Since 1978, the Chinese government has pursued various economic and housing reforms to expand private property rights in housing and to promote home ownership through the commercialization and privatization of urban public housing. This has involved terminating the old system of allocating housing units through public-sector employers and establishing a more market-based system of housing provision. The government now provides affordable housing by subsidizing commercial housing purchases or by offering low-rent public (social) housing to middle- and low-income families. At the same time, it relies on the private commercial housing market to meet the needs of higher-income groups.

Recent Housing Reform and Outcomes

China’s housing policies experienced a drastic change in 1998 when the central government ended direct housing distribution to employees through the former danwei or employer-based system. According to government plans, the affordable housing system targeted at middle-income households was established to provide support to nearly 70 percent of urban families. It also introduced housing cash subsidies to new employees and set up a Housing Provident Fund—a compulsory housing savings system to provide subsidized loans to employed homebuyers. Low-rent public housing is provided by the government to low-income urban households, while commercial housing is provided by the market to meet the needs and demands of high-income families at the top 15 percent of the economic spectrum that have access to mortgage financing (Wang 2011).

This housing reform has resulted in a vigorous and fast-growing urban housing market and greatly improved housing conditions for urban residents. For example, the floor area per capita in urbanized areas increased from 6.7 square meters in 1978 to 28.3 square meters in 2007, and the home ownership rate reached to 82.3 percent in urban China in 2007 (Man, Zheng, and Ren 2011).

However, with urban housing prices skyrocketing since 2005, housing affordability has become a major issue in a number of large cities, and municipal governments have been called upon to increase the provision of affordable housing to middle- and low-income households. Government policies have been implemented in an attempt to stabilize urban housing prices, to discourage speculative behavior of homebuyers, and to reduce both the excessive lending practices of state-owned banks and the possible financial risks associated with the housing sector.

Urgent Need for Affordable Housing

Affordable housing is often defined as an adequate dwelling where less than 30 percent of monthly household income is devoted to rent, or where the dwelling’s purchase price is less than three times a household’s annual income. The housing price-to-income ratio (PIR) is the basic affordability measure for housing in an urban area. It is generally defined as the ratio of the median house price to the median family income. In the Global Urban Observatory Databases of UN- HABITAT, PIR is one of the important urban indicators, and a ratio between 3 and 5 is considered normal or satisfactory. In the United States and Canada, the PIR is 3.2 and 3.5, respectively, which meet the international standard for a normal or affordable level of housing (Demographia 2009).

Our study used the Large-Sample Urban Household Survey data collected by the National Bureau of Statistics of China to calculate the PIR in 2007 for urban China, and found it to have a value of 5.56 nationwide (Man, Zheng, and Ren 2011). This ratio falls in the category of “severely unaffordable” according to the criteria proposed by UN-HABITAT, and is well above the normal range of 3 to 5. It indicates that the median price of the housing stock in the sample of 600 Chinese cities (based on the survey of 500,000 urban households) is more than five times annual household median income.

The Current Situation and Challenges

Affordable housing is often measured in terms of median values and incomes, but the concept is applicable to both renters and purchasers in all income ranges. Affordable housing in China, commonly known as “economical and comfortable housing,” is designed to be available to middle- to low-income households, including public-sector employees, to encourage home ownership.

In general, the Chinese central government sets polices and mandates with respect to affordable housing, and the subnational governments, cities in particular, are responsible for the construction, financing, and management of that housing. The central government does not provide financial support to provincial and local governments for affordable housing through its budgetary spending or intergovernmental transfers, except for a few subnational governments in the fiscally strained and underdeveloped central and western regions.

Local governments are required to provide free land, reduce government charges and fees, and control developers’ profits to lower the housing price for those who are qualified based upon government eligibility standards. In some cities, such as Beijing, affordable housing also includes price-controlled commercial housing whose price is held down by the provision of reduced land use fees and charges, as well as favorable land allocation by the government to help lower- and middle-income families become homeowners. The Housing Provident Fund, a compulsory saving plan with contributions by both employers and employees for housing purposes, helps employees buy a house with subsidized loans.

Local governments provide state-owned land to affordable housing projects through appropriation mechanisms. They usually appropriate land to developers who finance, construct, and sell the economical and comfortable housing units to the people considered eligible according to government standards and regulations. Middle-income families seeking market-oriented commercial housing may receive a subsidized loan from the Housing Provident Fund. With housing prices lingering at levels inaccessible even to average salary earners, the current affordable housing system has encountered a number of serious challenges.

First, there is an enormous and growing demand for affordable housing in China. By the end of 2008, there were about 7.4 million low-income urban households in need of government support for housing (Lin, forthcoming). In addition, government population and labor statistics indicate that cities have an estimated “floating population” of 147 million, most of whom are migrant workers who often fall within the low-income group. At the current rate of urbanization, there will be an increase of about 10 million people in cities every year. Most of them will be unskilled and semi-skilled workers in the low- and middle-income levels in need of housing assistance.

