In many communities across the country, the housing affordability issue has worsened from a perennial concern to a real crisis. The shortage of units available at price points that residents can afford has become widespread.
But if demand for affordable housing is so great, why is the market failing to produce units that people can afford?
There are many factors that impact the cost of building housing, which have an impact on the amount and type of housing that is ultimately built. The cost of housing can be divided into two components: the cost of land and the cost of construction. While construction costs vary from place to place based on the availability of labor and materials, building code requirements, environmental regulations, and other factors, it is the cost of land that tends to ultimately dictate housing price points. In order to achieve an acceptable return on investment, a housing developer has to deliver a product that commands prices high enough to justify the purchase price of the land on which it sits. In areas with high land values, it simply does not make sense from a market perspective to build lower-value housing.
So, how much do land values really vary from place to place? This month’s indicator uses a dataset from the on land and property values in the US to explore the impacts of land costs on affordable housing. The dataset contains estimates of the average value of housing, land, and structures, and price indexes for land and housing, for the average single-family detached owner-occupied housing unit in each of 46 large metropolitan areas in the United States.
Based on the most recent quarter for which data is available (2016Q1), the range of average home values in the sample is significant, from just $142,000 in the Oklahoma City MSA to over 9 times that in the San Francisco MSA (over $1.3 million). The structure cost—the average replacement cost of the housing structure itself, after depreciating the structure based on its age—only varies by $178,000 between the highest and lowest MSAs.
It is the land cost differential that is chiefly responsible for the huge range in home values across metros. Rochester, NY, has the lowest land costs, just $10,000, compared to over 100 times that in San Francisco, where land costs top $1 million. Of the 46 metros included in the study, the top 6 in terms of land costs for single-family homes are in California. Seattle (ranked 8th) and three Northeastern metros—Boston (7th), Washington, DC (9th), and New York (10th)—round out the top 10. Unsurprisingly, Midwestern Rust Belt cities tend to have the cheapest land costs. See the chart below for the full ranking of all 46 metros.
In addition to the differences in absolute land values, the share of land cost as a share of total home value also vary enormously across metros. In Rochester, land cost comprises only 6% of total home value, while in San Francisco, land cost makes up 81%. Ten metros had land values making up at least 50% of home value. For the remaining 36 metros, structure costs accounts for the majority of home value. Note that this data takes into account all single-family detached units and adjusts structure costs for depreciation. For newly built units, land cost is likely to represent a comparatively smaller share of total development costs.
Why Is This Important?
Is the market in your community producing housing at price points that are affordable to existing residents? In other words, can your community afford affordable housing? You can use your community’s assessment database to calculate the average cost of land and the cost of land relative to home value. Compare it to data from Lincoln Land Institute for your metro or state. If the market is not producing affordable housing on its own, high land costs may be contributing to the problem.
Policies and public-private partnerships may be needed to incentivize new affordable units. Some strategies for encouraging affordable housing may include unlocking public lands for housing development, providing financial and/or technical assistance for redeveloping vacant and under-utilized parcels, easing large-lot zoning requirements, streamlining approval processes to minimize uncertainty, and partnering with non-profits that focus on lessening risk to developers. These strategies can all help to reduce the costs of development and ultimately enable production of less expensive housing units.
Data Source: Davis, Morris A. and Michael G. Palumbo, 2007, "The Price of Residential Land in Large US Cities," Journal of Urban Economics, vol. 63 (1), p. 352-384; data located at Land and Property Values in the U.S., Lincoln Institute of Land Policy http://www.lincolninst.edu/resources/