The week in housing 4/06/21

Time to regulate institutional landlords

The recent attempt by Government to reduce the role of investment funds in our housing system was a missed opportunity. It is unclear how effective the new regulations will be in terms of their main objective of limiting the outright purchase of housing estates by international funds, but given the relatively moderate taxation measure and the fact that planning permission changes will take time to kick in, it seems unlikely they will have any major impact in the short term.

There is, however, one obvious way to tackle the excessive impact of investment funds, and it is one that can work for both would-be first-time buyers and private renters, without unduly effecting the supply of housing. There is of course a wider discussion to be had about what if any role institutional investors should have in the housing system. But in this piece, I want to set that aside and focus on a policy measure which would make sense even from the point of view of the current government, i.e. even if you believe maintaining investment is the primary priority.

The measure involves regulating the private rental sector (PRS) to make it less attractive to investment funds, thus making them less dominant in the housing system, while at the same time making housing more affordable for tenants. There are two aspects to how this would work.

First, change the RPZ legislation to limit initial rent setting for new rental properties. Currently, annual rent increases within RPZs are limited to 4%. However, for new rental properties (e.g. when a fund buys an apartment block or housing estate and puts it on the market for the first time) there is no limit on the setting of the initial rent. The RPZ legislation can be reformed such that landlords who own 10 units or more must set rents beneath a predetermined level. This level could be determined by various factors, including current average rents in a given location, affordability criteria etc. The idea is not to make investment completely unprofitable, but to limit excessive profits via excessively high rents. In addition, the 4% annual rent increases should be reduced, possibly to around 2% per annum (further research would be required to determine the most appropriate figure).

Second, the Residential Tenancies Act (RTA) should be tightened for landlords with 10 or more properties in order to provide full security of tenure. Currently in Ireland, the RTA provides six-year tenancies. However, it also allows landlords to terminate tenancies on a number of grounds (e.g. if the landlord wants to sell, use or refurbish the property). In practice, this means tenancies last as long as landlords want them to last. Full security of tenure should be provided for tenants of institutional landlords by removing these grounds for termination. Institutional investors have made clear that they are interested in long-term returns, and the Government has also emphasised their ability to provide greater security and professionalism for tenants. Therefore, enhancing security for their tenants should not make any major difference to institutional landlord’s business model. Indeed, it is difficult to understand why this policy reform has not already occurred – and certainly no rationale for depriving the tenants of institutional landlords of security of tenure has ever been advanced.

Reducing the level of rent which investment funds can obtain via investment in PRS housing and strengthening regulation will have a number of positive impacts. It will make investment less profitable, and therefore somewhat reduce the overall level of institutional investment and rebalance our housing system. By the same token, it will reduce the amount investment funds are willing to pay for land and housing units and thus take some pressure off house prices. It will help to create more of a level playing field for would-be homeowners. At the same time, it will have a direct impact on rents thus making housing more affordable for tenants. In other words, a number of policy goals to which Government has already committed can be achieved, and at no cost to the exchequer.

Of course, there is also an argument to be made that these same policies should apply across the rental sector, but we’ll leave that for another day.

The government has made clear that they consider investment funds to be crucial to the supply of apartments, especially in Dublin. This set of policy reforms, however, would not eliminate investment funds altogether. It would still be possible to obtain long-term returns from investment in PRS housing. But what they would do is to reduce the “free for all” situation currently enjoyed by the funds and therefore their dominance in the housing market, and to rebalance our housing system so that it is more favourable for tenants and households. They also have the benefit of not relying on the somewhat bizarre distinction between housing estates and apartments.

There is also scope here to deal with some of the problems in relation to the supply of private rental housing from small-scale landlords, a sector which has been declining in recent years. Landlords who are willing to deliver housing on the terms described here (i.e. accepting limits on initial rents and lower annual rent increases, and providing full security of tenure), could be made eligible for more favourable tax treatment. This is something landlord representative bodies have been demanding for some time, and, more importantly, would have the benefit of enhancing supply while also delivering better outcomes for tenants.

This summer, Darragh O’Brien is due to publish his housing policy programme, the successor to the Rebuilding Ireland strategy that has been in place since 2016. He will face a series of thorny problems and difficult trade-offs. The housing system is complex and the crisis is at this stage very, very deep. There are very few easy wins to be had, but I think this proposal is one of them. There is a consensus that investment funds have become too dominant in the housing system and that this is leading to bad outcomes for households who want to buy and for those who currently rent. There is also a consensus that the PRS needs to deliver much better affordability and security for tenants. Regulating institutional landlords allows us to kill both birds with one stone. And it can do so with limited risk of unintended consequences, such as torpedoing the supply of apartments.

One reason that the Minister may not pursue the course of action advocated here is wariness of ‘interfering in the market’. This is why the last government, under the Rebuilding Ireland stratgey, chose to only impose a 4% cap on RTZ rent increases (thus allowing affordability to continue to deteriorate rapidly), to exempt many properties, and to limit the RPZ legislation to just three years. It is worth recalling the rationale provided in the Strategy for the Rental Sector document, published in 2016:

“The rapid rate of rent inflation in areas of the country where the demand for residential rental accommodation outstrips supply constitutes the most significant challenge facing the sector, the solution to which is ultimately to be found in increased supply of new rental properties. It is generally accepted that there is an inevitable time lag associated with additional supply coming on-stream to the extent required, however, there is less of a shared understanding regarding the short-term measures that might be required to respond to the rental pressures in certain areas, while the supply response ramps up. There are legitimate concerns regarding the potential for rent caps to discourage investment in supply, exacerbating an already stressed situation.”

The key argument here is that the affordability problems in the rental sector are a consequence of a “time lag” with regard to new supply; the implication being that once a certain amount of time has passed supply will catch up with demand and we will reach a market equilibrium. For this reason the strategy document explicitly criticised those who advocated stronger rent controls, such as linking rent increases to CPI. Instead, as we know, a “time bound” strategy was introduced, with Rent Pressure Zones initially to last just three years. In reality, the government has had to extend the RPZs and will no doubt extend them again. Although it will never be acknowledged in public, it is clear that the problem was not, and is not, a “time lag”. In housing markets generally, market equilibrium is a chimera. In hindsight, the limited and time-bound nature of the RPZ measures was a huge mistake – the nettle should have been grasped in 2016. Instead, affordability has been allowed to deteriorate further making the problems in the sector even more difficult to solve.

When it comes to O’Brien’s new strategy, will a naïve faith in the market triumph again? Or will we see a willingness for more decisive intervention? I don’t know about you, but I’m not feeling overly optimistic.

Events

There are quite a few interesting events coming up. Most importantly, Threshold, in conjunction with the ESRI, will be organising a conference to take place on the 1st of July looking at the impact of Covid-19 on the PRS. I’m really looking forward to this event and will include more details in future issues of this newsletter. Over in the UK, this seminar focusing specifically on the challenge of providing advice to tenants looks to be really interesting, especially for those who work in the advocacy in the sector. And at a European level, this looks like a great session on fighting slumlords, something we know a thing or two about in Ireland.

What I’m reading

Those of you who attended the seminar I organised a while back and the impact of Covid-19 on renters (available here), will remember Adriana Soaita’s great presentation. The full report of the research that presentation was based on is now available to read here, and is well worth a look.