Second, affordable housing accounts for only a small portion of the total housing stock, underscoring inadequate government support for middle- and low-income households in urban China. Our research reveals that government-sponsored low-rent housing, as well as heavily subsidized economical and comfortable housing, accounted for only 7 percent and 4 percent of the total housing stock on average in urban areas, respectively (figure 1). In contrast, the two most prevalent types of housing are commercial housing (32 percent) and privatized public housing (34.2 percent).

Among the 256 prefecture-levels cities we studied, the median share of the total housing stock that was affordable housing was 5.57 percent. One-third of the cities had less than 5 percent of affordable housing in the total housing stock, indicating a seriously inadequate supply of affordable housing for low- and middle-income urban households. The underdeveloped private rental market in China further aggravates this problem.

Figure 2 reveals that investment in economical and comfortable housing has barely increased in contrast to the rapid rise of investment in commercial housing during the period between 1997 and 2007. The completed floor area of economical and comfortable housing as a share of the total decreased between 1999 and 2007, contributing to the chronic shortage of affordable housing in large cities. In addition, the eligibility criteria is either too high or the enforcement is problematic. As a result, figure 3 shows the coverage of affordable housing is overly broad, benefiting more high- and middle-income families than lower-income households, and thus causing accusations of corruption and calls for reform.

Third, local governments in China lack incentives and financial means to provide affordable housing. The fiscal reform of 1994 left subnational governments with the obligation to provide nearly 80 percent of total government expenditures, but with direct receipt of only 47 percent of total government revenues (Man 2010). Such fiscal imbalances, plus many unfunded central government mandates and expenditures related to interjurisdictional competition, have driven many local governments to rely on land leasing fees for revenue to finance infrastructure investment and economic development.

Local governments prefer offering state-owned land to the highest bidder among developers through the auction process to maximize revenue, and they have little incentive to provide land for the construction of affordable housing for low- and middle-income families. In addition, the financing of affordable housing in China depends upon funds from the Housing Provident Fund, but its deposits come from sources such as fees from land transfers that are unstable and inadequate to sustain affordable housing investment.

According to a recent report of the Chinese National Auditing Office (CNAO 2010), some cities, including Beijing, Shanghai, Chongqing, and Chengdu, have failed to collect the 10 percent of funds from the net profit of land transfer fees earmarked for low-rent housing construction as required by government regulations. A total of 14.62 billion yuan (about US$2.2 billion) was not collected during the 2007–2009 period, accounting for about 50 percent of the total 29.68 billion yuan (US$4.47 billion) that was due, according to CNAO’s survey of the 32 major cities.

Finally, the current affordable housing system in China is targeted only at urban residents who have city residence permits as part of its household registration system (commonly known as the hukou system). Migrant workers, floating populations, and others without urban residence permits are not covered. These people have to find shelter in the informal housing market, such as urban villages with substandard living and sanitation conditions.

Furthermore, this system suffers from poor administration, widespread corruption, and even fraud. For example, many ineligible applicants have received low-rent housing, and a number of high-income households own government-subsidized economical and comfortable housing units. At the same time, many qualified families have been denied housing assistance.

Conclusions

The rapidly rising housing prices and lack of affordable housing for low- and middle income urban households in China, particularly in big cities, have posed risks and challenges for a stable and harmonious society as sought by the Chinese central government. The current issues and challenges in the affordable housing system warrant attention and support from the Chinese government and the entire country to search for cost-effective and equitable public policies to deal with affordable housing needs to ensure sustainable development and a harmonious society in the future.

The government needs to redouble efforts to curb speculative housing activities, increase land supplies for affordable housing construction, and use fiscal policies and tax incentives to encourage private developers to participate in the provision and management of affordable housing. Moreover, China should establish an efficient and effective local public finance system and a modern property tax to diversify local government revenue sources. This would help reduce reliance on the leasing of public land for revenue and would encourage the supply of more land for low- and middle- housing. Chinese governments also should accelerate the development of private rental markets and encourage the private sector and nonprofit organizations to participate in the construction, financing, and management of housing for middle- and low- income families.

About the Author

Joyce Yanyun Man is senior fellow and director of the Program on the People’s Republic of China at the Lincoln Institute; director of the Peking University–Lincoln Institute Center for Urban Development and Land Policy in Beijing; and professor of economics in the College of Urban and Environmental Sciences at Peking University.

