Why tax house building in a housing crisis?

Brendon Harre
Jun 6, 2018 · 13 min read

Adding fees and uncertainty to building projects is a disincentive to build.

This is a cost to the most vulnerable members of society in the form of higher rents and difficulty accessing places of importance like the workplace.

New Zealand should take the Occam’s Razor approach to fixing the housing crisis. The simplest solutions should be tried first, such as, reducing taxes and removing impediments on building decent housing.

This keep it simple approach to urbanism does raise some interesting points. Such as, if a city has a shortage of bread, no one thinks a good response is to tax bread production. So why does local government tax house production in the middle of a housing crisis? Why not reduce taxes and make it easier to build homes?

Local government development contributions and impact fees of various kinds are taxes on house building. Not only are they taxes, they are very inefficient taxes. They unnecessarily complicate the task of building better and more affordable urban environments.

Given that local government adds taxation expense to the cost of house building, this raises the question of ‘do they add other expenses too’? For instance, by poorly regulating land-use, land-banking, intensification etc so that the increasing cost of land (absolute or as a percentage of build costs) results in house prices or rents inflating faster than wages.

There is a myth in New Zealand that development contributions are assessed for each development. All the downstream costs for the community are assessed, weighed against the future benefits, including providing additional rate (property tax) paying dwellings and the resulting balance is then charged to the developer, as a development contribution.

I call bullshit on this process. There are too many unknowns to allocate costs and benefits down to individual cases. It is a pseudo-science.

Auckland Council for instance, has arbitrary categories for determining how much tax different types of houses are charged. It is highly unlikely these categories match the best use of scarce urban land supply. The economic impact of collecting taxes based on the type of house being built may have distorting effects like the infamous window tax of the past. Although restrictive planning rules are likely to have the greatest effect.

Development contributions are not an effective tax for local government. For instance their unpredictability over time means councils cannot borrow against them as a revenue stream to fund infrastructure. Surely a fatal flaw when their purpose is to help fund a cities infrastructure deficit.

Auckland city council economists have attempted to state that development contributions are unlikely to result in higher house prices (and therefore higher rents). I find their arguments unconvincing as they do not objectively compare development contributions to other taxation options. Also it is illogical to suggest that taxing the landowners who build, but not the landowners who don’t, has no effect on the supply of new housing.

Development contributions and impact fees are an regressive tax on renters. It generates a relatively small amount of revenue from approximately 1% of the housing stock which is being built, whilst allowing the prices and rents on the remaining 99% to rise. It allows landlords to raise rents because it adds tax and uncertainty to landlord’s competition -affordable house construction. This is the main reason New Zealand should unwind its inefficient system of development contributions.

LetsGoLA runs through the numbers to show that development contributions and impact fees is not a progressive policy option for California. LetsGoLA’s basic argument is that anything that raises the cost of building new houses, increases rent not just for new housing but also existing housing. California is reliant on impact fees because Proposition 13 prevents other more effective taxation choices being used to fund needed infrastructure. Local government in New Zealand also have few other taxation choices.

It seems unfair to me that house producers pay additional taxes, especially as shelter is a basic necessity of life. In New Zealand building a house costs hundreds of thousands of dollars in wages, profits, building materials and land purchases. A 15% tax is paid on those costs in the form of goods and services tax (GST). Note land sales only incur GST charges before it becomes residential land.

House builders make a significant contribution to the public purse. Why is it necessary to pay more than this?

A land value property tax system would be a better option than development contributions. It taxes the land, not the construction on the land. This is a practical reform that is used by some jurisdictions, Harrisburg in the US for example, turned around its distressed, crime ridden city by introducing land value taxation. In New Zealand at the local government level we call land value taxes unimproved value rates. There is some deep economic philosophy underlying this issue about taxing unproductive capital (rentiers) rather than productive labour or capital.

Henry George the 19th century political-economy theorist, famously advocated for land value tax, he is quoted as saying;

Like a flash it came over me that there was the reason of advancing poverty with advancing wealth. With the growth of population, land grows in value, and the men who work it must pay more for the privilege.

Regardless of the philosophical arguments -pretty much any tax would be better than taxing house building in the middle of a housing crisis.

Renters in New Zealand face a lot of difficulties. Comedian Robbie Nicol or White Man Behind a Desk makes a strong argument for New Zealand making policy changes, so that renting becomes really really good for millenials, who according to Robbie Nicol will never buy a house.

Robbie Nicol’s proposed solution is to incentivise density -the defining feature of towns and cities compared to countryside or wilderness areas.

In other words Robbie wants to incentivise the building of more houses in urban areas.

Media reports in June 2018 indicate New Zealand’s previous government minister in charge of building and construction believes the current government can not increase house building any faster than his government did. Also reported is the Auckland Council defending the compact city virtues of the 2016 Unitary Plan approach to housing supply.

