California Supreme Court Makes Housing Less Affordable

The California Supreme Court this past week upheld a City of San Jose ordinance that requires housing developers to set aside a certain number of housing units at below-market-rates for low and moderate income residents.

That sounds like a great idea on its face. After all, we want everyone to be able to live in quality housing and achieve the American dream of home ownership, right? T.S. Eliot stated that “Most of the evil in this world was done by people with good intentions.” That’s where this concept lands in practice.

Inclusionary zoning, the technical term for this practice really has just the opposite effect on housing and housing prices. There are a number or reasons inclusionary zoning does not function as it is intended.

First, the policy of inclusionary zoning assumes, by default, that current zoning and building practices are in fact “exclusionary” and require a government solution. The facts are that housing developers are constrained by a number of factors, some that are economic in nature and others that are government created through development codes and zoning policies.

Economic factors beyond home builders control include the price of raw land (or redeveloping land), the ability of home buyers to afford new houses, and interest rates for home mortgages. Government factors include mandatory lot sizes, building fees, building standards, and infrastructure requirements. All of these outside factors determine whether or not a builder can or will build housing and what kind of housing they must build to be profitable.

Like all investors (and real estate is an investment), home builders desire to maximize their profits which requires them to build a product that increases value and is desired in the market it is sold in. Beyond where property is purchased and developed, most of the other factors such as what type of houses to build, and what price they can be sold at, are determined by what the market will bear.

While many of these government standards are important to maintaining a community’s quality of life and desired community standards, they do have a significant price tag that is attached to every home purchased by a would be homeowner.

The easiest of these to explain is density or lot size. All cities in California have minimum lot sizes for development per acre. While the purchase of the raw land is fixed, a city’s density standards determine how many houses a developer can build per acre. Allowing greater density (while clearly not desirable everywhere) allows for developers to offset the cost of the land among more units thereby providing a great financial offset per house, which is passed on to the purchaser.

These regulations are (most of the time) legitimate land use decisions that impact the quality of life for the community.

Inclusionary zoning has the same impact on housing prices. If a developer builds housing in a community and is then required to set aside some of that housing below market rate for low to moderate income persons, who pays for the offset? Certainly not the developer. Those costs must be passed onto the other home purchasers who are not buying the set aside homes.

Worse, it may cause home builders to avoid building in certain areas all together, further exacerbating the existing housing affordability issue that inclusionary zoning was designed to correct.

Sounds familiar doesn’t it?

There is also a problem with the Constitution which the California Supreme Court just plain ignored and that is that a property owner following the existing rules is being required to build less profitable products than he/she otherwise could, thereby financially penalizing the property owner. In common law that is called a “taking” by government and government cannot do that without justly compensating the property owner.

Unfortunately, in California, that doesn’t seem to matter anymore.