Terner Center Blog: No Limits

Calibrating Policy to Ensure Success—An Analysis of Assembly Bill 1485

Posted on by Terner Center

The 2019 California legislative session has been a busy one for housing thus far. Dozens of bills have been introduced that aim in some way to alleviate the ongoing housing challenges across the state. It seems likely that this year’s package of housing bills could rival the 2017 housing package, depending on how upcoming committee hearings and negotiations progress. Some of the bills proposed so far could have significant impacts on our ability to build new housing. To this point, it is critically important to understand how to ensure new policies can achieve their goal of facilitating more housing development overall and, in particular, more housing that is affordable.

As part of our construction cost series, we have done work to educate advocates and policy-makers on the math behind development, with a particular focus on the importance of correctly calibrating policies to ensure success. One bill—Assembly Bill 1485 by Assemblymember Buffy Wicks—proposes local entitlement and California Environmental Quality Act (CEQA) streamlining incentives for Bay Area residential construction projects that pay prevailing wages and set aside 20% of base units for households making on average 120% of Area Median Income (AMI). To assess the potential impact of this bill, we adapted work that we have done previously estimating development feasibility for projects in the Bay Area to answer two specific questions: Would developers use this new tool? And can it achieve multiple, ambitious policy goals, including facilitating new development?

To begin to answer these questions, we layered AB 1485’s requirements onto our existing development prototype for the East Bay. This prototype (which we refer to as Terner Terrace) represents a common type of development project: a midrise (five to seven stories in height), market-rate rental project with ground floor retail. We also make a series of assumptions on our prototype regarding construction costs, local policies, fees, site conditions, and infrastructure requirements.

 

Terner Terrace
Characteristics Assumptions
120 units (48 studios, 40 one-bedrooms, 32 two-bedrooms) No demolition/significant site work required
120 parking spots (1:1 ratio) Normal entitlement timeframe
Five-over-one construction type (concrete podium + wood frame above) $40,000 total development impact fees
1,500sf ground floor retail $65,000/unit land price

 

From these prototype characteristics and assumptions, we created a financial analysis (known as a “pro forma”) to determine how likely it is that the project will actually get built.

To assess the impact of AB 1485 on our prototype, we started by layering on the affordability and wage requirements first, without any of the proposed offsets provided by the bill. The results show that our prototype would have difficulty incorporating these provisions based on current market dynamics. As measured by a simple return on cost (ROC) metric (1), the prototype generates a 4.91% return. This would mean that the building would probably not get built, since on average, East Bay capitalization rates are about 4.25%, and financial partners will only invest in projects that generate a ROC at least one full percentage point higher than capitalization rates.(We go into more depth about why this is the case in an upcoming policy brief on development math.)

 

 

At baseline, it is unlikely that projects similar to the prototype would get built with these two specific requirements in the bill. While it is certainly worthwhile to pursue onsite affordability as well as stronger worker wages, the market dynamics are such that our particular project would not be able to include both and still achieve a threshold return.

However, AB1485 also includes offsets to increase the value of development, including reduced parking, increased units, and reduced fees. When we include those provisions in the pro forma calculation, the project moves much closer to financial feasibility.

 

 

This points to an important dynamic in housing development: it is the confluence of a number of factors that determines project feasibility. By pairing cost reductions with prevailing wage and on-site affordability requirements, projects have a much higher likelihood of getting built and, therefore, achieving the desired policy goals of building more housing, incorporating affordability, and improving worker wages.

It is also important to note that market conditions greatly affect this cost calculus. The market rate rents needed to make this prototype project feasible are very high. As a result, these projects wouldn’t pencil in all neighborhoods.

 

Prototype Rents Required to Achieve Minimum ROC Threshold
Unit Type Monthly Unit Rent Per SF
Studio (375 sf) $2,138 $5.70
1 Bedroom (635 sf) $3,366 $5.30
2 Bedroom (935 sf) $4,441 $4.75

 

Moreover, the prototype assumptions do not include any costs associated with site remediation, infrastructure upgrades, or delays in entitlements or building permit issuance. It is not uncommon for projects to encounter these and other types of additional costs, which could significantly change project feasibility. The prototype was also based on a rental project, and a for-sale prototype would almost certainly be more costly given stricter insurance requirements and more expensive fixtures/on-site amenities (though, as currently drafted, AB 1485 affordable units would be allowed to rise to 150% of AMI on for-sale projects).  

Given the variety of project types and diversity of local economic conditions in the Bay Area alone, there is no perfect approach to ensure policy success everywhere. That is why building flexibility into policies that impact housing development is of critical importance. AB 1485 attempts to address this by requiring developers to submit specific project information to localities so that they can assess the need for these incentives.

This analysis is neither an endorsement nor a critique of AB 1485. Rather, the analysis shows the importance of balancing policies to achieve the desired goals. Given increasing construction costs and limited availability of development opportunities, creating calibrated policies that consider diverse policy goals as well as market dynamics is critical to meeting the state's housing production goals.

(1) Return on Cost is determined by dividing a project’s Year One Net Operating Income (revenue minus expenses) by total project cost.


