensure that local businesses do not lose parking for all of their customers and staff. I know that the Newton Centre Task Force came up with some scenarios for redevelopment, but that businesses and residents in the area were not very receptive.
@THM
You cite the laws correctly, but who says those levels are appropriate? 15-20% profit??? Few businesses get that, you’d be hard pressed to show that those profit margins are fair. Double digit profit margins are considered highly profitable and attractive, not merely fair and reasonable.
The reality is that these developers ARE insanely wealthy for taking advantage of public policy. May not be your first rodeo, but suggest more deep analysis is merited- these profit margins are much higher than overall private sector averages.
@Ted “while I would like to see the triangle developed into something, it would have to include parking for the public as well as residents”
Not if some of that parking could be replaced with low rise garages on the Pleasant, Pelham and Cypress lots. And does it have to be a one to one replacement?
Either we are serious about transit-oriented development or we aren’t
I wanted to expand on a discussion started as part of Ted’s Facebook post on the same topic.
The competing forces of the need for shelter, the desire for affordability and the use of real estate for profit/investment are always at work when we discuss housing.
Without public funds, affordable housing is often left to for-profit developers as a condition of their special permits. The public wants affordable housing (both new units and existing stock), but existing owners – including long-time senior residents – have an expectation of cashing out at maximum when they sell. That in turn encourages teardowns of modest homes and replacement by larger, more expensive ones, if only for land value. Affordable rental properties can provide housing assistance to a series of residents, but offer them no equity. In contrast, affordable home or condo sales provide equity but limit affordability to one household for an unlimited duration of time.
One mechanism that helps separate these competing interests is the Limited Equity Housing Cooperative or LEHC. LEHCs can used to provide affordability and limited equity while removing profit from the housing balance. LEHCs are run as non-profit entities much like a condominium association. However, members own stakes and voting rights within the organization, not particular housing units. Units are assigned (and proportional membership cost determined) through an established process. This structure incidentally allows mobility within the LEHC as needs change.
When a person leaves an LEHC, they sell their stake in the community for an amount capped by the LEHC covenant. This amount is typically tied to inflation, not to housing prices. This quality positions the LEHC in between renting and buying. It detaches the cost of LEHC housing from market prices, preserving long-term affordability. Since LEHC members know exactly what they’re getting into when they join, they can make appropriate financial decisions. They know that their housing isn’t going to be their primary investment strategy and can plan accordingly.
In addition to providing an interesting financial model for housing, LEHCs are a source of community for members. Larger developments have a variety of shared member amenities. Surveys have shown that LEHCs have among the highest level of satisfaction among any type of housing.
You can read more about LEHCs here: https://www.localhousingsolutions.org/act/housing-policy-library/limited-equity-cooperatives-overview/limited-equity-cooperatives/
Could they work in Newton? Since Newton may not be in the position to fund significant affordable housing itself, it is typically dependent on private development to make it work.
So, the question is, is there any way for a for-profit development to fund the development of an LEHC as a condition of a special permit?
@Nathan, I had another think about it, and I came up with a few additional considerations.
Ordinarily, the City finances construction projects, i.e., schools, fire stations, etc., with bonds. It has been a while since I was a City Councilor, but I am not sure whether the City could even grant a lien on public property as security for the lender, and if so under what conditions. So I am not sure borrowing against the value of the property (as improved) is even a possibility. Public projects also have to comply with state and local procurement requirements for bidding, prevailing wage laws, etc., which can boost the cost substantially depending on the size of the project.
The other considerations are total costs and funding sources. The housing consultant for the West Newton Armory came up with a few scenarios to build around 45, 100% affordable units. The hard costs ranged from $19.5 to $20.5 million; soft costs for each scenario was calculated to be 7% of the hard costs; the developer fee plus developer overhead was between 7% and 8% of total costs, and land acquisition costs were $1. Total costs ranged from approximately $22 to $26 million.
Funding sources included between about $2.8 million and $4.2 million from Newton CPA, CDBG, and HOME funds; the state’s partial reimbursement of soft costs; state and federal low income housing tax credits (which are only available for units affordable at the 60% AMI level), and the rest from bank financing.
I’m not sure how many units could fit on the Newton Centre Triangle, but I am assuming the costs per units, i.e., in the neighborhood of $500,000 per unit, would be similar. The West Newton Armory JAPG and Planning Department specifically asked the housing consultant to come in at around that amount in their feasibility study.