References

Chinese National Auditing Office (CNAO). 2010. Audit report on 19 municipalities and provinces for government-invested affordable housing during the period 2007 to 2009. No. 22. http://www.audit.gov.cn/n1992130/n1992150/n1992500/2596931.html

Demographia. 2009. The Fifth annual Demographia international housing affordability survey. http://www.demographia.com/dhi.pdf

Lin, Jiabin. Forthcoming. The design of China’s affordable housing system. In Low-income housing in China: Current issues and policy design. Beijing, China: Commercial Press.

Man, Joyce Yanyun. 2010. Local public finance in China: An overview. In China’s local public finance in transition, eds. Joyce Yanyun Man and Yu-Hung Hong. Cambridge, MA: Lincoln Institute of Land Policy.

Man, Joyce Yanyun, Siqi Zheng, and Rongrong Ren. 2011. Housing policy and housing markets: Trends, patterns, and affordability. In China’s housing reform and outcomes, ed. Joyce Yanyun Man. Cambridge, MA: Lincoln Institute of Land Policy.

Wang, Ya Ping. 2011. Recent Housing Reform Practice in Chinese Cities: Social and Spatial Implications. In China’s housing reform and outcomes, ed. Joyce Yanyun Man. Cambridge, MA: Lincoln Institute of Land Policy.

Una versión más actualizada de este artículo está disponible como parte del capítulo 7 del CD-ROM Perspectivas urbanas: Temas críticos en políticas de suelo de América Latina.

Muchos centros históricos de América Latina han sido el objeto de iniciativas gubernamentales y privadas para la rehabilitación de los edificios y para situar estas zonas al servicio de la industria del turismo. En la mayoría de los casos estas iniciativas han tenido como consecuencia el desplazamiento de los residentes de bajos ingresos o de toda la actividad residencial en conjunto, debido a la comercialización y el aburguesamiento del distrito (Scarpaci 2005). Más recientemente, la rehabilitación de estos centros históricos se ha enmarcado dentro de debates e iniciativas más amplios que pretenden la recuperación de los centros de las ciudades (históricos o de otro tipo) dado su papel crucial como símbolos colectivos o como espacios de interacción social, o bien por su eficacia potencial en calidad de distritos urbanos densos con buena cobertura de servicios (Pérez, Pujol y Polèse 2003; Rojas 2004).

Este artículo pretende profundizar este debate basándose en la experiencia del centro histórico de Ciudad de Panamá, el llamado “Casco Antiguo”. En él se describen algunas políticas innovadoras recientes que han explorado las intersecciones entre el turismo, la vivienda asequible, el empleo y la cultura dentro de un contexto histórico, y deduce algunas enseñanzas y perspectivas útiles.

El Casco Antiguo y la política de desarrollo inclusivo

El Casco Antiguo es la segunda ciudad de Panamá colonial, fundada en 1673 después de que el primer asentamiento se incendiara durante una invasión pirata. Su máximo apogeo tuvo lugar entre 1850 y 1920, cuando se desarrollaron los proyectos de construcción del ferrocarril y los canales que atraviesan el istmo, y la mayor parte de su arquitectura refleja la influencia de esa época. El barrio (aproximadamente 44 hectáreas) fue declarado monumento histórico nacional en 1976 y Patrimonio de la Humanidad de la UNESCO en 1997.

El Casco Antiguo comenzó a pasar de ser un centro urbano multifuncional y socialmente diverso a un vecindario residencial predominantemente de alquiler para las clases medias y los inmigrantes procedentes de las zonas rurales hacia la década de 1920, cuando la élite económica se mudó a nuevos asentamientos suburbanos de estilo estadounidense y la ciudad comenzaba su expansión hacia el este. En las décadas siguientes, el Casco Antiguo perdió muchas de sus funciones urbanas centrales, mientras que su población fue empobreciéndose cada vez más. Hacia la década de los setenta, muchos edificios habían sido abandonados por sus propietarios, y la ocupación de edificios comenzó a ser patente. No obstante, algunas instalaciones gubernamentales importantes, como el Palacio Presidencial y un puñado de otras instituciones, permanecieron en la zona, manteniendo cierta relevancia metropolitana para lo que primordialmente era un vecindario residencial grande de bajos ingresos.

Durante la década de 1970 y 1980 el gobierno elaboró sus primeros planes de reurbanización pensados para el turismo. Se renovaron plazas públicas y monumentos, pero los trabajos se interrumpieron por la crisis política que ocupó la mayor parte de la década de los ochenta. A principios de los años noventa, el sector privado inició sus propios proyectos de renovación, que han seguido siendo en su mayoría proyectos de construcción de bloques de apartamentos de lujo con espacio comercial en las plantas bajas. Los incentivos fiscales y económicos aprobados en 1997 propiciaron una oleada de proyectos y planes privados, pero muchos edificios sencillamente quedaron vacíos y sin restaurar. Entre 1990 y 2000 el censo reveló que el vecindario había perdido cerca de la tercera parte de su población, y en 2004 uno de cada seis edificios estaba cerrado y cubierto por tablones o en ruinas.

