Western City Magazine
Housing and the Future of Municipal Financial Solvency
The increases in the Regional Housing Needs Allocation (RHNA) building quotas that have been handed down to California cities and counties by the Department of Housing and Community Development (HCD) in Sacramento for the next 8-year Housing Element cycle are unprecedented. In many instances, these unfunded mandates have increased by hundreds of percent from past quotas.
For example, for the County of Marin, the housing quota has increased by almost 1,000% since the last cycle. This quota exceeds the historical growth rate by almost the same rate, so how likely is it that they will meet the next quota when the economics of housing development is no longer as favorable as they have been? And since RHNA quotas across the board have been set at totally unrealistic and completely unachievable levels, what will happen to the majority of California's cities and counties once they become "non-compliant" with their quotas?
The era of historically low-interest rates on mortgages and construction loans is probably over for the foreseeable future. And even in normal times, tax revenues from housing development are at best a break even for cities and counties and often a net loss compared to the cost of providing infrastructure and public services and amenities for the additional residents (cities without any commercial, retail, or industrial tax base generally have proportionately greater financial difficulties). As such, the economics and housing market dynamics presently at play will test the financial wherewithal and consequently the solvency of local municipal governments, going forward, like never before.
We are undoubtedly headed into a prolonged period of subpar economic growth, higher interest rates, and lower investment returns than we’ve experienced in the last decade. This will make achieving adequate returns on investment in housing development, particularly affordable housing development, much more challenging. At the same time, in California housing prices have either stopped rising or are falling in many areas, which means property tax revenues will go down because assessed valuations on existing homes will start falling and existing homeowners will file for decreases in assessed value.
Now add to this mix the enormous financial burdens on our cities and counties as they attempt to pay for the costs of providing adequate infrastructure (roads, sewers, water, etc.) and public services (police and fire protection, schools, social services, parks, etc.) to accommodate new housing development (particularly low-income housing development that will be exempt from paying any property taxes) and to maintain services for existing residents. And all this is happening at a time when it will be increasingly expensive for municipalities to refinance existing short-term debt or seek new long-term debt. And finally, the costs of staff salaries, healthcare, and benefits are also rising and returns on pension plan assets have fallen far below projections, creating unfunded liabilities that are reaching onerous proportions for many municipalities.
The impacts of these circumstances should not be underestimated.
Most cities in Marin County, where I live, have already been reducing capacity for years even before the pandemic and they continue to cut back on hours of operation, new hiring for all city departments (in many cases relying on third-party contracted services), and regular maintenance and repairs of our streets, sidewalks, parkway medians, parks, and pretty much everything else. It's also no secret that our major infrastructure systems (water, power, sewer) are all long past their lifespan and in need of major renovation and replacement, which is so cost-prohibitive that it could break the bank in most cities and counties.
On top of all this we have the myriad of increasingly punitive and often irrational housing laws passed by the state legislature in the past 7 years, many of which include significant fines and penalties and increased legal liabilities for being non-compliant with HCD demands. And, even though 95% of California municipalities cannot/do not historically build any kind of housing and have no control over whether private developers decide to build, they are penalized as if they do. These laws have also placed unsustainable cost burdens on municipal governments just to process and administer their housing plans to be compliant with HCD’s unrealistic and constantly shifting goals.
All things considered, the impacts and costs of all of this have the potential to drive a significant number of California cities and counties into bankruptcy within 10 years. Ironically, it may be that all of the negative economic factors noted above are the only thing presently holding back rapacious, profit-driven, development interests and forestalling that coming day of financial reckoning.
The American Planning Association recently warned,
"The onus is on local governments to think beyond the immediate expenditure of a given project… they must seek a long-term, dependable solution to their structural revenue and expenditure imbalances,” [and] “become more intentional about making financially savvy land use decisions.”
"Land use decisions [must] provide for sufficient taxable activities to pay the cost of maintaining the infrastructure that was built to serve the development. [This lack of forethought explains why] many local governments face difficulties funding infrastructure maintenance and replacement.”
Local city and county governments and local agencies already shoulder the lion’s share of the financial burdens of providing public services and maintaining infrastructure, yet they receive only a paltry share of the property taxes their residences and businesses pay, every year (e.g., the City of Sausalito only receives about 12% of the property taxes its residents pay to the state). The imbalance of who pays for public services expenses, in this example, local police protection, is presented in the chart below.
The same holds true for the costs for firefighters, emergency responders, road maintenance, sewer and water services, schools, and much more.
At the same time, local municipalities have very limited means available to increase their revenues. They can raise regressive sales taxes, raise the costs of fees and special charges, or try to persuade voters to approve more special charges and bonds to tax themselves. But resistance to all of these has been rising among California voters and the combination of the rising cost of living and the continuing destruction of the American middle class are big reasons for that.
Some cities and counties, particularly smaller ones, have tried other ways to get out from under these unsustainable costs. Many have tried to create joint powers authorities or other entities to share or combine police and fire departments and other agencies and obligations (e.g., The State Senate just proposed another law to allow municipalities to create joint powers authorities (JPAs) that can aggregate funds to build affordable housing). But as noted in a recent study by Cornell University, experience has shown that in the long run this does not work out, financially.
“Our multivariate time series regressions find that service sharing leads to cost reductions in solid waste management, roads and highways, police, library, and sewer services; no difference in costs for economic development, ambulance/EMS, fire, water, and youth recreation; and higher costs in elder services, and planning and zoning. These differences are explained by whether services have characteristics such as asset specificity and the ability to achieve economies of scale on the one hand, or if sharing leads to greater administrative intensity or promotes other objectives such as quality and regional coordination outcomes on the other hand. We also analyze the effect of sharing on service costs over time, and find solid waste, roads and highways, police, and library are the only services where costs show a continued downward trend. These results show the limited role for economies of scale, even in asset specific services. Because cost savings are elusive, public sector reformers should be careful not to assume cost savings from sharing. The theoretical foundations for service sharing extend beyond economies of scale and transaction costs. Scholars should give more attention to organizational form and the broader goals of sharing.”
So, what is the endgame here?
Ever since the state began ratcheting up the RHNA housing quotas more than a decade ago, many of us have wondered how the costs of the impacts of all this development will be paid for. The way the rules are presently set up it certainly won't be private real estate developers, who can now skate through the approval process without paying impact fees or the costs of CEQA studies or having to put up with all those “annoying” public participation meetings. And, yes, there will be more public grant programs and tax credits for developers, more land use rights giveaways, and more low-cost construction loans.
But, the same question pertains: Who is going to pay for the costs of all that?
Well, if you’re a middle-class homeowner who worked hard and sacrificed and saved to be able to buy your home and have invested your time and energies helping to make your community a better place for everyone, and you’re looking in the mirror, you’re looking in the right place for the answer.
Bob Silvestri is a Marin County resident, the Editor of the Marin Post, and the founder and president of Community Venture Partners, a 501(c)(3) nonprofit community organization funded by individuals and nonprofit donors. Please consider DONATING TO THE MARIN POST AND CVP to enable us to continue to work on behalf of California residents.