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Jon Geeting is the editor of the Keystone Politics blog, and a regular contributor to Demos’ PolicyShop blog and the Patriot News op-ed page. He is a Lehigh Valley native. His writing focuses on the impact of state policy on Pennsylvania’s cities and older urban communities, and the role of transportation, land use, and tax policy in promoting equitable economic development.
AxisPhilly contributors Tom Ferrick and John Kromer have outlined some of the problems with rescinding Philadelphia’s 10-year tax abatement for new construction and major property improvements, but it is worth revisiting the reasons why the abatement has been necessary, so that we can see whether there isn’t some cheaper, more efficient, or more politically durable approach.
The broad problem the city is trying to address is that housing costs in Philadelphia are out of step with area wages. The Center for Neighborhood Technology recently found that in some neighborhoods, housing and transportation costs eat up as much as 90% of residents’ incomes. The 10-year tax abatement is meant to address one cause of this problem, which is that developers can’t afford to build and sell housing at the prices many people can afford to pay. And it isn’t that the raw materials needed to make an apartment are unaffordable. Philadelphia’s land use, tax and competition policies are driving up the prices.
Start with John Kromer’s list of the obstacles that developers named as working against new construction in Philadelphia when the tax abatement policy was first debated 15 years ago:
- struggling public schools
- the city wage tax
- the cost of labor relative to the suburbs
- delays in the permitting and regulatory approval process
Mr. Kromer is correct that all of these obstacles still exist, but conditions in 2013 are different in one important respect — population growth has begun to return.
Since the 2010 Census, Philadelphia’s population has grown by about 21,000 people, with 9,040 new residents in 2012 alone. Fifteen years ago population decline seemed likely to continue, but today the forecast portends more growth. The reason this is important is that the demand for land has been increasing in the areas closest to Center City, and neighborhoods with nice public and private amenities like parks, restaurants, and retail, and that’s caused land values to increase in those parts of the city.
One sign that demand for land has been increasing is that rental vacancies are very tight. Vacancy rates for quality rentals in Center City were down to 1.5% back in 2011, and total vacancies were 5.5% citywide. The supply of new housing has been growing this year, with lots of new units in the pipeline, but in many of the nicest areas, the housing supply has not been keeping pace with demand. Some of the city’s amenity-rich neighborhoods are facing housing shortage conditions, even as other parts of the city struggle with an epidemic of vacant land and buildings.
How does recent population growth and demand for land impact new construction?
Fifteen years ago, the lack of growth was a key argument for the tax abatement. The population wasn’t growing, and bad schools and high wage taxes were said to be deterring more mobile middle-class households from living in Philadelphia. Higher earners didn’t want to send their kids to the public schools, and the high wage tax presented two disincentives for new construction. People wanted to avoid paying such a high percentage of their wages to the government in taxes, so they chose to live in Philadelphia’s suburbs where taxes were lower. That depressed the demand for housing. And employers responded to the outflow of the professional labor pool by buying less office space in the city, which depressed the demand for new office construction.
The situation is now somewhat different, if only in some parts of the city. Though one can still argue persuasively that the reputation for bad schools and high wage taxes are depressing Philadelphia’s population growth relative to nearby communities with great schools and low wage taxes, the fact is that some areas of the city are growing in spite of these obstacles. This population growth is causing land prices in some of the most popular areas to appreciate, sometimes wildly so, and rising land prices are creating a profit opportunity for developers to build more new housing.
It is likely that further improvements in school quality and public and private amenities, and decreases in crime rates, will continue to put upward pressure on land prices. How should this impact the debate over the 10-year tax abatement? At what point can we say that there is enough organic demand for new housing and office space that an explicit subsidy is no longer required?
Messrs. Ferrick and Kromer argue that this day has not yet arrived, and I am inclined to agree. However, it is becoming clear that the 10-year tax abatement as currently structured is politically unsustainable. The political opportunity to stoke long-time property owners’ resentment over low tax bills for people in new modern buildings is too great for many politicians to resist. The abatement will be perpetually on the defensive in City Council, and it is probably only a matter of time before it is rescinded. So an urgent need exists to finally address the root causes of excessively high housing costs for consumers, and reform the abatement in a way that does not raise overhead costs for developers.
Mr. Ferrick argues persuasively that Philadelphia’s labor costs — one input in the cost of housing — are unusually high, and the 10-year tax exemption is essentially underwriting high wages for the building trades. But political reality suggests that competition-increasing reforms will attract little support on City Council, as the political economy sustaining high construction labor costs is very robust and likely to remain so.
If high construction labor costs are here to stay, this makes it all the more imperative to reduce the costs of the other inputs that determine housing prices — land costs, regulatory approval costs, and the cost of zoning mandates.