En los últimos años se han producido dos hechos significativos. Por un lado, Ciudad de Panamá ha entrado en un período de bonanza inmobiliaria propiciada por el turismo y por el mercado internacional de jubilados, hecho que ha beneficiado al Casco Antiguo en forma de numerosos proyectos de construcción de bloques de apartamentos y hoteles. También han ayudado las sanciones del gobierno para los edificios abandonados. Por otro lado, se ha implementado una política social explícita para la comunidad de bajos ingresos, que reemplaza el consenso tácito asentado desde hace mucho tiempo entre el gobierno y el sector privado sobre la necesidad de expulsar a esos residentes y aburguesar y/o comercializar toda la zona.

La nueva política social se ha centrado en dos tipos de programas: vivienda asequible y capacitación laboral. Hasta el momento se han rehabilitado cuatro edificios históricos propiedad del gobierno, que han producido 52 apartamentos de uno y dos dormitorios; éstos a su vez son alquilados por un órgano gubernamental, la Oficina del Casco Antiguo (OCA), a residentes de largo plazo, la mayoría de los cuales carecen de historial crediticio. Otros tres edificios están en proceso de rehabilitación y cinco más en fase de planificación. Los edificios ofrecen alternativas de vivienda adecuadas, además de espacios comerciales en las plantas bajas, que actualmente se alquilan a establecimientos asentados en el vecindario durante mucho tiempo, que también se enfrentaban a un desalojo.

En el ámbito de la capacitación laboral, se han ofrecido cursos en las áreas de rehabilitación de edificios, servicios de hostelería y restauración, artes culinarias, servicios turísticos e idiomas. Esta experiencia ha cambiado la línea de trabajo que ha pasado de ser simplemente uno de los muchos tipos de programa establecidos por OCA (junto con la rehabilitación de monumentos o la mejora de infraestructuras) a formar parte central de la nueva visión de “desarrollo inclusivo” del barrio.

Las enseñanzas han sido muchas e importantes y nos han permitido comprender mucho mejor los desafíos y el impacto que tienen las políticas de vivienda asequible, turismo y patrimonio cultural.

Siete enseñanzas clave

1. Vivienda asequible es mucho más que construir nueva vivienda que sea accesible.

A pesar de las condiciones deplorables de la vivienda, muchos residentes del Casco Antiguo se aferran al vecindario debido a sus lazos emocionales y por una serie de razones prácticas. En Ciudad de Panamá, las familias de bajos ingresos por lo general tienen que construir sus propias viviendas ocupadas en suelo ubicado en la periferia urbana, lejos de donde se concentra el empleo y los servicios urbanos adecuados, y aquí es también donde se suelen ubicar los nuevos proyectos de vivienda pública. El tiempo de desplazamiento al trabajo y los costos de transporte asociados pueden ser enormes − hasta 5 horas diarias y un 40 por ciento de los ingresos familiares, respectivamente. En este contexto, las políticas de vivienda asequible que mejoran las condiciones de la vivienda a costa del exilio urbano son contraproducentes e irresponsables (Espino 2007).

2. Para muchas familias de bajos ingresos, su hogar es también su negocio. Mientras que las clases medias y altas por lo general pueden permitirse separar su residencia del lugar de trabajo, y por lo tanto, viven y trabajan casi en cualquier lugar de la ciudad adonde se pueda ir en automóvil, los pobres de la ciudad a menudo necesitan combinar ambos usos. En muchas ciudades de América Latina la actividad informal constituye una importante fuente de ingresos familiares, y el lugar de residencia típicamente alberga una actividad comercial, que a su vez requiere una buena ubicación comercial. Los residentes se benefician en gran medida de vivir en partes de la ciudad accesibles y animadas, y los barrios históricos como el Casco Antiguo tienen la estructura urbana adecuada para este tipo de actividad.

En el Casco, muchos de los ocupantes de las nuevas unidades de vivienda asequible han establecido sus negocios y servicios, por ejemplo, de artesanía, calzado o sastrería, que sirven a una clientela metropolitana procedente del creciente tráfico peatonal local e internacional que el turismo ha llevado al barrio. Irónicamente, ahora que estos vecindarios ubicados en el centro por fin pueden comenzar a beneficiarse de la mayor seguridad y del ambiente que les proporciona el turismo, las familias suelen ser desplazadas.

