Is cost rental 'in crisis'?

The Week in Housing 19/01/24

If you missed my call last week for guest posts, take a look. This is my first Newsletter of January. I’ll be sticking to the fortnightly format for the time being (I somewhat regret calling this Newsletter The Week in Housing, but there you go).

A fantastic article by Lois Kapila in this week’s Dublin Inquirer (DI) gives me occasion to return to the issue of cost rental housing. In it, Sinn Féin’s Eoin O’Broin is quoted as saying that the sector is ‘in crisis’. What prompted these remarks is the opening up of applications for the LDA’s latest swathe of cost rental units, and, more particularly the advertised rent prices. A three-bed-room apartment in The Quarter (City West) will set you back €1,750 a month. The DI article points out that this would mean a household needs to earn €60,000 per annum to be able to afford this rent under the affordability criteria (i.e. the rent should be less than 35% of applicants’ net income).  

It has to be said that these prices are somewhat eye watering. I have already discussed my views on how we should think about rents in cost rental housing (In defence of cost rents), here I want to focus on the costs associated with the provision of cost rental housing and how the affordability concerns might be overcome.

The LDA units have been delivered via Project Tosaigh. To be honest, I don’t have a detailed understanding of how this works, but the gist of it is that the ‘LDA partners with private developers on developments that have planning permission but have stalled out because of financing constraints, for example’ (from the DI article). A key question here is what the nature of this partnership is and, especially, what costs are included, and therefor factor in to the rent. In particular, are developer margins incorporated in to acquisition costs?

Under the Affordable Housing Act, the following are what constitutes the ‘costs’ in cost rental:

(i)                  Costs associated with making the dwelling available for rent including any capital development or acquisition costs involved;

(ii)                 financing costs associated with making the dwelling available for rent including debt finance costs, interest charges and limited equity returns

(iii)               necessary and appropriate management costs associated with the dwelling, including costs of letting the dwelling;

(iv)               costs associated with necessary and appropriate maintenance of the dwelling during the cost calculation period;

(v)                 costs of maintaining a prudent contingency surplus in addition to a sinking fund created to meet projected maintenance costs associated with the dwelling during the cost calculation period

The key aspects are (i) and (ii) above. Specifically, when the housing is being delivered by a private sector actor, to what extent is a profit margin an acceptable ‘acquisition cost’? Bear in mind that in all cases there is a large degree of private sector involvement in delivery, as neither the AHBs nor the LDA, nor indeed local authorities, have the capacity to put shovels in the ground.

It seems to me that the key issue is whether this private sector involvement comes in the form of a contractor or in the form of a developer. Ordinarily there are two important distinctions between a developer and a contractor. First, a developer would typically acquire land with a view to development, whereas a contractor would not typically be a landowner. Second, a developer takes on the risk associated with realizing and disposing of the units. As property development is risky, financing costs are typically high and developer margins are typically high. Nobody knows exactly what developer margins are but people usually quote figures of 15-20%.

In the case of a Project Tosaigh development which is acquired by the LDA, the question arises as to (a) if such a margin is part of the acquisition costs; and (b) if such a margin is appropriate and justifiable.

With regard to the latter, the Dublin Inquirer article quotes an LDA spokesperson as saying that they undertake a ‘value for money assessment… recognizing that a builder cannot and will not build without some element of margin included’. The LDA goes on to say that ‘the analysis performed by the LDA ensures that the profit element is not outsized’. It would be of great benefit to get more transparency around this, so that both the public and tenants could be satisfied with the fairness of their rents, and what costs were included. Perhaps a developer’s margin doesn’t apply here, but it would be good to know.

Moreover, if a ‘developer’ has a purchase arrangement with the LDA prior to development, and if the LDA is essentially taking on the ‘exit risk’, it suggests that there is no justification for the inclusion of a profit margin.

A final word on this subject: as Eoin O’Broin (quoted in the article) notes, the inclusion of a developer’s margin undermines the very nature of cost rental housing as a form of non-market housing, as one of the main mechanisms for making non-market housing affordable is the removal of developer margins.

Moving on from the issue of costs, what can be done about the affordability issues arising in cost rental? As the DI article shows, the issue is that there is a tension between three aspects of cost rental, as currently set up in Ireland:

1.       Rents are based on costs and costs are high

2.       There are upper and lower income limits

3.       Applicants are required to demonstrate that rents will be below 35% of their net income

There is a tension here because, as demonstrated in detail in the DI article, for cost rents (at least those in this new LDA development) to be less than 35% of the household income, applicants need to earn an income that is towards the upper end of the eligibility range.