There are elements of truth to Auckland Council’s position. Auckland does need to address the escalating road building costs of its current urban growth model.

I advocate for congestion charging, car parking metering and the pricing of various other scarce urban spaces is the best approach to allocating these resources in my Successful Cities Understand Spatial Economics paper.

If congestion taxes are not used to allocate scarce public spaces, the result will either be; costly blow-outs of transport budgets as ever bigger and more expensive road schemes are constructed through existing built up areas, or longer productivity sapping delays in the existing road network, which will affect regional income, business profits and employment.

Auckland Council’s compact city position also contains a whiff of belligerence. They are not open to other solutions for their escalating cost of urban expansion issue. This is a problem because belligerence prevents acknowledgement of strengths in other opposing viewpoints -such as the need for more affordable house construction by removing taxation and regulatory costs.

Belligerence can become contagious, leading to a gordian knot of opposing views which cannot be resolved. Read my paper Unravelling the strands of the urbanisation debate:To improve urban performance for further discussion of the gordian knot problem.

If the government wants to deliver for Robbie Nicol’s renting millenials, it will need to increase New Zealand’s house building rate, in a way that delivers affordable housing, so that rent inflation becomes slower than wage growth.

The importance of New Zealand building more houses that are more affordable goes to the heart of whether the public perceive the government as one of transformation or the modified status quo.

Anecdotal evidence indicates that building affordable housing is of huge public concern.

Empirical evidence confirms New Zealander’s believe affordable housing is the most important issue facing the country.

Housing and Urban Development Minister Phil Twyford has responded to these criticisms and public concern by explaining that KiwiBuild will deliver more affordable housing by four channels;

  1. Converting existing Crown land and purchasing additional land from the private market, which will be on-sold to development partners who commit to delivering KiwiBuild homes.
  2. Identifying and leveraging opportunities to deliver KiwiBuild homes through existing Government-led housing initiatives, such as those being undertaken by Housing New Zealand.
  3. Doing the groundwork to enable a new urban development authority (once established) to undertake major urban redevelopment projects in partnership with iwi, councils and the private sector.
  4. Purchasing or underwriting new affordable homes off the plans, to de-risk suitable developments led by the private sector and others, in exchange for accelerating the delivery of a greater number of homes at KiwiBuild price points.

Phil Twyford says the Government’s Kiwibuild ‘Buying off the Plans’ initiative attracted “overwhelming” interest, with “almost 100” proposals received from developers in response to the tender conducted by the Government, which closed the 8th of June.

My suggested policy changes to incentivise building more affordable houses, addresses the third option of an urban development authority working in partnership with local government, iwi and the private sector.

I believe this could be best incentivised by implementing the following policies;

  • In New Zealand’s towns and cities with high demand, create a network of urban growth corridors -using the Making Room for Urban Expansion concept. This network is both within the existing urban footprint and extends out into greenfield areas.
  • Within the urban growth corridors replace development contributions with a targeted rate on land values, by calculating a per sqm charge on land in private ownership that is within walking distance of a rapid transit network. Charge at least the equivalent amount of revenue that development contributions would have made as a land value targeted rate and take into account the following points for how much extra revenue the targeted rate needs to gather.
  • Build a congestion free rapid transit system in the growth corridors using the targeted rate, government grants and fare revenue to pay for it. These rapid transit networks can be public/private ‘special purpose vehicles’, such as the government is considering since the SuperFund and a Canadian infrastructure provider made the offer to own and operate the proposed light rail system in Auckland.
  • Use an urban development authority, central government legislation and local government cooperation to remove unnecessary density and greenfield planning restrictions along urban growth corridors.
  • Estimate the housing growth potential for the corridors and build the underground trunk services -for sewer, storm and fresh water and any other local government services that are needed -traffic management systems for increased populations, cycleways, libraries, swimming pools etc.
  • Use an urban development authority to coordinate the provision of trunk infrastructure and the other local government services for these growth corridors. Again use the targeted rate and expected increase in general rates to pay for this. The targeted rate on land values will capture some of the uplift in land prices that the rapid transit network, other trunk infrastructure and upzoning creates.
  • Encourage the use of innovative hyperlocal solutions such as Master Planned Blocks to improve intensification, as they have the additional benefit of opening up the urban form with new laneways to give greater access for walkers and active modes to the rapid transit network.
  • Budget for local government to purchase new hyperlocal laneways, where they improve walking and active mode connectivity for the wider growth corridor, using the revenue from the targeted rate. This will incentivise hyperlocal solutions that provide through lanes as opposed to sausage flat infilling. See my paper -Can Great Design Help Solve the Housing Crisis? -A Master Planned Block Proposal -for further description of the benefits of hyperlocal solutions.
  • Consider alternative tax sources if targeted rates is insufficient. There are a large number of possible revenue sources that would be better than development contributions because they would not directly tax house production i.e taxes that would have less effect on the marginal cost of building additional residential space. Infrastructure NZ following a US city tour by 42 public and private infrastructure experts details many possibilities.
  • Phoenix City in the US could be an example for New Zealand cities to follow. It is a city initially built on a sprawling autocentric model that has recently added a rapid transit network. The city is considered by NZ Treasury from a housing perspective to be expansive and affordable. In 2008 an extensive light rail system came into use -called Valley Metro, funded by a local 0.5% sales tax approved by voters in 2000. Passenger numbers and fare revenue have exceeded budgeted estimates. In 2015 Phoenix voters agreed to increase the sales tax to 0.7% and extend the rapid transit network.