3. La mezcla social urbana es esencial para el desarrollo inclusivo. Rehabilitar un barrio histórico sólo para los pobres tiene tan poco sentido como aburguesarlo por completo. Todo el mundo necesita seguridad, paisajes urbanos agradables y tráfico peatonal con poder adquisitivo, y los pobres de la ciudad no son una excepción. Una mezcla saludable de urbanizaciones asequibles y de categoría beneficia a todos.

4. Los proyectos de vivienda asequible no son una amenaza para la inversión de alto nivel (al menos no en los barrios históricos). En el Casco Antiguo, los proyectos de vivienda asequible de hecho se han convertido en punta de lanza de una inversión privada de alto nivel, al actuar como pioneros en zonas del barrio muy deterioradas y abrir la puerta a promotores privados menos atrevidos. Para empezar, los residentes y usuarios de altos ingresos del Casco suelen ser más tolerantes de la diversidad social que los núcleos familiares de clase media típicos. En consecuencia, los valores de la propiedad en el Casco Antiguo continúan su tendencia a la alza.

5. Las oportunidades de vivienda asequible en el centro deberían ser permanentes. En entornos de inflación alta como el Casco Antiguo, la construcción de unidades de vivienda asequibles y su posterior venta en el mercado pueden estimular la reventa, la especulación y la pérdida de viviendas asequibles. La reventa de unidades asequibles debe estar estrictamente controlada por medio de restricciones en los títulos de propiedad, y el alquiler sin fines de lucro debería considerarse como una opción seria en tales casos. El romanticismo de la propiedad debe reemplazarse por un firme compromiso de servir a la población existente y de ampliar las ventajas de la inclusión urbana a las generaciones venideras. Los gobiernos y las agencias sin fines de lucro deben garantizar un conjunto razonable de edificios para este fin.

6. Es positivo un cierto grado de separación, pero sin extremismo. Los proyectos de vivienda asequible del gobierno de Panamá se centran en una zona específica por motivos históricos (accidentales). Sin embargo, esta zona está rodeada de otras destinadas a una urbanización de lujo. Esta geografía permite tanto cohesión como interacción social, concentrando una vida comunitaria activa y unos servicios comunitarios adecuados. Los negocios como las tiendas de alimentación y las peluquerías que sirven a las poblaciones de bajos ingresos son bastante diferentes de sus contrapartidas para la clase media, en cuanto a los productos y servicios que ofrecen, los precios y los horarios de atención. Una densidad crítica de clientes permite a estos establecimientos desempeñar sus funciones, mientras que una estructura urbana abierta aumenta su base de clientes potenciales, abriéndose a otras clases sociales.

Hay que tener presente que la segregación urbana, tanto en sus aspectos positivos como negativos, no sólo afecta a la vivienda, sino también a todo el repertorio de actividades que componen un vecindario. Por este motivo, proteger los negocios formales de bajos ingresos del vecindario para evitar que sean desplazados es un componente integral de los programas de vivienda asequible en las zonas de rehabilitación. Por otro lado, debe reservarse y fomentar espacio para instituciones de categoría que se sitúen dentro o en las cercanías de estas zonas. Museos, fundaciones, centros culturales o atracciones turísticas pueden beneficiarse de estar en estas comunidades y viceversa.

7. La cultural popular interesa al turismo más allá de lo evidente.

Las poblaciones de bajos ingresos están tan ansiosas por participar en el comercio turístico como cualquier otro sector, pero normalmente sólo se las incluye si tienen algo de folklore que vender o aportar. La cultura contemporánea cotidiana de estos grupos, incluidas su comida y su música, tiende a ser despreciada y tildada de vulgar o poco interesante. Hasta la fecha la OCA ha tratado de promocionar sobre todo la cultura culinaria del barrio, ayudando a organizar a los proveedores para que participen en eventos culturales masivos en la zona. En otro proyecto, la historia familiar y vital de algunos residentes de toda la vida en el barrio se ha registrado y publicado en formato de libro. Se ha dado publicidad a sus residencias como lugares que los turistas pueden visitar para mantener una conversación informal sobre “los viejos tiempos”. Este prometedor campo de las industrias de la cultura popular tiene mucho por descubrir.

Conclusiones

Dado su carácter de atracción cultural, los distritos históricos se benefician de una forma única de diversidad social. Por encima de todo, los turistas desean explorar un barrio que es representativo de la cultura local, y no encontrar otro centro comercial internacional exclusivo al aire libre. Para mantener el barrio asentado en el aspecto cultural, es imprescindible la diversidad social, tanto en el aspecto de vivienda como en el comercial. Por otro lado, la planificación de distritos históricos está inevitablemente ligada a debates más amplios sobre la centralidad, la vivienda asequible y el “derecho a la ciudad” (Lefebvre 1996).