@Alec, tell me what you think the average profit is for developers of large residential projects, as a percentage of the total cost of development. The level of risk for large developments compared to small ones or other types of business are huge. Even if a project gets a permit, which not all of them do, a developer can be left hanging out there for some pretty sizable financing if the housing market turns down or some other catastrophe happens.
@Claire, City government is not my job anymore, But I am fairly certain Newton Centre businesses will want adequate parking for their customers and staff. Just my hunch.
We should also acknowledge that this could be partially solved through far greater subsidies from the federal government. This isn’t the first time in US history that the federal government recognized that the working class couldn’t afford privately built housing. For decades, the federal government was in the business of building workforce housing, some heavily subsidized, some barely or not subsidized, just modest. But that was before the federal courts integrated federal housing projects. So politicians motivated by racism decided to cut the subsidies rather than build good homes for people of color.
The moral of the story? We could invest significant federal dollars into publicly built housing again and go a long way towards solving our affordable housing crisis. I hope everyone here who truly cares about housing will write to their federal officials and ask them to prioritize housing in the next budget.
However, what I hope we won’t do is use the lack of federal dollars as an excuse to do nothing. Because in the interim, real people are going without a stable home. Newton can be part of the solution, but doing so is a choice.
I do have to admit, I also had sticker shock at the cost of an affordable unit. And I’m a certified cost estimator!
But…
I would like to second the quality of the cost estimates for the Armory options. I’ve read through them (and even reported a confusing omission in a line item description) and they are completely in-line with what I’ve seen professionally. When you add in ALL the costs, it costs what it costs.
/personal statement
//does not reflect employer
///yes, I do read cost estimate reports for affordable housing for fun.
The affordable housing issue is too large to be solved by a city alone. It has to include federal subsidies and policies. it’s an eco-system problem. 30 years of stagnant wages. And, lack of pensions- the scam of the fee-hungry 401K- leading the average worker into using their home value as their only means of retirement.
Homes, in a perfect world – well my perfect world – should primarily be a place to live, not one’s primary investment piggy bank. The rush to get into the game caused people ( and banks ) to get into the sub prime mortgage thing, which caused a itty bitty problem back in 2006-7.
@Rick, which is why the city’s primary emphasis needs to be on affordable rental units.
@THM
You’re correct that large-scale development projects have profit margins in the 15-20% range– that doesn’t mean those are fair or outsized relative to other businesses.
The reality is that REITs have averaged a 13-15% annual return in the last 20 years, compared to 9% for the S&P 500. Development has traditionally been more profitable than other businesses, and there is no reason for that to be the case (risk-adjusted). These developers profit from regulatory arbitrage– frequently reading the tea leaves (and paying for those tea leaves with lobbying) more often correctly than not, enabling them to buy land at low cost, realizing gains through changes in zoning and permitting. No doubt some of them fail as you mention. But the returns over the last two decades speak for themselves– they are winning far more than they are losing– more than most other industries.
What happens in the private sector is one thing, but when government enables these outsized profits– at their own expense of not getting enough return for their municipalities– that’s where questions on profit fairness come into play. The Northland CEO literally does live in a $10 million cliffside mansion of the Pacific Ocean. There are billionaire developers throughout this nation. Korff is due to make tens of millions from his “vision” for Newton. We need advocates like yourself to both stand for affordable housing and do a better job getting far more concessions for our cities. Developers may not like this outcome, will have temper tantrums about how it threatens the viability of new development, but private capital would have no issues with returns of 8-10%, even with the risks you describe. They’re far outperforming the market right now, and have been for decades.
It’s incredulous the amount of time we all spend debating how affordable housing can be done; by trying to cram an square peg (affordable housing) into a round hole (private development). Per Ted’s post, not even a non-profit private developer cannot continue to build at a deficit.
The answer is the Feds. FDR had his New Deal. AOC has her Green New Deal and both Trump and Biden have/will pour trillions into Covid relief.
Sacrificing density to developers for the few scraps of (not really) affordable units will not make a dent on housing scarcity at current prices. Nor will green lighting density in rubber-stamping zoning reforms.
No, only thru public financing can we achieve the desired affordable housing. Tax the ultra rich and the corporations that are driving up the demand for housing and housing costs. Round peg; round hole…done. We just need the political conviction to do this and prioritization.
