August 13, 2019

To Combat Gentrification, NYC Needs Simpler, Speedier Policies

Michael Lappin

Michael Lappin
Managing partner /MLappin & Associates LLC

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Opinion: To Combat Gentrification, NYC Needs Simpler & Speedier Policies

By Michael Lappin | June 26, 2019

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Madison/Putnam Houses, Bedford Stuyvesant, Brooklyn: In-fill affordable housing built by CPC’s development subsidiary in the mid-2000s

A sure sign that a neighborhood is undergoing gentrification is the ever-increasing residential construction activity on a street.

Nearby is the new coffee shop, and perhaps a dog grooming salon on the corner. Drive throughout Brooklyn, upper Manhattan, Jamaica and other areas of Queens, and now, even parts of the South Bronx: new buildings are popping up everywhere. Much of this building is on tree-lined streets with small three-, four- and five-story apartment buildings. Some are condos, many rentals, but all foretell a changing social mix as more affluent households move into the neighborhood.

While such changes stir a mix of emotions and raise questions, both positive and negative as to the effects on local services—schools, retail, etc.—such trends are not inevitable. In many of these multifamily zoned areas, there are still many opportunities to build. These include vacant land, the “missing teeth” in residential blocks, underbuilt sites (one and two-family homes), commercial strips with permitted, but unbuilt residential floors. An active public program incentivizing an affordable alternative to market-rate housing might create and preserve a portion of the neighborhood’s housing for moderate-income households, and a less pricey option for new arrivals. How might this occur?

In the current market, expeditious decision-making is imperative. New York City‘s real estate markets are swamped with developers and/or builders looking for the next new neighborhood to be gentrified. To compete in this environment, the city must offer an attractive affordable housing alternative, define the neighborhoods where it is available, and implement individual deals on a timely fashion.

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Existing city programs fall short on these measures as they are too encumbered with lengthy processing to effect a timely intervention and the possibility of a robust program. However, older programs, like the Participation Loan Program (PLP), might be adapted to this task. That program provided secondary loans for privately financed developments at rates of 1 percent. In an earlier generation, the PLP rebuilt tens of thousands of deteriorated and vacant buildings.

What are the elements of an attractive affordable alternative to market-rate housing? First, is a high percentage of financing. The city, using its 1 percent loan program, combines with, but subordinates to, private financing, to fund up to 90 percent of the costs to build an affordable rental building. This is very attractive as most private developments typically get about 70 percent of their costs financed, with the remaining monies coming from their pocket or from other high-cost equity funds. Next, appropriate caps would be put on the acquisition and/or refinancing costs. In exchange, the developer would agree to price rental apartments at an average percentage, say 80 percent, of market rents and/or housing costs in the area, and rent to income-eligible households. All apartments would be put into the rent stabilization system for a 35-year period. It is assumed that there is confidence that the system will fairly account for increased operating expenses in setting rental lease renewal rates.

Second, to assure long term financial feasibility, real estate taxes would be reduced in accordance with the city’s 421a program—almost full tax abatement, and exemption for up to 35 years. The city’s 1 percent financing would be fixed for up to 30 years (possibly interest only), and subordinate to a fixed-rate long-term private mortgage. The amount of city 1 percent funds would be such that there be sufficient cash flow to account for normal cost fluctuations in operating the building, as well as provide a reasonable return on the owner’s investment. The city or state pension funds could be used for the private first mortgage as they will set the interest rate for the 30-year long-term mortgage at the construction closing. This will protect the property from spikes in interest rates and provide long term stability to the building.

The third and crucial component is the expedited processing of the city loan. This might be the most challenging element for the city to deliver. To move quickly, prototypical buildings’ designs and specifications should be approved in advance by the city for typical in-fill residential building sites. As an example, under my tenure at CPC, we developed some 60+ prototypical 8 unit, 4-story buildings that fit in vacant lots in R-6 zoned neighborhoods. These were built between 2004 and 2012 with hard costs ranging from $100 a square foot to $180. Speaking to some of the same builders, today’s price would be somewhere between $225 and $250 a square foot, assuming no unusual site conditions and speedy processing. Other prototypes can be developed for other residentially zoned areas. Thus, builder/developers who buy a property in a designated area and chooses to build the prototype would be eligible for the program’s benefits.

If this is to occur in a timely fashion, say within six to eight months after a purchase contract is signed, the city will need banking partners. The bank has a dual role. First, the bank would vet the credentials and financial strength of the builder/developer. Second, they would make an acquisition/bridge loan for the property, providing time for the subsidy programs to be put in place. Beyond this, the bank would provide the private funds for the construction loan, and arrange for the long-term loan for the property, perhaps through the pension funds.

For banks to play this role, they will need to be confident that significant city resources be dedicated to the program, and that the program’s operation will function predictably and efficiently. There should be an advanced agreement with the city on underwriting standards, construction and permanent loan documentation, prototype design and specifications, construction cost guidelines, required loan guarantees, program parameters, e.g., caps on acquisition/refinancing, etc. Further, the city should deposit all its subsidy funds with the participating bank at construction loan closing, and the bank would administer the construction loan. A single engineer/architect agreed in advance by the city and bank, would have the authority to approve all construction loan advances on behalf of both parties in accordance with the construction documents

Operationally, the city and bank must organize the program to ensure that authoritative decisions can be made expeditiously as issues inevitably arise on individual transactions. This was essential when the City undertook the restoration of thousands of small, vacant city-owned buildings during the Koch and Dinkins’ administration.

Finally, the city will have to make a judgment as to what areas they will want to designate for such a program. Some areas may have such high land prices as to render any affordable housing infeasible (excluding rezoned areas which explicitly have an affordable component). However, there are many mid-rise zoned residential areas that might be ideal for such a designation. To start, the city might select areas near transit hubs which have as-of-right 421a benefits and access to public mortgage insurance. The latter may make bank participation more attractive.

One can envision this program taking root in many areas in Brooklyn, Queens, upper Manhattan and emerging areas in the Bronx. It can potentially engage an army of small builders, vetted by banks, to produce affordable housing in some of the City’s gentrifying neighborhoods. Thus, stable, economically integrated communities may in some measure be achieved, with the benefits – schools, local services, nearby transportation—flowing to its residents.

The program offers the city a way of diversifying its sources of financing for affordable housing, relying more on private sources and not be so singly dependent upon its bonding authority or the use of low-income housing tax credits. It also provides a way of building small buildings that are generally not feasible with more complicated public programs. The program has the potential to be applied on a much broader scale to larger buildings, with the possibility of lower costs and higher volumes. Worth a try!

Michael D. Lappin is the founding member of M Lappin & Associates and the past CEO and president of the Community Preservation Corporation (CPC) and CPC Resources Inc. (1980 – 2011)

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