En Panamá, la experiencia del Casco Antiguo ha formado parte de una iniciativa más amplia en el centro de la ciudad encaminada a restablecer la dignidad a la política de vivienda asequible a través de la rehabilitación de edificios y barrios tradicionales. Representa una desviación de las políticas anteriores enfocadas a la urbanización periférica o la construcción de bloques de apartamentos monótonos y sin vida en zonas residuales. Por tanto, trasciende el planteamiento limitado sobre la vivienda y aborda asuntos relacionados con el empleo, la cultura y la ubicación.

Creemos que estas enseñanzas y experiencias tienen mucho que aportar sobre la forma que puede adoptar el desarrollo urbano inclusivo. Estas enseñanzas son interesantes porque no se ocupan de abstracciones, sino de las necesidades y deseos concretos de diferentes agentes vinculados a un espacio urbano. Asimismo, dependen de una acción premeditada y no de expectativas simplistas sobre el goteo de beneficios sociales o económicos. ¿Pueden contribuir a un debate más general sobre los paradigmas de desarrollo urbano en América Latina y en otros lugares?

Sobre el autor

Ariel Espino, AICP, es director ejecutivo de la Oficina del Casco Antiguo (OCA) de Ciudad de Panamá. Es licenciado en arquitectura por la Universidad Católica de Panamá y posee una maestría en ciencias en planificación de la Universidad de Arizona y un doctorado en antropología de Rice University. La OCA es un órgano gubernamental cuyo objetivo es la implementación del plan maestro Casco Antiguo.

Referencias

Espino, Ariel. 2007. The development of low-income housing in the central and historic neighborhoods of Panama City: New models for economic development and social integration? Documento de trabajo. Cambridge, MA: Lincoln Institute of Land Policy.

Lefebvre, Henri. 1996. Writings on Cities, traducido y editado por Eleonore Kofman y Elizabeth Lebas. Oxford: Blackwell.

Pérez, Salvador, Rosendo Pujol y Mario Polèse. 2003. ¿Son importantes los centros de las ciudades? En Desafíos de las ciudades mesoamericanas. Los casos de tres metrópolis, editado por Salvador Pérez y Rosendo Pujol. San José: FLACSO.

Rojas, Eduardo. 2004. Volver al centro. La recuperación de áreas urbanas centrales. Washington, DC: Banco Interamericano de Desarrollo.

Scarpaci, Joseph L. 2005. Plazas and barrios. Heritage tourism and globalization in the Latin American centro histórico. Tucson: The University of Arizona Press.

The Lincoln Institute has been collaborating with the Loeb Fellowship Program at the Harvard University Graduate School of Design since 1998. The Loeb Fellowship was established in 1970 through the generosity of Harvard alumnus John L. Loeb. Each year ten mid-career design and planning professionals are invited to study independently and develop insights and connections to advance their work in revitalizing the built and natural environments. In May the 2005 class of fellows traveled to Brazil on a study trip to exchange information with professional counterparts in the cities of São Paulo and Rio de Janeiro. This article focuses on what we learned about programs to improve life in the favelas of those cities.

From the lush Amazon rainforest to the futuristic skyscrapers topped by helipads in São Paulo, Brazil is a study in contrasts. The country is rich in land, with a landmass slightly larger than that of the lower 48 U.S. states; it is the largest country in South America and the fifth largest in the world.

Currently 80 percent of Brazil’s 186 million residents live in urban areas. The City of São Paulo, with a population of 10 million, is the largest city in Brazil and one of the most densely populated; its metropolitan area encompasses 16 million people. The City of Rio de Janeiro is the country’s second largest city with 6 million inhabitants and a metropolitan population of 10 million.

The income distribution in Brazil is among the most unequal in the world. The top 10 percent of the population earns 50 percent of the national income, while 34 percent live below the poverty line. Although inflation-curbing efforts have helped to steady the economy over the last few years, the country is still saddled with considerable foreign debt. Faced with the challenges of extreme poverty, drug trafficking, crime, inequitable land distribution, and inadequate housing, the government has limited funds for social programs and often has used them inefficiently.

Life in the Favelas

It is estimated that 20 percent of Brazilians currently live in favelas, or informal, low-income housing settlements. Favelas were first built in Rio in the early twentieth century, when thousands of soldiers who had fought in a civil war received little government assistance and were forced to live in makeshift structures. They often settled in locations without public services where building was precarious, such as steep hillsides or swampy lowlands. These favelas grew and many others were built in similarly unsafe areas. Torrential rains in 1966, 1996, and 2001 resulted in fatal mudslides in many communities.

Favelas began to increase rapidly in both number and size during the 1970s, when rural workers flocked to the cities for better employment opportunities. In Rio many long-established favelas are located downtown, close to wealthy neighborhoods and tourist areas. By contrast, most of the favelas in São Paulo are on the periphery of the urban core, due to local geography, history, and other factors.