There are political as well as economic considerations on whether such a housing and transport schemes can be successful. Economist William Fischel in his book Zoning Rules! The Economics of Land Use Regulation, argues that zoning decisions generally respond to demands from politically active “homevoters” who agitate to minimise risks to their own property values.

Economist Peter Nunns did not find a home ownership correlation during Auckland’s recent Unitary Plan submission process. But he did find a strong correlation of areas that have higher incomes and more retired people having a much, much higher submission rate.

There is at least speculated anecdotal evidence that citizens expressing themselves in the form of making submissions to local government on planning changes does affect the outcome -with the areas having the higher submission rates being correlated to the areas that recieved the least amount of upzoning.

There may be mechanisms to break this home ownership cohort who block more liberal zoning systems.

Conceptually the property owning cohort could be conceived as a cartel. The method to dismantle a cartel is by regulators creating the possibility of multiple (6+) competing entities each having an economic incentive to defect from the cartel arrangement of under-supplying and pricing-up the market.

Hyperlocalism and in particular master planned blocks is a mechanism that allows existing homeowners to benefit from defecting from the under-supply the market arrangement. If the idea was successful, it would create many competing neighbourhood groups amongst the home owning cohort giving themselves planning authority, with the intent of intensify their combined landholdings to build more, build better and ultimately build at lower prices. These small hyperlocal groups are effectively defecting from the larger municipal level ‘home-voter’ regulatory cartel.

Not only would some small neighbouring groups have an incentive to defect but also some large private companies that are in the business of building large master planned developments would be supportive. Businesses such as, NZ Superfund and Ngai Tahu Property.

Politically this increases the size of the coalition in favour of housing reforms, by adding some homeowners to the renting cohort. This is part of the political-economy rationale for my hyperlocal proposals, detailed in the article -Can Great Design Help Solve the Housing Crisis? (H/T London YIMBY regarding the need to address the politics of the homevoting thesis).

The rapid transit proposal is also likely to cause political controversy. There have been some very well organised campaigns that systematically oppose any such proposal in the United States. For example, the anti-transit campaigners America for Prosperity were very effective in stopping Nashville’s proposed rapid transit scheme, which initial polling showed was very popular. The anti-transit activists had access to large funding pools and sophisticated data analysis tools that enabled them to sway voters against the proposal. America for Prosperity for instance had funding from the Koch brothers who are oil billionaires that support conservative causes. A successful opposition message in Nashville was autonomous vehicles will be viable in the future making other transport choices unnecessary. Thoughtful people though have their doubts about whether this new technology will make other transports modes redundant and others indicate autonomous vehicles could induce urban heaven or hell depending on whether they serve the public good or private profits.

In my opinion, in New Zealand there is a huge thicket of taxes, subsidies, quotas and rationing around urban development that is so confusing it has lost all purpose. If this system was simplified so that houses could be affordably built close to economic activity, then house prices and rents would increase at a slower rate than wages. This will benefit the wider economy by allowing renters and those who do not own property yet to profit from moving to areas of economic growth. Just as important as the productivity gains is that inequality will fall as housing becomes more affordable.

There are lots of moving parts in an urban environments regulatory system and it is easy to get overwhelmed by it all. I would suggest a simple rule of thumb -using the spirit of Ockham’s razor -for policy makers attempting to fix the housing crisis.

Policies that make it easier to build decent homes close to places of economic activity are good and policies making it difficult are bad.

An earlier version of the paper was published on interest.co.nz, it received a positive and generous response in the comment section. I updated this paper in response to the feedback, so this paper not only reflects my considered thinking but also that of a wider community who take the time to comment on my writing.

Resource Management consenting fees add significant costs and uncertainty onto building projects. This must be a disincentive for building work. The missing building activity will be significant cost to the community -most likely incurred by its most vulnerable members in the form of higher rents and difficulty accessing affordable housing close to employment, business activity and places of importance -education and health facilities etc.

New Zealand needs an urbanisation project

A collection of essays about cities, housing, land, the built environment and transport which collectively make the case for New Zealand to implement a wide ranging urbanisation project

Brendon Harre

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Trying to optimise amenity and affordability values for urban areas

New Zealand needs an urbanisation project

A collection of essays about cities, housing, land, the built environment and transport which collectively make the case for New Zealand to implement a wide ranging urbanisation project