Executive Summary

Problem

In 2017, the California Tax Credit Allocation Committee (TCAC) allocated $278,000 in tax credits per low-income unit funded through the 9% program. This figure is not just the highest in California history, it’s 25% higher than the next highest year, 2016. Was this just a “bad year” with subpar projects? Not according to winning tiebreakers that averaged 50%, 7% higher than recent years. So what is causing this inefficiency? The final tiebreaker itself!

If you’re familiar with the 9% tiebreaker, you know that it is decided by whomever gets the highest percentage of their costs paid for by public funds. But did you know that (a) it doesn’t care how many credits you request, (b) it mostly ignores voluntarily excluded basis, and (c) it gives you a better score if you reduce your unit count? Sadly, winning means increasing government spending and decreasing project size; the tiebreaker incentivizes inefficiency.

Is this what California needs in the midst of a housing crisis? No, we need more homes! We need to build more low-income units with the resources we have and present a better case for additional resources from state and federal legislators. Admittedly, California is the poster child for high housing and construction costs, a reality for which we need a defensible system to address.

Solution

We need to replace our convoluted 9% tiebreaker with one that incentivizes efficiency, thereby increasing production. We need to award applicants that propose the most units per million credits. Doing so will (a) remove the incentive to reduce units, (b) give developers a clear mission, and (c) spark creativity. No longer will the tiebreaker be apathetic towards government spending; it will demand productivity and force everyone in the industry to sharpen their pencils.

I realize that developers’ jobs will be harder, constantly trying to find ways to cut unnecessary costs, raise additional capital, and achieve economies of scale. But wouldn’t it be worth it to produce just 200 more units each year (5%)? Might that innovation spill over to the 4% program and produce additional housing there too? Could such progress get the Governor to put $400 million back in the budget for affordable housing, producing 2,500 more units each year? And what if by getting our act together we convince skeptics in Congress to lock the 4% tax rate, producing 2,000 more units for Californians each year? Is it worth the effort?

Proposal

California should incentivize production by changing the 9% tiebreaker to most units per million credits. Such a tiebreaker will incentivize developers to (a) request less credits, (b) propose more units, (c) obtain advantageous financing, (d) remove unnecessary costs, and (e) design for construction efficiency. Developers will need to be judicious and get creative to stay competitive. But not just developers, local agencies, investors, lenders, and contractors will be motivated to sharpen their pencils and maximize units. Everyone will be working towards one goal--developing more homes for Californians.