Why builders can’t build affordable entry-level housing and how to fix it. By Ben Caballero
America’s No. 1 real estate agent proposes three innovative solutions to the nation’s shortage of affordable housing. They would lower costs while creating future long-term tax income for municipalities, would not increase the tax burden on citizens, and would not require state or Federal subsidies.
America faces two interrelated housing crises simultaneously: an affordability crisis and an inventory crisis. Home builders are often in the crosshairs of housing advocates, who blame them for causing both.
Those accusations are misplaced and unfounded.
Builders can’t build affordable entry-level housing because governmental entities have used housing production as an income-producing opportunity. In effect, these fees, plus the increased costs to builders from approval delays, have created an invisible tax on American homeownership. This is the root of our inventory crisis.
The housing inventory crisis
You can’t discuss the affordable housing crisis without talking about the housing shortage. In May 2021, after watching new housing inventory creation plummet for a decade, I sounded the alarm with an opinion piece for the real estate trade outlet, Inman News, ‘How long will the housing shortage last? Years – here’s why.’
The US Census numbers tell the tale: between 1959 and 2006, builders completed 52,941,000 homes, an average of 1,102,938 homes per year. However, between 2007 and 2020, builders started an average of only 708,186 homes per year, creating an annual shortfall of 394,752 homes. Based on this historical average, a housing inventory shortage of 5,526,525 homes was created.
The good news is that from 2021 to 2023, 4.56 million home starts created an average of 1.52 million homes per year.
The bad news is that with a 5.5 million housing inventory shortfall, even if builders could maintain an average of about 1.5 million homes a year, it would take them nearly 14 years to erase our housing deficit.
If US builders could dramatically increase building starts and average two million homes a year, we would achieve a balanced housing market and erase the inventory deficit in about six years. To solve the nation’s inventory problem, home builders must be recognized as the solution to our housing shortage rather than as a problem or an income opportunity.
The housing affordability crisis
America is facing what many housing leaders are calling ‘the worst housing affordability crisis ever.’ The reason is that the economy cannot increase wages enough for consumers to overcome record-high housing prices and mortgage rates hovering at seven percent.
How did we get into this mess? Much of it is self-inflicted by our state and local governments, which have increased costs and punished the home building industry with impact fees, delays, and energy mandates that have, depending on the entity, added nearly 24 percent to the cost of a new home, according to a study by the National Association of Home Builders.
Regulations during project development added 10.5 percent to the final house price, and the other 13.3 percent was due to regulation during home construction.
In dollar terms, the impact of these fees pushes the price of a new home from $371,260 to $487,200 — the average new price in July 2024, according to the US Census Bureau.
A 2022 study by the Austin Board of Realtors and the Home Builders Association of Greater Austin identified separate charges to builders for comprehensive plan fees, zoning change fees, parkland dedication fees, site plan application fees, building permits, tap fees, and stormwater fees. That’s in addition to general development impact fees, which are often among the highest assessed and are required to fund public infrastructure like roads, sidewalks, and drainage systems.
States and municipalities could greatly help themselves if they were more interested in the long-term benefits that would accrue to themselves and their citizens by easing the financial burden imposed on developers and builders. Dramatically reducing or eliminating these fees would significantly decrease the cost of new homes, especially entry-level homes.
The wrong view
Today, there is a double standard: Developers spend a lot of money installing streets, utilities, and recreational facilities. In addition, some cities require developers to donate land for schools, parks and open spaces.
Moreover, builders create high-valued assets for cities that provide ongoing new revenue to the city every year through taxes.
Although municipalities get a windfall of revenue, they continue to charge home builders access fees to tie into the utilities that the cities or counties spent little or nothing to acquire.
Municipalities should not treat land development and home building as an income opportunity. Instead, they should view home builders as providers of future tax revenue.
Adding to the cost of housing
Municipalities charge home builders for permits and other fees that add to the price of the home. Many cities also take weeks or months to issue housing permits, forcing builders to pay carrying costs on unproductive building sites. Again, this adds to the price of every home.
To add insult to injury, many municipalities treat builders poorly, sometimes with outright hostility. Such behaviors can indirectly increase building costs as adversarial relationships give builders little incentive to find ways to help these municipalities.
Builders would love to build affordable entry-level homes but cannot, due to costs inflated by fees, delays, and other obstacles imposed by local governments. As a result, builders must build mid-level to luxury-level homes to remain financially viable.
Three ways to increase affordable housing
What can municipalities do to increase the affordability of entry-level housing as well as housing costs in general?
Here are three innovative solutions – action steps – that can be taken to solve the problem:
1: MUNICIPALITIES
Create a development fund, financed by issuing development bonds secured by future property tax revenue
Audit all laws, rules, regulations, and processes to eliminate unnecessary delays and anything that inflicts unnecessary or redundant costs on land development and home building
Adopt a cooperative attitude that promotes a positive working partnership between the government and entities working to deliver a valuable and much-needed taxable (revenue-generating) asset to their citizens.
2: PROPERTY TAX EXEMPTION
Provide new tax exemption: To increase home affordability, state, city, school and other property taxing entities could issue tax exemptions for a specified number of years, especially for first-time home buyers. For example, a five-year tax exemption would start with an initial reduction of 30 percent for years one, two, and three, then decrease to 20 percent for year four, a ten percent decrease for year five, and a full tax assessment beginning in year six. This would provide remarkable relief for new homeowners and incentivize builders to build more affordable housing in the same way electric car manufacturers have been able to make more cars because of state and federal tax incentives for buyers. While electric vehicle incentives increased our tax burden with no long-term benefit, this would do the opposite.
3: A DIFFERENT INTEREST RATE REDUCTION
Give mortgage income a break: The mortgage payment typically is a homeowner’s largest expense. Reducing that expense makes homes more affordable
In addition to homeowners deducting mortgage interest from their taxable income, why not allow mortgage lenders to deduct interest income from their income? This could reduce mortgage interest by approximately two percent depending on the market interest rate.
This approach would be similar to how municipal bonds work. Interest earned on municipal bonds is generally exempt from federal income tax and sometimes state and local taxes. This tax exemption makes municipal bonds an attractive investment because investors keep more of their interest earnings.
If federal and state governments waived income taxes on mortgage income (as they do for municipal bonds), it could lower mortgage interest rates for home buyers by an estimated two percent and substantially increase the affordability of all homes, not just new homes.
Don’t punish: incentivize
Let’s face it: Our housing market is in a tough spot. We are wielding a double-edged sword that threatens the American Dream. We’ve got the tools to fix it if we’re willing to use them. Governmental agencies, land developers, and home builders need to start by rethinking their relationships and adopting a partnership that is a win-win-win for all parties.
We can turn this ship around but must first stop pointing fingers and build a better bridge toward affordable housing.
After all, owning a home isn’t just about putting roofs over a family’s heads; it’s about creating communities and allowing people to build generational wealth. The key is to create incentives, not punishments, for building affordable housing.
For a list of the sources used in this article, please contact the editor.
Ben Caballero has been America’s No. 1 ranked real estate agent since 2013. He is the only three-time Guinness World Records title holder and sold more than 7,000 homes last year. One of America’s leading new home sales experts for decades, he is an award-winning innovator and home-building trailblazer.