Alfredo Sirkis, director of planning management and a former city councilor in Rio, explained that the scale of these informal developments and violent crime are the two most pressing challenges to improving life in the favelas. Speaking about the prevalence of the drug dealers, he said, “They have weapons of war and become braver every day. Police can neutralize the situation, but as soon as gangs are eradicated, new ones are created. State police and the municipal guards patrol these neighborhoods, but the police force is riddled by corruption.”

Most of the homes in favelas are built by residents with scavenged materials and lack proper sewage and water systems. A study conducted by Brazil’s Institute of Applied Economic Research (IPEA) estimated that 28.5 percent of the urban population does not have access to public water, sewage, and garbage collection services (Franke 2005). Some large favelas house more than 60,000 people and have been built so densely that retrofitting them with roads and utility systems is extremely difficult.

Various attempts have been made to upgrade favelas over the years. In the 1960s, following the example of U.S. urban renewal programs, some favelas were razed, and families were relocated to large, often distant, housing complexes with infrastructure and services. As in the U.S., however, this method often failed, as communities were destroyed and residents were displaced from local jobs and had few options for commuting. Furthermore, the underlying social issues, such as lack of jobs, drug trafficking, and crime, were not addressed. In the 1970s and 1980s a period of benign neglect resulted in rapid expansion of favelas and deterioration of the quality of life. The award-winning movie City of God portrays the nearly hopeless life of favela youth in a large, 1960s-era housing project that had deteriorated and became wracked with crime by the 1980s.

More recent favela improvement projects reflect lessons learned from those past efforts. The Loeb Fellows visited two such projects that focus on improving conditions in the favela’s current location by upgrading the built infrastructure and creating social programs to address job training, daycare, education, and crime.

São Paulo: Diadema

Diadema was founded in 1959 to accommodate workers in the growing automotive industry, and is now a separate incorporated city within metropolitan São Paulo. A new influx of rural job seekers moved to the area in the 1980s, and by then approximately one-third of the population lived in favelas. Much of the city faced serious structural problems due to the haphazard nature of past growth, but the government responded to the infrastructure needs by building roads and providing lighting, water, and sewage systems. Some demolition and relocation programs were required, but it was recognized that a policy to integrate the favelas into the city would achieve greater success in the long run.

The economic crisis in the 1990s precipitated a new wave of unemployment and crime, however. Between 1995 and 1998, the population of Diadema grew 3.4 percent, but the number of homicides increased 49 percent, often averaging one murder per day. Mayor José de Filippi, Jr., now serving his third four-year term, began a 10-phase campaign to fight crime by gathering some hard data. His staff mapped serious crime locations and identified the times of heaviest activity. After determining that 60 percent of homicides occurred in or near bars between the hours of 11 p.m. and 6 a.m., the city passed a law in 2001 that forced all establishments selling alcohol to close during those hours. That was the beginning of the sharp decline in serious crimes.

Another target of the mayor’s efforts to reduce crime was the youth of Diadema, who have benefited from several creative programs. The Youth Apprentice Project targets vulnerable young people from identified high-risk and socially excluded areas where drug trafficking is present. This project offers educational opportunities, sports and cultural activities, work placement, and a monthly income to those who qualify. These measures are aimed at giving young people other choices for using their time than crime, as well as new employment and social networks.

To deter crime by reducing the number of guns in favelas, the city decided again to focus on young people. The Disarmament of Fire Arms Campaign offered children a comic book in exchange for each toy gun collected, and approximately 27,000 toy guns were taken off the streets within three years. In the second phase of the campaign, collecting guns from adults, many children continued their activism and pressured their parents and neighbors to turn in their weapons. The program was far more successful than expected, with 1,600 guns collected in the first six months.

In addition to the crime-fighting programs, the mayor sought to improve the physical and social environment of the favelas. Citizens received training and free materials, and were encouraged to make structural as well as cosmetic improvements to their homes. In many areas they formed community groups that were effective in making neighborhood improvements. The city responded with a program under which residents in favelas located on publicly owned land can obtain a “right of use” of the land for 99 years at no charge. Those who remain for at least five years may begin steps to become the legal “lessee” of the land, and subsequently they are permitted to sell the structure.

Our visit to Diadema included a trip to a favela neighborhood where citizens had improved their homes and developed employment training and opportunities beyond those that the government program could provide. We gathered at a community center, which was also a place of worship and housed a classroom, to hear residents speak of their desire to take their community “to the next level.” They participated in the city’s “It’s Beautiful” program, which was created in 1983 with joint funding from the municipality and the community group. After the basic infrastructure was in place, they wanted the appearance of their community to match the pride they felt for their efforts.

