A cost-free approach to solving SJ's housing woes

In the final installment of his exclusive three-part series about the local housing crisis, national housing expert Scott Beyer of the Market Urbanism Report explores the advantages of a strategy based on market forces. Previously, Beyer has examined how San Jose’s approach to fixing its affordable home crisis has included a mix of supply-side and demand-side subsidies, including tax credits, bond initiatives, rent control and more. Yet these policies have not prevented housing in the city and metro from being some of the nation’s least affordable. According to Beyer, the answer to increasing supply in San Jose is simple and largely cost-free to taxpayers: restore property rights and let the free market work. This means overturning certain laws that have now distorted land markets there.

Reform zoning, allow denser housing

The city’s zoning code, like many others in the U.S., mostly just allows single-family housing, which on average is less affordable than multifamily. In San Jose, according to the Mercury-News, 94% of the city is zoned exclusively for this. 

Upzoning, meaning allowing for denser construction and more units, creates affordable housing principally through a process called “downward filtering”. Simply put, as new housing comes onto the market, the competition causes older properties to depreciate in value, making them more affordable. This dynamic isn’t unique to housing; we see it with used vs. new cars. Conversely, if new car production were limited, the value of older cars would increase despite their age - “upward filtering”. The Bay Area is a case study in upward filtering; lack of home production is why even old buildings in poor condition have 7-figure sales prices.

Another thing multi-family construction accomplishes is to divide real estate project costs across more heads. For example if a single-family home is subdivided into a duplex, that means two households split the costs of the land, materials, insurance, taxes, et al. Subdivide the parcel into 4 or 6 or 8 units, and each unit becomes even more affordable due to this same economic dynamic. 

There have been recent pushes to remove San Jose’s single family zoning rules, as happened in Minneapolis, but they attract opposition. One alternative proposal calls for upzoning strictly along the city’s transit system. While better than nothing, this will not produce enough units to meet the city’s affordability goals. 

The main opposition is from homeowners. A common critique of multifamily upzonings is that they’ll lower property values, but research has found an inconclusive effect on property values. What instead happens is that land values increase, but because those values are being divided across more heads (in the process described above) per-unit costs go down.  

Other upzoning opponents include some affordable housing advocates, who argue that leaving development to the market does not produce affordability. Those claims are specious. We’ll remind readers of a chart shared in pt. 1 showing the obvious correlation between permit numbers and home price stabilization. San Jose and the larger Bay Area are now on the wrong end of that chart. 

(Credit: Market Urbanism Report)

We see examples overseas, too: Tokyo, a high-demand, dense city (population there has been growing, despite nationwide decline), has kept housing affordable throughout the last two decades by eliminating local zoning in favor of liberalized land use. 

Fortunately, California has taken one recent step to increase housing availability, by passing a bill legalizing accessory dwelling units (ADUs) by-right in most cases. San Jose itself introduced an amnesty program to legalize illegally-built ADUs that meet certain conditions. But broad citywide upzoning is ultimately necessary for the city’s new home supply to scale. And there’s a larger regime of restrictive rural zoning in Santa Clara County and other parts of the Bay Area that also prevent housing and need to be loosened. 

Curtail impact fees 

San Jose also imposes development impact fees. One such fee, discussed in part 1, is the city’s affordable housing impact fee, assessed on market-rate projects with greater than 2 but fewer than 20 units. This is used to finance affordable housing construction, costs developers $19.61 per square foot, and increases 2.4% annually. Developers also must, depending on the project, pay fees for park expenses, rent mediation, and multi-family construction. 

Impact fees reduce home supply and create barriers for young aspiring homeowners, who must (especially throughout California) pay impact fees in the 5- or 6-figures. San Jose’s affordable housing fee is on the higher side, adding nearly $40,000 to a 2,000sqft home. The Sightline Institute notes that the fees have a particularly negative effect on ADUs: “as with any fee, an impact fee creates a stronger disincentive the smaller the budget, because it piles on a larger percentage cost increase.”

We propose that San Jose scrap its fees and instead raise revenue through standard taxation. That way the city is getting all households to fund services, rather than sticking the bill disproportionately on new homebuyers. 

Reduce bureaucracy 

Along with zoning, rent control, impact fees, and other regulations, new housing in San Jose is stifled by a larger “process” that emanates through city, county and state government.

Getting a permit is challenging in the city, as reported by San Jose Spotlight, because there are lots of rules and not enough planning department staffers, creating a long lead time between applications and a decision. Other bureaucratic inertia, such as parking minimums, historic preservation rules and design review, add to the time and costs of approval.

One notorious rule impacting the whole state is the Environmental Quality Act, or CEQA. The law provides broad latitude for individuals to litigate against development projects for alleged environmental harm. CEQA has been shown to slow housing construction statewide, particularly urban infill units (which is ironic given CEQA’s stated environmental goals). As Christopher Elmendorf writes, while there are exemptions to the rule, they are hard to attain. “[A] developer hoping to qualify for the ‘Infill Housing in Urbanized Areas near Transit’ exemption must satisfy no fewer than 27 distinct conditions.”

This played out in nearby Santa Clara when a 162-unit senior housing complex ran up against litigious NIMBYs who brought a CEQA case against it. They lost that case, but because of the decade-long delay, the entire project’s financing was compromised.

The true shame of San Jose’s housing policy - which is echoed (generally to a lesser degree) across the U.S. - is just how self-conflicting it is. City, county and state regulations make it expensive or impossible to build housing in most areas. When this causes a supply shortage and affordability crunch, taxpayers are forced to fund subsidy programs that further inflate the market without adding much housing (due to the regulations in place). 

It doesn’t need to be this way. A good first step would be for San Jose to authorize a broad upzoning - say, by allowing fourplexes by-right citywide, as some staffers have proposed. Then it can cut other regulations like parking minimums and inclusionary housing set-asides. This should spur fairly immediate new production that has the long-term effect of cooling prices. If it can work in other U.S. cities like Houston and Phoenix, it should work in San Jose.  

This article featured additional reporting from Market Urbanism Report content staffer Ethan Finlan.

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