Building anything in the Bay Area is hard. Expensive land, the months (or years) required to navigate a complex public approvals process, and the rising costs of construction are among the many challenges that can make even the most tenacious developer’s hair turn grey. Yet, building middle-income or workforce housing - the housing that is accessible to teachers, nurses, police officers and other essential workers - had proven especially difficult. That’s why this level of housing affordability has been dubbed the “missing middle,” reflecting the scarcity of housing options available to those making a ‘middle’ income.
Why is middle-income housing so challenging to build and finance? To begin, consider all the costs that go into a development project:
Estimated Development Costs for a $900K unit in SF
Source: Seifel Consulting
There is limited wiggle room to bring down these costs: construction costs (labor and materials) are relatively fixed (though the uptake of modular offers potential savings); investors have expectations around returns, limiting the opportunity to reduce developer profit; and while there is some promising proposed legislation designed to reduce pre-development costs (see Governor Brown’s “by right” zoning proposal”), the public planning process, which contributes to the “soft costs” in the pie chart above, is notoriously unpredictable in both time and cost.
Making it pencil ✏️
Inevitably, the only way to make a project ‘pencil’ is to charge a lot of money for your units (“market rate” units are simply the rent level needed to cover the cost of new construction), significantly increase the units per building (30+ floor condo buildings), or get something for free, such as your land.
Traditionally, government subsidies are available for “affordable” projects, which are defined as housing that meets the threshold for 60% of the Area Median Income (AMI) and below.* These subsidies, which can take the form of a tax credit or free land, allow developers to build and finance affordable financing. In California, developers of affordable housing tend to be non-profit entities, thereby alleviating the requirement around financial profit.
Middle-income housing, which is defined by the AMI range of 80% - 120% (or up to 150% in San Francisco) has historically not been eligible for state and federal tax credit capital support. The conundrum lies in the reality that units priced at 80% -120% AMI cannot be built economically in San Francisco. The average unit that can be built economically in San Francisco costs $900,000 while the unit a family at 120% AMI can afford is only $700,000.
Bridging the financing gap 🌉
How do we overcome this paralysis? In the absence of radical changes in how we plan, approve, and build housing, the only way to bring down the cost of new housing is by allowing developers to spread some of their costs over more units (ie. taller, denser buildings). Government subsidies cannot be used to finance middle-income housing; the scope of the problem is too large.
In the interim, Landed provides a useful tool for families finding housing just out of reach. In the same way developers can make some projects pencil when they don’t have to buy the land, homeowners can access more home options when they get a partner to invest in some of the land on which it sits (see our post on Is Landed a Community Land Trust?).
Cracking the nut of middle-income housing has not and will not be easy. But we’re heartened by the attention and depth of dialogue emerging around these issues at SFHAC, SPUR, ULI, and other organizations and look forward to hosting our own conversation with TechEquity Collaborative on August 2nd, 2017. We hope you can join us!
*Area Median Income (AMI) is the household income for the median (middle) household in a region. Each year, the Department of Housing and Urban Development (HUD) calculates the median income for every metropolitan region in the country. In San Francisco, for example, a single-person household making 100% of the AMI makes a maximum of $80,700 (whereas a 4-person household makes up to $115,300). HUD uses these numbers to establish levels of affordability for rental housing. This article provides a helpful overview of AMI.