Affordable Rental Housing Development in the U.S. For-Profit Sector: Implications of a Case Study of McCormack Baron Salazar

Abstract

The question of how to build decent housing that is affordable to lower income households has challenged policymakers in the United States for decades. In response, the federal government has developed a variety of partnership approaches that involve private for-profit developers. Although these entities are currently the major producers of affordable housing in the United States, they have received relatively little attention from the academic and policy communities. This inquiry is aimed at filing a small portion of this gap by presenting a qualitative case study of one of the country’s leading for-profit developers that has a longstanding commitment to affordable housing, McCormack Baron Salazar. Using a modified version of the quadruple bottom line framework as the starting point, this exploration discusses the complexity and challenges facing the affordable housing sector and offers programmatic and policy recommendations that are applicable to both for-profit and nonprofit developers. In view of the results of the 2016 presidential election, and the likely continued retreat by the federal government from supporting affordable housing, the need to better understand, and form productive working alliances and collaborations with, private for-profit affordable housing developers is more compelling than ever.

Keywords:

• Affordable housing
• for-profit developers
• nonprofit developers

Acknowledgments

Thanks to Christopher Herbert, Managing Director of the Joint Center for Housing Studies, for his enthusiasm for this effort and for providing financial support. I am grateful to Irene Lew, research assistant at the Joint Center, who provided many important suggestions and much assistance throughout the project. Sincere thanks to Richard Baron for encouraging me to undertake this inquiry, for his consistent and patient help, and for his many thoughtful comments, from start to finish. Also, thanks to all the McCormack Baron Salazar staff members, as well as all the others, whom I interviewed. I extend a special thank you to Kevin McCormack, Langley Keyes, and Tal Aster for providing detailed and helpful feedback on the draft manuscript of the original report, and to Cady Seabaugh for assistance in compiling MBS data. I am also grateful to Tom Sanchez and to the anonymous reviewers for their support and many good suggestions.

Notes

1. Affordable housing is difficult to define precisely. The federal Low Income Housing Tax Credit program, for example, is targeted to households earning no more than 50% or 60% of area median income (AMI). The federal public housing and Housing Choice Voucher programs are aimed at households earning 50% of AMI or less. In contrast, some state- and local-level affordable housing programs target their units to households earning no more than 80% of AMI. All these initiatives are considered affordable housing programs. Project-based affordable units (as opposed to units occupied with Housing Choice Vouchers) must stay affordable to a particular income group for a specified period of time. According to the U.S. Department of Housing and Urban Development (2017b), households are not expected to pay more than 30% of their income for housing.

2. Several public officials, and others, have commented on MBS’s reputation and the expertise of the firm’s principals: Caldwell (2015); Kimura (2007; p. 44, 2012, p. 28); Matthews (2004); McCormack Baron Salazar (2015). Awards to MBS or to one of its principals have come from the Urban Land Institute (2004, 2006), The National Council of State Housing Agencies (2005), The National Law Center on Homelessness and Poverty (2006), Enterprise Community Partners (2006), the Association of General Contractors (2010), and the National Council of La Raza (2015), among others.

3. As discussed later in this article, Richard Baron played an important role in developing the HOPE VI program (see note 25) and MBS has been a partner in a winning team for 19 HOPE VI grants, and 10 of the 22 Choice Neighborhoods Initiative program awards.

4. The case study originally appeared as a Joint Center for Housing Studies Working Paper (Bratt, 2016).

5. An earlier program, the Section 202 program, which was enacted in 1959, provided interest rate subsidies for private nonprofit (but not for-profit) developers of housing for the elderly and handicapped.

6. The HUD programs were known as the Section 221(d)(3) and Section 236 programs, enacted in 1961 and 1968, respectively. Section 221(d)(3) was not officially a HUD program until 1965, when HUD was created. Prior to that, it was administered by the federal housing noncabinet level agency that preceded HUD. The rural program, known as Section 515, was launched in 1963 and is the only BMIR program that is still operational.

7. “The 78% estimate excludes 7,408 projects in HUD’s LIHTC database for which information on sponsor type was missing. The estimate also excludes: 768 projects for which sponsor type was available but placed in service status or year, were unconfirmed. Also excluded were some 74 properties that were placed in service in 2014 and one in 2015…. Typically, some undercounting of properties occurs, since it usually takes 2–3 years to fully account for all of the properties placed in service for a given year” (email correspondence between Irene Lew and Michael Hollar, HUD Policy Development and Research office, June 2014). This explanation is offered courtesy of Irene Lew.

