Redirect Federal Housing Tax Expenditures from “Gated” Cities to “Opportunity” Cities
House prices have surged over the past decade, doubling while general prices have only increased by a third. Numerous municipalities help to fuel this housing cost rise by exercising an overly burdensome regulatory process. These restrictions impose severe costs on potential new residents and the national economy – with one estimate that local zoning laws reduced U.S. growth by 36 percent between 1964 and 2009. Preferential tax benefits for housing — including the mortgage interest and property tax deductions and the exclusion of capital gains on home sales – become especially valuable for landowners in restrictive housing markets where prices are high and new construction is low.
To address this challenge, I propose removing housing-related tax expenditures in cities that excessively limit housing production and redirecting them to incentivize housing growth in nearby cities.
The federal government is projected to spend $604 billion over the next five years in tax benefits for homeowners. Under this proposal, the federal government would remove housing tax benefits for all landowners in identified cities that refuse to build housing at a pace necessary to accommodate our growing nation. To maximize benefits from this policy, these tax savings would then be redirected toward residents and governments (through direct payments or tax credits) of cities that build enough new housing for future residents to migrate to these same metro areas.
Recommendations
Specifically, this proposal would remove housing-related tax benefits for all housing units within “gated” cities and redirect those tax savings toward “opportunity” cities.
- These housing-related tax incentives include the mortgage interest and property tax deductions and the capital gains exclusion for home sales.
- Tax expenditures saved by the removal of these incentives would be tallied and distributed to other within-metro opportunity cities.
- These tax benefits would be removed for all housing units in gated cities – both owner-occupied and rented units.
- Gated cities would be identified as cities where home prices are high and housing growth is low.
- Since regulatory burden is difficult to observe directly, gated cities would be identified based on average home prices and housing unit growth observed in the American Community Survey. My proposed definition is cities where median home values are two-thirds greater than the census division median for metro areas and below two-thirds the median housing unit growth rate for metro areas.
- Opportunity cities would be identified as high-growth cities within each gated city’s metro area that build a relatively high share of housing for their urbanicity status.
- My proposed definition is cities with housing growth more than two-thirds above the metro-area growth rate, while also being above census division average housing growth rate for urban areas.
- Because expected housing growth differs by urbanicity status, the growth threshold value could be conditioned based on the National Center for Health Statistics urban-rural classification scheme.
- Tax expenditure savings from gated city exclusions could flow as a mix of refundable tax credits or direct payments to each resident of opportunity cities and direct payments to municipal governments. These payments would help offset the fixed cost to public goods and infrastructure arising from increased housing while creating a broad constituency to promote and advocate for reducing housing supply barriers.
Should this proposal be implemented, there are important considerations to keep in mind:
- This plan provides billions in housing supply incentives without increasing the federal budget a penny. Housing costs a lot. It accounts for 34% of household spending and aggregate home values top $47 trillion. As a result, it becomes very costly very quickly to meaningfully affect housing supply through subsidizing construction. With this carrot-and-stick policy design – and affecting less than 5% of the population with the above proposal — this policy leverages a precisely targeted punishment to directly incentivize more housing growth in high-value areas at no budgetary cost.
- Overcoming minor preferences: While most people favor policies to expand housing supply, small and determined groups of residents can have outsized power in local politics. By providing a modest incentive to increase growth in desirable metro areas combined with a significant financial cost to obstructionist cities, this legislation creates natural constituencies to better achieve the majority sentiment while helping our nation grow.
- Federal tax benefits for homeowners encourage and reward long-term social and community investments of their residents. By refusing to allow adequate housing growth, gated cities turn their back on future generations. This policy respects a city’s right to make this decision but also helps communicate the harm restrictive zoning produces by withdrawing housing tax benefits.
- Existing legislation and precedent: This plan follows a similar design as Opportunity Zones in the 2017 Tax Cut and Jobs Act legislation. Instead of providing tax benefits to distressed areas, however, this legislation would remove tax benefits from gated cities.
This idea of merit originated from our Housing Ideas Challenge, in partnership with Learning Collider, National Zoning Atlas, and Cornell’s Legal Constructs Lab. Find additional ideas to address the housing shortage here.