After 15 years of underbuilding to meet population growth nationally, many localities suffer an acute shortage of affordable housing. Add to that the problems of homelessness and rent inflation, and it’s no wonder that state and local politicians are often urged to “do something” for first-time buyers and to stimulate more home construction.
Part of the affordability problem could be cured if interest rates were to return to the low levels of 2020-2021, but that scenario now seems far off in the distant future, given the highest inflation rates we’ve seen in 40 years — exacerbated by tight housing markets — and the Federal Reserve's intention to keep raising its key rate until there are clear signs of inflation subsiding materially. Add to that the hovering risk of a recession, and the homebuilding industry cannot take the risk of overbuilding if buyers are frozen out by unaffordable mortgage math.
Now that the midterm elections are behind us, it’s time for state legislatures and local officials to quickly enact some coordinated policies to help first-time buyers get into new homes while also giving local builders an incentive to supply much-needed new construction. This effort can include single-family homes, townhouses and multifamily condominiums. Success won’t come easily, but it’s a feasible objective if public officials roll up their sleeves and get their act together.
For incentives to work, policymakers will need to agree on a bipartisan intergovernmental strategy that provides meaningful budget relief to qualified first-time homebuyers and sufficient financial incentives for the homebuilders to start pulling permits and staffing up their work crews. States alone cannot make this happen. Cities alone cannot make this happen. Coordinated state-and-local policy platforms will be needed.
At the local level, with reimbursement from their states, cities and counties can provide financial support to new homeowners by granting property tax waivers to homes built after 2021. With property taxes generally ranging from 1 percent to 2.5 percent across most of the nation, a complete tax waiver for qualified owner-occupants of new homes priced below the statewide median would offset a sizable chunk of the mortgage interest payments first-time buyers now face. That tax relief alone wouldn’t bring the cost of monthly payments down to 2020 levels, but it would go a long way.
To qualify, I’d suggest that the homebuyers cannot have owned a home for at least 10 years. This rule allows those who lost their homes in the Great Recession to re-qualify if they can now meet credit standards. As a sweetener to boost statewide and local political favorability, qualification can also be expanded to include otherwise ineligible commuting first responders who relocate to new homes in the communities they serve; this pulls in the public safety fan base for political support.
A Level Playing Field
These pro-growth new-buyer incentives cannot realistically be funded by the local governments that rely heavily on property taxes, especially the school districts that will arguably face higher costs for new pupils, so it’s only fair that the states should pick up the tab by reimbursing their local tax collection agencies for the waived revenues. Moreover, local officials need a level playing field statewide, and recipients deserve equal treatment regardless of location.
Obviously this subsidy cannot go on forever, so these property tax waivers and reimbursements should all sunset at some point, perhaps in 2030, and new waivers should discontinue if conventional mortgage rate indexes fall below a 5 percent kill-switch level.
The states should also grant income tax credits to these qualified buyers, to offset their mortgage costs, at perhaps 50 cents on the dollar of interest paid in each tax year until 2030. That would reduce the effective interest rate on a 7 percent mortgage to 3.5 percent. If interest rates drop and the owners refinance, their tax credit would adjust downward automatically along with the lower monthly payments. Where the owners’ state income tax bills are less than their annual credit, they would be allowed to file for a retroactive tax refund for prior years or carry the credit forward into future years, so that they pay nothing that year and “bank” their credits. States with no income tax could send a check or debit card.
These tax credits should not apply to households with incomes over $250,000, who ought to be able to afford a starter home without a subsidy. Nor should the tax credits plus the property tax waivers exceed the new homeowner’s mortgage interest payments, so that nobody can turn a profit from borrowing money.
Benefits for Builders
To get the attention of the builders, the states could also provide them with an income tax credit that is pro-rated for the percentage of their completed-property sales that are purchased by these qualified buyers. The builders would thus benefit directly from finding and selling to first-time buyers. This would promote construction of starter homes and middle-income condo units.
There is also a role for the municipalities that issue building permits and those collecting water and sewer connection fees or similar exactions from builders and developers. They can allow a rebate of those fees, along with a 20 percent servicing fee, to builders who pass the savings along to qualified buyers. That escrow credit could be counted toward the required down payment by mortgage lenders, thus making it easier for first-time buyers.
To be fair, the states need not underwrite these reimbursements, because local governments should bear some of the financial burden of promoting needed new housing construction. (However, where state laws require reimbursement for state mandates, then such rules should apply.)
These incentives would mean a lot to the homebuyers and builders, yet they are a rounding error in state budgets. For local governments, the net cost of selectively rebating permit fees is likewise a trivial portion of their tax bases. But the positive messages that these programs would send to the housing sector would help kick-start construction where it’s needed most.
There’s a lot of big-talk theory these days about “Rethinking Revenue.” This is a perfect project for those rethinkers to put some effort into achievable policies. They, along with housing advocates, homebuilders, public safety lobbyists, municipal associations and local government officials, should work together to draft model legislation to put this idea into action while the time is ripe.
Governing's opinion columns reflect the views of their authors and not necessarily those of Governing's editors or management.
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