8. The Affordable Housing Finance survey does not account for the types of subsidies used in these projects. The rankings are based on the number of housing units serving residents who earn no more than 60% of AMI.

9. For additional information about the dominant role of for-profit developers in owning, acquiring, and rehabilitating affordable housing, see Affordable Housing Finance staff, 2016b, 2016c, 2016d).

10. This is based on a calculation presented in Bratt and Lew (2016), along with an accompanying table.

11. The range of housing problems facing U.S. residents, particularly those with lower incomes, is well documented by, for example, the Joint Center for Housing Studies (2017) and the National Low Income Housing Coalition (2017).

12. Seen in a larger context, MBS appears to fit the description of a firm that is committed to corporate social responsibility (CSR), “whereby companies integrate social and environmental concerns in their business operations” (The United Nations Industrial Development Organization, 2016). Starting in 2010, states began to pass legislation authorizing a special type of corporate entity, the benefit corporation, based on the CSR concept (CSR Wire, 2010). As of early 2017, 31 states had enacted legislation that enables firms to be considered benefit corporations if their mission and operations go beyond simply realizing profits (Benefit Corporation, 2017; Bend & King, 2014). At present, one would be hard pressed to find a business school in the country that does not include CSR in its curriculum, and large businesses often focus at least some attention and resources to the question of how they can be profitable while also fulfilling a broader social and environmental mission.

13. For good discussions on the pros and cons of the mixed-income housing strategy see Joseph (2006, 2010, 2013), Joseph, Chaskin, & Webbe (2007), Myerson (2003), Schwartz & Tajbakhsh (1997), and Smith (2002).

14. Although MBS was an early supporter of mixed-income housing, by the time the company was formed, it was already being pioneered elsewhere, such as in Massachusetts. Mixed-income housing was a hallmark of that state’s housing finance agency, which was launched in 1968.

15. In the 1990s, an alternative approach to transforming peoples’ lives emerged. Rather than revitalizing places and, at the same time, trying to help the people living there, the strategy of the Moving to Opportunity (MTO) demonstration involved assisting lower income households living in high-poverty areas to relocate to lower poverty areas (see, e.g., Chetty, Hendren, & Katz, 2015; Sanbonmatsu et al., 2011).

16. For-profits can set up LIHTC deals from the outset, so that after the 30-year compliance period, their developments can be transferred to or purchased by nonprofits (or tenants, resident management corporations, or government agencies) as a way to retain affordability. To do this, a for-profit owner can grant a right of first refusal to a nonprofit or an agency of state government for a statutory minimum price (outstanding debt plus taxes), which can be a below-market price. The LIHTC program also gives owners an opportunity to operate the property, without affordability restrictions after year 15, if the state agency is unable to find a buyer at the contract price. However, most states have regulations that require more stringent affordability standards.

17. Although MBS appears committed to helping people move on with their lives by promoting their economic security, as well as addressing other important problems, I was told that not all residents are interested in participating in the various programs that are available.

18. Also as noted previously, this study was not able to explore the third and fourth components of the quadruple bottom line. However, the visual quality of the developments that I visited was very positive, with well-kept buildings and open spaces. The need for developments to recognize the importance of environmental issues is the final component of the quadruple bottom line. This appears to be an important part of MBS’s business model, with about 25% of all MBS developments having received green certification. Further, over the past 5 years, the percentage of their developments that are green-certified has increased from 60–80% to 100%.

19. In addition to market discipline, for the first 15 years of an LIHTC development, the oversight provided by the federal government and the threat that tax credits could be lost if the appropriate mix of income-eligible households is not maintained also encourage the project’s owner to meet the program’s goals. Oversight during the following 15 years of a LIHTC project, and thereafter for developments with more than 30-year affordability periods, is provided by the state monitoring agency. However, after year 15, losing the tax credits is no longer a sanction for noncompliance with any of the program’s requirements.

20. A study of nonprofit-owned developments in the early 1990s similarly found that operating reserves were being used to cover expenses. However, the study did not include information on whether these were BMIR, Section 8 NC/SR or LIHTC developments (Bratt, Vidal, Schwartz, Keyes, & Stockard, 1998). Closely connected to the issue of operating funds is the inadequacy of funds for capital repairs. A national study of the public housing stock found that needed capital repairs would cost some $25.6 billion; additional repairs would accrue at the rate of $3.4 billion/year (Abt Associates and Company, 2010). Another study examined the capital reserves of USDA’s section 515 multifamily BMIR program and found that “None of the properties had enough money in reserve to address physical needs over time” and that $5.6 billion would be needed over the following 20 years, in addition to existing capital reserves, simply to cover capital costs (National Low Income Housing Coalition, 2016, pp. 4–31, 2017, pp. 4–35).