As someone said above, this is not just a Newton thing, it’s a National crisis. Only in Newton do we have the hubris to believe we can solve square peg/round hole by waving a progressive magic wand.
A couple of thoughts.
1. We should stop developer bashing. I work primarily for a builder/developer with 140 employees.
The dream maybe to make loads money but the reality and focus is on how to maintain a steady cash flow in order to make payroll, and how to manage the profitability of projects.
It’s not uncommon for a large project of lux condos to end up in the red.
Not really fair to hold up one guy living in a luxury home as an example of developer greed.
You don’t know where his money came from, and if it did come from development the amount of risk and sacrifice incurrd is deserving of compensation.
All it takes is one development gone bad to ruin a developer’s life.
As in everything, there are good citizens and bad. Good developers deserve credit for creating jobs, taking large risks, nand being good citizens.
My second point is regarding affordable housing. It seems like we’re jumping through hoops in order to produce housing that isn’t really affordable.
What does it take to develop housing for a teacher’s aide or an entry level law enforcement officer or a restaurant worker?
Instead of trying to squeeze units out of developments, why are we not just simply developing housing for people who needed the most … Who we need the most?
@Ted well, that’s one opinion. I’m not sure that makes economic sense – for the city to supply “workforce housing” for Boston – without getting some real $$$ from Boston for that.
Perhaps the biotech companies need to pay more taxes to help with the infrastructure and schools etc that will take on these extra apartments.
@Alec: So, the metric that I did not go into was the low end of the range for return on total costs under Chapter 40B. Municipalities cannot impose conditions on a comprehensive permit that makes the affordable housing project “uneconomic,” which is defined as <7% of total costs. And, indeed, the feasibility study for the West Newton Armory was based on a 7% profit for the developer. When I was on the Massachusetts Housing Appeals Committee, we saw a number of 40B developments that barely made a profit if at all because of appeals, delays, increases in construction costs, housing market downturns, etc. But thank you for confirming that the permissible ROTC is in line with private developers' profits for large residential developments. Please know that the 40B regulations were intended to permit that level of profit without requiring it.
@Mike, kudos to you for not bashing developers. "Workforce housing" for public employees and middle class households that cannot find housing they can afford is part of Newton's inclusionary zoning ordinance. But I do not disagree that it would be good public policy to publicly fund workforce housing rather than give tax cuts to the <1%.
@Rick, I'm not sure why Boston should have to pay for Newton's workforce housing. Boston already maintains roads, infrastructure, and everything else that makes it possible for Newtonians to get to their jobs in Boston.
Mike,
I believe most of the frustration is directed towards the city. The city doesn’t have any obligation to ‘backstop’ any developer.
Ie provide specifial permits to developers to increase number if units/liveable space if Newton residents are going to be left holding the bag (crowded schools, traffic, higher property taxes, decrease response in services)
@Mike
The REIT vs S&P500 makes clear that real estate development is much more profitable as an industry than the rest of our economy. That’s industry level data. Northland guy just makes it tangible and real, but the sector is much more profitable. That may or may not be your personal experience.
@Ted
Sigh for missing the larger point.
Alec- I am not sure I understand your point. Do you think we should legislate how much profit a developer, or any business person, should make? Do you buy from Jeff Bezos’ Amazon? Now there’s a person who makes a profit and makes the Northland developer look like a pauper. The bottom line is developers build and people buy. The concept of supply and demand.
@Ted “Boston already maintains roads, infrastructure, and everything else that makes it possible for Newtonians to get to their jobs in Boston.”
With the exception maybe of the pike, which is pretty well maintained, I’d say you were joking right? The commuter rail stops? That’s a joke.
Boston is getting tax money from all the building of new workspaces in Kendall square, and other bio tech places. We shouldn’t have to subsidize our schools etc. so Boston can attract large corporations to locate in Boston. Nope. I don’t want to.
@Bruce C
The point is that there is a difference between wholly private sector business dealings and profit, and real estate development when it requires changes to zoning and regulations. When developers buy land, win changes to zoning which increase the value of that land, the government is the entity that creates that specific value it the developer, and should benefit from more of the upside. The fact that developers are more profitable than other industries makes clear that too often government is not extracting enough value in these negotiations. Regulatory arbitrage should not be one of the most profitable activities in our economy. Unfortunately it is.