Increases in population should, in theory, lead to more new housing construction and renovation of older structures in the neighborhoods where people most want to live. While it takes longer to construct a multi-family residential building than a single-family home, apartments can be built relatively quickly, so there’s no reason that the housing stock shouldn’t be able to grow roughly in tandem with the demand for housing. But in many neighborhoods this hasn’t been happening because of Philadelphia’s notoriously politicized approval process for new construction. Many neighborhoods have not been building as much housing as people want.
Everybody knows that supply constraints lead to price inflation in other markets, and housing is no different. Slowing the approval of new housing construction inflates land prices, driving up rents and asking prices. The city’s new zoning code, adopted last year, made a solid effort to reform the approval process, and allow more common building types to be built “by-right” — meaning that they can be built without political interference from City Council members and neighborhood groups. Under the old code, special approvals and variances were required to build many common types of buildings, and the Zoning Board of Adjustment became a veto point for NIMBY activists to pressure ZBA officials to reject variances and block new construction.
The new zoning code goes a long way toward depoliticizing the approval process, which should lower housing construction costs, and ultimately costs for home buyers and renters. But the streamlined process is already under attack from some City Council members who want to retain their power to veto new construction in their districts. If the goal is to reduce housing construction costs though, and obviate the need for the 10-year tax abatement, further reforms will need to move in the opposite direction — allowing even more building types to be built by-right, and removing even more regulatory mandates.
One such regulatory mandate that drives up the cost of housing construction, and prices for home-buyers and renters, is minimum parking requirements. A large body of research shows that requiring off-street parking spaces to be bundled with housing makes housing less affordable. If developers are required to build a parking garage along with any new housing units, unsurprisingly they will build fewer housing units. If they are allowed to build only the housing units, they build more housing and less parking.
The new zoning code reduces or eliminates parking minimums in some areas, but they are still inexplicably left intact in many growing neighborhoods that are well served by transit. There is an opportunity to reduce construction costs for developers and increase housing affordability for residents by further reducing or eliminating minimum parking requirements, but some members of City Council are already trying to increase them.
Further streamlining the approval process for new construction and reducing regulatory mandates like parking requirements could achieve substantial cost reductions for developers and consumers, but ultimately the greatest opportunity to obviate the need for the 10-year tax abatement is to change Philadelphia’s tax treatment of land.
Isaiah Thompson has done excellent work for AxisPhilly illustrating the negative consequences of underassessing land values in expensive areas. In the recent reassessment, many land parcels have sold for well above their assessed value. If the new values are used to determine property tax bills, land will be under-taxed relative to buildings. As Mr. Thompson has been pointing out, this will make it even cheaper for speculators to hold land off the market in growing areas, not building anything as they wait for ever-higher rents. This preferential tax treatment of land over buildings rewards blight and vacancy, and is a key contributor to rent inflation in gentrifying areas of the city.
What if this tax preference was reversed? What if Philadelphia taxed vacant land at a higher rate than buildings?
The effect would be to extend the building tax abatement to all buildings, new and old alike. And not just for 10 years, but forever. On the flip side, a greater share of the tax burden would be shifted onto vacant and unimproved land in the areas where land is in highest demand.
Taxing land instead of buildings would achieve exactly the same goal as the 10-year tax abatement – lowering overhead for new construction and improvements to existing buildings – but without the stench of unfairness dogging the current approach.
The higher tax on land would also reign in land price inflation in gentrifying neighborhoods by raising the cost of holding properties vacant, especially in areas closest to center city and public amenities like transit stations. Vacant property owners would face increased financial pressure to reduce their asking prices and find tenants quickly. This would put downward pressure on land prices and rents – the key input in housing costs. According to a pre-AVI analysis by the Center for the Study of Economics, shifting the property tax burden onto land would also reduce the property tax burden for majorities of residents in every Councilmanic district.
As economist Dean Baker has pointed out, the impact of falling land prices is distributionally progressive. While many of the people who would be impacted by falling land prices aren’t wealthy, property owners as a group are better off than people who don’t own property, and the reduction in rents and property tax bills would translate into a real wage increase for most Philadelphians. A reduction in housing costs, and the cost of rent as an input for the production of goods and services, would leave most people with more disposable income to spend or save as they please.
As City Council considers the future of the 10-year tax abatement, they should take care not to raise overhead costs for developers or land costs for renters and future housing buyers. Any change to the abatement should be paired with policy changes that lower land prices, raise the cost of holding vacant property, and reduce the time and money costs of improving land. The cleanest and most equitable path forward is to extend the abatement on improvements to all, and make up the difference with higher taxes on vacant land.