This policy brief presents four ideas for improving the flexibility of inclusionary housing and expanding the menu of options available to developers – while at the same time promoting mixed-income neighborhoods. View Policy Brief
While the opportunity cost of providing units onsite (i.e. what the developer gives up by selling or renting for less than market value) is higher for higher priced units, the in-lieu fee is likely to be the same for all projects. As a result, when a single fee is set based on expected average costs, there will be a natural tendency for higher-end projects to prefer paying the fee and lower-end projects to prefer on-site production.
In many communities, this is not a problem. But some communities have found that this leads to further concentration of affordable housing in lower-income neighborhoods that already have the most affordable housing options. Nevertheless, some jurisdictions have effectively designed programs so that fees advance economic integration. Others have found ways to create more affordable homes without resulting in increased segregation.
Denver had an in-lieu fee, that was well below the cost to produce the on-site units in the central parts of town, where most development was concentrated but above the cost of on-site units in outlying neighborhoods. As a result, most projects chose to pay the fee, and the few that built units on-site were all located in the city’s lowest cost neighborhoods.*
When they revised their ordinance in 2014, Denver kept the on-site production requirement unchanged at 10 percent citywide, but they designated three distinct zones with different fee levels. This resulted in much higher fees in the highest cost areas and much lower fees in the lowest cost areas, and no change for the middle zone that covered 60 percent of the city. At the same time, they offered incentives to encourage on-site development that were designed to be stronger in the high-cost areas. The net result of both changes should be more on-site production in the high-cost areas and more payment of fees by projects in lower-cost neighborhoods.
Reliance on fees can undermine a program’s impact on economic integration in another way: If the collected fees are predominantly invested in projects located in the least expensive parts of town. In small towns or suburban communities this may not be a concern, but larger cities with large economic differences between neighborhoods often take precautions to prevent this outcome.
Boston requires that half of its in-lieu funds be invested in neighborhoods with fewer affordable housing units than the citywide average or those with a demonstrated need for affordable housing. As of early 2015, the policy had generated $32.3 million in fees, in addition to producing 1,718 affordable units.
Raleigh, North Carolina
Raleigh specifically prohibits investment of its funds in lower-income census tracts (where more than 50 percent of residents earn less than 60 percent of AMI) or in areas where over 60 percent of the population is non-white.
It is important for cities to be aware of market conditions when they set their inclusionary housing requirements, both for the entire city and for various neighborhoods.
Most cities do not adjust their inclusionary requirements at a neighborhood level. For cities without wide variations in neighborhood market conditions, this may be appropriate because incentives and inclusionary requirements automatically compensate for differences in market conditions. For example, it may be more expensive to build in high-cost neighborhood, but a density bonus is worth more in neighborhoods where home prices or rents are higher.
Some cities, however, have responded to concern about the impact of inclusionary requirements in certain sensitive neighborhoods by varying their requirements or incentives by neighborhood. This is called geographic tiering.
Rather than vary the requirements by neighborhood, some cities vary their requirements based on construction type. These are generally places where local market conditions make higher-density construction economically marginal enough that affordable housing requirements can become a barrier to development.
The decision to vary affordable housing requirements by neighborhood or construction type should typically be made based on the findings of an economic feasibility study. In general, a city may want to pursue these varying requirements if the feasibility study showed that citywide supportable requirements would have an adverse impact on the feasibility of otherwise desirable development in certain areas.
When considering in-lieu fees, it is important to decide if a city wants to always allow developers the option to pay the fee or restrict its use to some developers. Some cities allow an in-lieu fee by right, while others require developers to demonstrate either some net benefit to the city, or a substantial hardship.
Generally, whatever method cities use to arrive at a fee level, they should apply that single fee level to all projects of the same type. Many cities will have different fee levels for rental and ownership projects. Some cities adjust their in-lieu fees based on the size of the development. These cities typically offer a lower fee for smaller projects. Cities often do this because they want to simplify the management of their program by discouraging a pattern where market rate buildings have only one or two affordable units. Also, the economics of smaller developments may be more marginal and a lower in-lieu fee could help make them feasible.