Testimony: The Mayor’s Proposed Amendments to the 421-a Tax Benefit Program

Testimony of Tom Waters

Housing Policy Analyst, Community Service Society

Oversight Hearing:
The Mayor's Proposed Amendments to the 421-a Tax Benefit Program

New York City Council Committee on Housing and Buildings

June 1, 2015

Thank you for this opportunity to comment on the de Blasio administration’s proposed changes to Section 421-a of the Real Property Tax Law and its exemptions from New York City property tax. The Community Service Society is an independent nonprofit organization that addresses some of the most urgent problems facing low-wage workers and their communities here in New York City, including the effects of the city’s chronic housing shortage.

As I testified before this committee in January, CSS believes that the 421-a developer tax break should be ended because it costs $1.1 billion a year and delivers only a pittance of affordable housing. I also argued against trying to reform 421-a by tinkering with its requirements, because this approach will never create a mechanism that reliably ties the cost of the tax exemption for a given development to the benefit that the city will receive from the affordable housing included.

The de Blasio administration’s proposal does not do enough to alleviate these concerns. It would modestly increase affordability requirements but at far too high a cost in terms of lost revenue. It is not at all clear that these changes will make 421-a more rather than less efficient. It certainly won’t make it into the sort of program would ever pass muster as good policy were it not backed by a rich and powerful interest group such as the real estate industry.

But this proposal has recently become a political football in Albany in an unhelpful way. Although the Community Service Society is here to explain this proposal’s defects, this should not serve as an excuse for maintaining the status quo on either the 421-a tax exemption or the needed strengthening of rent control and rent stabilization. Renewing 421-a as it stands is no solution, and there is no more important issue before the Governor and state legislature today than the need to halt the erosion of our rent and eviction protections through vacancy decontrol.

The de Blasio administration’s 421-a proposal does four main things. First, it roughly doubles the value of the tax exemption extended to developers, by increasing the term of the exemption to 35 years, where exemptions now run 10 to 25 years, depending on location, affordability options, and the use of other subsidies.

Second, it modestly increases affordability requirements by deepening the income requirement for some units from 60 percent of “area median income” to 40 percent (roughly equivalent to lowering rents from $1,200 to $800) and by adding a requirement for units at a new target income level of 130 percent of area median income or roughly $100,000 a year. This results in apartments with rents around $2,500 per month.

Third, it eliminates the “Geographic Exclusion Area” approach to affordability requirements in favor of one based on developer option. Currently, developments within the GEA include affordable housing and those outside it do not.  Under the new plan, developers citywide can choose to include either 25 percent affordable apartments, with 20 percent at the deeper affordability levels, or 30 percent affordable apartments, all at the $2,500 a month level. (There is also a third option for developers who also use the full range of non-421-a subsidies to create more affordability.)

And fourth, it eliminates benefits for condos. This will increase the program’s efficiency, but less than one might think, because condos are relatively lightly taxed anyway.

The administration projects that these provisions will lead to the creation of 9,500 apartments in the $800 to $1,200 range over ten years, plus 16,000 apartments in the neighborhood of $2,500 per month.

They also project that the present value of the 35-year tax exemption granted to each apartment will by $391,000 in the first year. This suggests that the total tax benefit over the life of the exemption will be at least twice that, but that exemptions in the later years are discounted because of the time value of money. This makes sense when considering what the offer looks like to the developer, but from a city budget point of view, the simple total amount is also a relevant figure. In any case, it mean that the taxes forgone per affordable apartment will be roughly the same as the current $833,000, even though many of the apartments will be affordable at higher income levels.

How bad a deal is this? The answer depends on whether we are talking about the $800 to $1,200 apartments or the $2,500 ones. For the lower-rent apartments, the present-value cost of $391,000 is more than the typical cost of constructing the apartment, but the city argues it is worth it, because we are creating income diversity in a desirable location. But we should remember that in virtually every case, these buildings will be built not just with the 421-a tax subsidy but also with low-interest financing backed by tax-exempt bonds and with the federal Low Income Housing Tax Credits that come with bond financing. When we consider this additional subsidy, the total package starts to look less efficient. CSS agrees with the city that it is sometimes appropriate to use additional subsidy resources to create income diversity and especially to protect low-income communities when neighborhoods change. But this does not mean that the sky is the limit when it comes to costs.

The trade-off of tax subsidy for affordability benefit is different when we consider the higher-rent affordable apartments. To commit tax exemptions with a present value of $391,000 for those apartments is not a good deal, even without additional subsidy, because in some cases those apartments will be renting only a little below market, or even at market rents. Affordability at these levels should not cost very much to produce. What’s more, the benefit of this affordable housing is steered to a segment of the city population that it not severely stressed in the housing market. As Victor Bach and I showed in the recent CSS report, “Reinventing the Mitchell-Lama Housing Program,” few households with incomes in the neighborhood of $100,000 a year (130 percent of Area Median Income) pay more than 30 percent of their incomes in rent. In fact, most families in this income range would not consider a rent of 30 percent of income to be a bargain.

The administration’s proposal’s emphasis on assisting households in this income range is misplaced, and the amount of tax subsidy that would be devoted to each one of them is also inefficiently high, even if we assume that the average subsidy for these apartments would be somewhat lower than the average for 421-a apartments as a whole.

The geographic effect of the proposed changes to 421-a is complicated and difficult to predict, but it is also important, and I believe it is likely to work out as follows. In the very highest-rent areas of the city, developers will either choose the 25 percent affordable option, also using tax-exempt bond financing, or build condos without 421-a. This will result in apartments at the $800, $1,200, and $2,500 a month levels, subsidized partly by 421-a and partly by the bond financing. This is indeed somewhat better affordability than the city is getting now in these areas, but it will also come at a much higher cost than the present 421-a.

In much of the current Geographic Exclusion Area, including places like Harlem, parts of downtown Brooklyn, and western Queens, developers are likely to choose the 30 percent affordable option. (The city has projected that developments in Harlem will use the 25 percent affordable option, but many market rents for new construction there are close enough to $2,500 for the 30 percent option to be attractive there too.) These neighborhoods will see a significant number of apartments at the $2,500 level in areas where that is below the usual market rent for new construction. This will provide benefits, but only to a fairly high-income group of people, and the total benefit will be much less than what the city is now getting in these areas. Again, the cost will be much higher than existing 421-a.

In an area beyond the current Geographic Exclusion Area, but where rents are still relatively high, developers will also choose the 30 percent affordable option. This will result in a significant number of apartments at the $2,500 level, but this time in areas where that is close to the market rent for new construction. Thus there will be little immediate economic benefit to tenants at any income level, though the affordability requirement could become meaningful sometime in the future. And again, the cost will be much higher than existing 421-a.

And in areas of the city further from Manhattan, developers will build very little unless they are given additional subsidies beyond 421-a, just as is the case now.

A proposal to reform 421-a must be evaluated like any other policy proposal, including a consideration of costs and benefits. It is not enough to say that the proposal would create needed affordable housing so never mind the costs, nor should consideration start from the premise that whatever happens, the enormous flow of benefits to the real estate industry will continue. The relevant comparison is not between old 421-a and a new version – it is between the proposed new version and other means of reaching affordable housing goals.

We need to consider the total taxes foregone under 421-a over the full terms of the tax exemptions. We need to consider how many apartments will be produced at different affordability levels, and where these apartments will be. And we need to consider how much money in additional subsidies, including bond financing and associated federal tax credits, will also be used to create these affordable apartments. In the case of existing 421-a, we can look at actual numbers and see how poorly it is performing. Based on the information presented on the administration’s proposal so far, it is not clear that it is any better.

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