Housing Policies in California Cities: Seeking Local Solutions to a Statewide Shortfall

Posted on by Sarah Mawhorter

This study was published jointly by the CALIFORNIA ASSOCIATION OF REALTORS®’s Center for California Real Estate and the Terner Center for Housing Innovation at UC Berkeley as the first installment in a working paper series focused on findings from the Terner Center California Residential Land Use Survey. This series will examine a number of topics related to land use regulation; from the feasibility of ADU production to trends in segregation. Read the first paper here. Housing Policies in California Cities: Seeking Local Solutions to a Statewide Shortfall After decades of lagging housing production, Californians face some of the highest rents…


Unpacking the Growth in San Francisco’s Vacancies

Posted on by Paige Dow

As part of our commitment to the education and professional development of UC Berkeley students, the Terner Center highlights exceptional student work that connects to our mission and research agenda. The analyses and policy proposals put forth in these projects may not be reflective of the official position of the Terner Center. This piece is the fourth in a series by recent graduates of the City and Regional Planning and Public Policy graduate programs at UC Berkeley. The full report is available here. High vacancy rates typically signal a weak housing market, where supply has outrun demand, and rents have stagnated. However,…


Estimating the Impact of an Anti-Gouging Rent Cap in California

Posted on by Terner Center

Last spring, the Terner Center published a brief on a handful of tenant protection ideas in California titled “Finding Common Ground on Rent Control.” The brief discussed policy ideas for consideration as an alternative to the prevailing “all or nothing” dialogue on the repeal of the Costa-Hawkins Rental Housing Act--a state law that places restrictions on local rent control ordinances. Proposition 10’s defeat at the ballot box has meant that the fight over repeal has passed for the time being. But the conversation around what to do in the face of resounding tenant pressures has not. In fact, the ongoing…


The End of the Mortgage “Dark Age”?

Posted on by Alison Mills

As part of our commitment to the education and professional development of UC Berkeley students, the Terner Center highlights exceptional student work that connects to our mission and research agenda. The analyses and policy proposals put forth in these projects may not be reflective of the official position of the Terner Center. This piece is the fourth in a series by recent graduates of the City and Regional Planning and Public Policy graduate programs at UC Berkeley. The full report is available here. The End of the Mortgage “Dark Age”? Fintech and the Equity Implications of Disruptive Technology in the U.S. Residential…


Strengthening Feasibility Studies for Inclusionary Housing Policies

Posted on by Terner Center

Paired with other public investments and financing products, inclusionary zoning policies can increase the supply of affordable housing, particularly in high-cost regions. Inclusionary policies work by requiring or offering incentives to developers to include below-market-rate (BMR) units in new housing developments, or pay a fee to an affordable housing fund in the city’s budget. These policies also can include offsets to developers, such as density bonuses or permitting streamlining. As Grounded Solutions Network and Lincoln Land Institute identified in a recent study, over 800 jurisdictions in the United States currently have inclusionary zoning programs. Yet these policies can be controversial,…


Announcing New Resources for Understanding Land Use in California

Posted on by Terner Center

Local land use--the accumulated set of decisions and policies about whether, how, and what we build--is a current that runs throughout much of our work here at the Terner Center. Land use policy not only shapes the supply of housing in a region, but is also deeply intertwined with sustainability, economic mobility, and access to neighborhoods and opportunity. Made possible by funding from the Department of Housing and Community Development, in 2017 the Terner Center launched a survey of planners across the state to learn more about local land use policy contexts in California. Today we are delighted to release…


InnovateHousing: New Ideas on the Future of Home

Posted on by Terner Center

In the face of a national housing crisis, where an unprecedented number of families are struggling to afford a home, can technology and the tech sector offer solutions? This was a key question animating InnovateHousing: New Ideas on the Future of Home, co-hosted by the Terner Center and Fannie Mae on Thursday, November 8th. The conference was invitation-only, but also accessible via a livestream. It brought together over four hundred people in-person and virtually, with a huge diversity of stakeholders and sectors represented on the panels and in the audience, including policymakers, entrepreneurs, lenders, developers, academics, and advocates. In opening…


Disparity In Departure: Los Angeles Region Supplement

Posted on by Elizabeth Kneebone and Issi Romem

This study was published jointly by BuildZoom and the Terner Center for Housing Innovation at UC Berkeley. Source: https://en.wikipedia.org/wiki/Coachella_Valley The Bay Area is undoubtedly at the forefront of a housing affordability crisis that is pricing a growing number of households—particularly lower-income households and households of color—out of the region. But it is not alone. Those same price pressures are apparent in other parts of the state (and country), including the Los Angeles region. While the two regions are different in many ways, they are similar in two key respects: both have powerful economies that have been drawing people in for a long time, and…


Are Tiny Houses Useful and Feasible for Addressing the Homelessness Crisis?

Posted on by Rebecca Coleman

As part of our commitment to the education and professional development of UC Berkeley students, the Terner Center highlights exceptional student work that connects to our mission and research agenda. The analyses and policy proposals put forth in these projects may not be reflective of the official position of the Terner Center. This piece is the fourth in a series to be released this summer by recent graduates of the City and Regional Planning and Public Policy graduate programs at UC Berkeley. The full report is available here. Tiny houses are on many people’s minds as a possible solution to address our homelessness…