Construction, Economic Development, and Real Estate

The rent is too damn high

August 31, 2016
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Activist Jimmy McMillan founded a political party in New York in 2005. The key premise of his party’s platform was made clear when he named the organization the Rent is Too Damn High Party.

While the party name is funny, the issue is not. Developers and residents alike are keenly aware of the problems caused by high rent. Interestingly, high rent is one of the issues about which few disagree; everyone would like rents to be more affordable. As residents, we want reasonable rent but we also want high-quality living spaces with great amenities. As landlords, we want to avoid high vacancy or high turnover and we want residents to be able to pay their rent.

So, if everyone wants lower rents, why then are the rents so high? Well, there are two components to housing affordability: 1) cost of construction, a key driver of rental costs; and 2) wages, which determine how much renters can afford to pay.

It is expensive to construct and operate buildings. To build or purchase residential buildings, landlords must seek investment from lenders and investors. This is the capital cost, which determines the return necessary to pay the lenders and investors.

While building codes and amenities increase costs for things residents want — like safe spaces and nice appliances — real estate taxes, insurance, snow removal, lawn care and trash removal all add to the landlord’s operational outlays. Property managers, maintenance and accounting staff, and leasing agents add to the landlord’s costs. These are examples of some of the expenditures involved in operating a building. Adding up the operating and capital costs of owning and operating a building is what gets us the total cost of a building, which determines rent.

A recent analysis we performed at our firm determined that the operating and capital expenses for a new apartment building in Grand Rapids are about $2.70 per foot per month. That $2.70 per foot per month translates to a $1,700 monthly rent for a one-bedroom apartment. This is hardly an affordable rate in today’s market. In fact, based on a maximum rent of 30 percent of income, one would have to make $68,000 per year to afford this rent. With area median income of $40,000 per year, most of the local population cannot afford more than $1,000 per month, let alone nearly twice that amount.

On the development side, we combat high capital and operating expenses by seeking incentives such as tax rate reductions. These incentives are tools to bridge the gap between the $2.70 that a full cost rental would require, and the $1.50 that the median wage earner can afford. Other programs can even help rents get as low as 80 cents to 90 cents per foot. These tools are critical to helping lower rents across the spectrum of affordability.

With the cost of new construction in Grand Rapids running over $130 per foot, the cost of land, permits and financing drive the total construction cost to over $250 per foot. Managing these costs is where the biggest battles happen in the development business. It is critical that developers and building owners continue to manage capital and operating expenses so they can supply housing at affordable rates.

On the wage side, the current problem is that in Grand Rapids and much of Michigan, wages are low compared to housing costs. Businesses like to come to Grand Rapids “because of the workforce.” Hidden in that statement is an understanding that employers can hire skilled and motivated people at relatively low wages. Ultimately this “bargain” fails employers when they cannot find enough employees due to a lack of housing. This was both widely reported and problematic this summer in several communities. The lack of affordable housing led to worker shortages at resorts and other seasonal businesses. In turn, this lack of workers led to reduced hours of operation or in some cases the inability of businesses to open. This is bad for the overall economy. So along with addressing the housing cost part of affordability, we need to work to address the income part of the equation.

There is no simple answer to the problem of housing affordability — governments, developers and employers need to work together to navigate the push and pull between rents and wages. The bottom line is that the solution to a tight housing market is more housing. To get lower rents, more housing is necessary at all levels of affordability.

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