In my view, there are four potential ways to respond to this affordability challenge:

1.       Don’t do anything and accept that some people can’t afford some cost rental units. I realise this is simply not an acceptable option for many commentators, but I personally don’t think it’s as crazy as it sounds, for reasons I addressed in my earlier piece on cost rents. Keep in mind, for example, that many other cost rental developments have rents of between €1,200 and €1,400 and are therefore accessible to those at the lower end of the eligible income range. Anyway, it’s probably not politically viable and, as political support is crucial for the nascent cost rental sector, that is a big concern.

2.       Bring down costs: O’Broin, again quoted in the DI article, argues that costs could be brought down. He points to longer loan terms. It has to be noted here that cost rental already receives a lot of support from Government. Around 45% of financing comes from CREL and the remainder comes from the HFA. That means that AHBs (I’m not too sure how it works with the LDA) don’t have to rely on either private finance or on their own equity. Contrast this with Austria, where housing associations usually borrow about 60% privately and contribute equity equal to about 10% of project costs. In Denmark cost rental is 90% privately financed. Moreover, the loan term in Ireland is very long already at 40 years. Lengthening loan terms isn’t cost free either. Obviously it means that state money is tied up for longer. But it also means that cost rental will take longer to reach loan maturity, thus it will take longer for it to start generating a return which can be reinvested either in more construction or in renovations, which three decades from now will represent a major cost. The state (or indeed the AHBs themselves) could provide equity, which would reduce rents. Or indeed tenants could be asked to provide equity, which happens in some cases in Austria (although this would create another affordability issue). I personally don’t believe there is much scope for bringing costs down (other than ensuring developer margins do not factor in, if indeed they do), but I should emphasize that I am far from an expert on constructions costs.

3.       Remove the affordability criteria: one simple approach would be to remove the 35% of income affordability criteria. In other words, allow people on lower incomes to spend a greater proportion of their income in order to obtain quality and secure housing, if they so choose. The difficulty here is that it would create a rent arrears risk for AHBs, and potentially lead to vulnerable households being evicted as they fall into rent arrears. To address this, another measure of affordability could be used. In Austria, I understand that a more ‘residual income’ approach is used, i.e. eligible households must have enough absolute income left over after paying rent to avoid falling into poverty or deprivation. This seems to me a better approach, at least in terms of the rationale underpinning it.

4.       Related to this last point, the most straight forward way to address the affordability issue is to allow cost rental tenants access to a rent subsidy, for example HAP. Under the current set up, people who are in receipt of HAP or who would, at the time of application, require HAP in order to afford their rent, are not eligible for cost rental housing. This is a major difference between the Irish model and those of other countries.  What is particularly absurd is that, once living in cost rental for more than six months, residents are entitled to HAP. If this criteria was removed, the affordability challenge would be done away with. It would also open up cost rental to a wide variety of households who are currently excluded but who, arguably, need it most, e.g. lone parents on HAP in the PRS. This would also have the benefit of making cost rental more universal and a mixed-income tenure rather than a ‘squeezed middle’ tenure.

Two final points by way of conclusion. First, as can be seen from the above the way cost rental is set up in Ireland is overly constraining for providers. Rents have to come in below a certain level, and households have to come in above a certain income level, but without breaching the upper limit. As things like costs and incomes are obviously constantly changing, AHBs and other providers have to work within parameters which are (a) overly narrow and (b) constantly shifting. I think over the medium term it will become clearer and clearer that these constraints simply hamper the delivery of cost rental housing.

Second, and this is something I will return to in the near future, why is the LDA becoming a cost rental landlord in the first place? Last time I checked, the LDA’s job was active land management. Now it is going to become a major landlord of long term rental housing. Does the LDA realise how complex and challenging the provision of non-market housing can be and how messy it can get? At the very least some kind of policy rationale should be provided for this departure.

Events

TASC and the Chartered Institute of Building are launching a report on Modern Methods of Construction on February 1st. Rob Kitchin is heading up a fascinating project on ‘data stories’ out in Maynooth. Linked to that, check out this call for papers for a two day workshop on ‘the data politics of housing and planning’. If you’re doing a PhD in housing, or are an early-career researcher, the European Network for Housing Research are organising this seminar in March.

What I’m reading

A couple of new things from the Housing Agency: this new release in their data insights series (on turn around times for empty council houses); and this (which I think was released some time ago) final report from their Housing Unlocked exhibition. I also came across this report by Richard Waldron, funded by the Housing Agency, on precarity in Ireland’s PRS. I had seen the journal articles from this project but had somehow missed the full report. Finally, the latest Simon Community Locked Out report came out during the week.