21. Another potential strategy that would enable owners of assisted housing to accumulate some additional funds to cover operating costs is for HUD to not reduce payments to housing authorities if tenant incomes rise. HUD programs encourage people to work and to maximize their income. But increases in tenant earnings do not improve the bottom line for management. Instead of reducing its payments, HUD could hold its payment for operating expenses constant, with the savings going to the owner/manager of the development. This could also serve to encourage managers to work harder to provide programs that promote skill training, employment, and, overall, economic security for tenants.

22. For example, one study of LIHTCs in five states found that 69% of extremely low-income (income at or below 30% of AMI) households and 22% of very low-income (income at or below 50% of AMI) households in these properties receive additional rental assistance, thereby enabling them to keep rent payments at an affordable level (Bolton et al., 2014, p. 8). And, further, “47% of the [LIHTC] properties placed in service from 1995 through 2006 house one or more tenants with rental vouchers [and] 7–13% of all voucher holders reside in tax-credit housing” (studies summarized by Schwartz, 2015, p. 145). Another comprehensive study, which looked at LIHTC developments in 18 states, totaling nearly 40% of all LIHTCs in the country, found that among households earning 30% or less of AMI, 70% receive an additional rental subsidy (O’Regan & Horn, 2013, p. 598).

23. This study did not include detailed analyses of development or management budgets This would have provided an opportunity for a more in-depth understanding of the firm’s financial priorities and trade-offs.

24. Other for-profits and nonprofits may pursue other activities (in addition to increasing the size of their management portfolios) to help close operating deficits, such as including commercial properties in their residential developments.

25. Richard Baron was a member of the National Commission on Severely Distressed Public Housing, and his early work with the St. Louis Public Housing Authority apparently informed the work of the Commission (as noted by Bruce Katz, Chief of Staff to HUD Secretary Henry Cisneros, cited in Riggs & Baron, 2004). MBS’s early experience with large-scale public housing renovation was similar to another high-visibility public housing redevelopment initiative—Columbia Point in Boston—that was also developed by a for-profit firm, Corcoran Mullins Jennison. Completed in 1990, the former 1,500-unit public housing development was replaced by some 1,283 mixed-income units, but only about one third of the final units are affordable to low-income households. The renamed Harbor Point experienced the same kind of demographic shift as similar MBS projects; only a fraction of the original households moved back into the new mixed-income development.

26. Texas Department of Housing and Community Affairs v. The Inclusive Communities Project, Inc.

27. See, for example, testimony by Rick Sauer (2016), Executive Director of the Philadelphia Association of Community Development Corporations. While noting that his organization supports affordable housing development “in high opportunity areas, it must be in addition to, and not a replacement of, the investments needed in struggling neighborhoods…. Investing in quality, affordable housing opportunities is a critical component of a comprehensive strategy to redeveloping low opportunity areas.”

28. Various versions of these recommendations appear in Bratt and Lew (2016) and Bratt (in press).

29. The several types of affordable housing developers vary in a number of key ways: total size of portfolios; size of individual development projects (e.g., individual buildings or entire neighborhoods); focus on urban or suburban development; desired level of profit and degree of risk that will be tolerated; commitment to providing social services; and whether the mission includes a commitment or desire to provide long-term affordability and other social objectives. On the issue of risk tolerance, Patrick Clancy, former president of The Community Builders, a large nonprofit affordable housing organization, noted that a lot of nonprofits will take on projects that may be less profitable—sometimes far less profitable—and may have a more ambitious social mission (see also Bratt, Keyes, Schwartz, & Vidal, 1994). This, according to Clancy, is a combination that will significantly increase the degree of difficulty of successful project execution and the level of risk.

30. For example, one estimate put the annual cost of a family of three living in a homeless shelter at $41,000 (The New York Times, 2017).

31. The December 2017 tax law will, almost certainly, reduce the overall amount of money lost to the Treasury due to various changes related to homeownership. In addition to lowering the top marginal tax bracket for individuals and couples from 39.6% to 37% (as noted earlier), there is now a cap on the amount of property tax (together with state income tax) payments that can be deducted. These amounts had been fully deductible prior to January 1, 2018. In addition, the amount of interest that is deductible is now based on $750,000 of mortgage money borrowed, in comparison to the old cap of $1 million.

32. An additional $29 billion is saved by taxpayers because of the exclusion of capital gains on home sales (Joint Committee on Taxation, 2017).

33. Public law 171, 81st Congress; 63 Stat. 413; 42 U.S.C. 1441.