Loeb Fellow Mary Eysenbach observed: “I was surprised how closely a self-organized neighborhood resembled a government-regulated one in form and organization. Whatever the solution is for the favelas, they must retain and even promote the creativity and entrepreneurship of the residents.”

Rio de Janeiro: Providência Hill

The Municipality of Rio de Janeiro created the Favela-Bairro project in 1993, when approximately one-fifth of the population lived in favelas. In its first two phases, the project has begun to integrate 620,000 citizens in 168 informal communities into the rest of the city. These settlements include 143 established favelas and 25 newer, irregular subdivisions. At least one more phase is planned, with the intention of reaching nearly 2 million people. The project is funded primarily by the municipality and the Inter-American Development Bank (IDB 2003).

The main goals of the Favela-Bairro project are to make structural improvements in the homes; expand road access; and enhance and formalize urban infrastructure, including paved roads, water supply, and sanitary sewage. These physical improvements will integrate the favelas into the urban fabric with public spaces and other amenities. Social programs will provide assistance to children and adolescents (day-care centers, arts and sports facilities) and create opportunities for income generation (professional training and schooling for adults and youths).

One small but vital part of the project helps the favela residents obtain a street address, which enables them to receive mail and establish a client relationship with service providers. The project also provides “right of use” certificates to residents after their homes are connected to the sanitation and water systems, plotted on a map, and assigned an address. This land “lease” is usually for 100 years and allows the owner to transfer the buildings to an immediate family member; the land remains the property of the city. The hope is that, in addition to providing services, this program will provide the homeowner with security and a greater sense of ownership and responsibility.

We toured Providência Hill, one of the models of the Favela-Bairro project, with approximately 5,000 residents. As a grim sign that security remains a concern even in an improved neighborhood, we were escorted by armed officers. Our guide explained that the new staircase we climbed was an important part of the project, both for pedestrian access and as a means to carry water and sewer lines to the upper part of the favela. He also pointed out that education programs are offered to show residents how to use the new infrastructure and services, but it may take time for them to integrate these new systems into their way of life.

We were impressed by the creative ideas used to address day-to-day problems. For example, the limited number and accessibility of vehicular-sized roads make trash and garbage collection difficult. One solution has been an innovative exchange program: residents receive milk in exchange for a bag of trash, thus creating a healthier population, better trash collection, and a cleaner neighborhood.

We observed a heritage project that restored a historic chapel and imbedded a gold line in the cement to guide visitors on a walking tour past the highlights of the revitalization project. Our visit also included a presentation on the Favela-Bairro project at the new daycare center that will accommodate 220 children of the most needy families. As we witnessed throughout our visit in Brazil, both city staff and neighborhood leaders participated collaboratively in the presentations and discussions.

Fellow Robin Chase commented: “The whole Favela-Bairro concept of leveraging personal investments and realizing that housing close to downtown is better than a housing project in the middle of nowhere impressed me as practical and efficient. The quality of life is vastly improved with electricity, water, and plumbing. Fixing the security issues seems like a very difficult problem that needs to be solved throughout the country.”

Conclusion

We observed positive signs of change in the favelas we visited and were impressed by the dedication of citizens and officials to integrate these communities into the larger city, but many challenges remain, notably the need for substantial financial resources to implement further changes. An extensive study of favela residents in Rio confirms our experience: “While there have been notable improvements in consumption of collective urban services, household goods, and years of schooling over the past three decades, there is greater unemployment and inequality” (Perlman 2003). Crime, police corruption, and prejudice against those living in the favelas remain barriers to progress.

“At some level, local, national, and international leaders have realized that the relocation, marginalization, and segregation strategies of the past will not work,” noted James Stockard, curator of the Loeb Fellowship Program. “People have strong connections to the land where they have settled. Leveraging that commitment and energy is an important part of making these informal neighborhoods into healthier, safer, and more economically viable communities.”

Heather Boyer was a Loeb Fellow at the Harvard University Graduate School of Design in 2004–2005 and is now a freelance editor in New York City.

References

Franke, Renata. 2005. Twenty-eight percent of Brazil’s urban population have no public water or sewage. Brazzil Magazine, June 2. www.brazzilmag.com/content/view/2641/49/

Inter-American Development Bank (IDB). 2003. Favela-Bairro: Ten years integrating the city. Washington, DC: Inter-American Development Bank.

Perlman, Janice E. 2003. The chronic poor in Rio de Janeiro: What has changed in 30 years?” Unpublished paper presented at the Conference on Chronic Poverty, Manchester, England.

Loeb Fellows, 2004–2005

Heather Boyer, former editor, Island Press, Boulder, Colorado

Robin Chase, founder and CEO, Meadow Networks, Cambridge, Massachusetts; founder and former CEO, Zipcar, Cambridge, Massachusetts

Maurice Cox, professor of architecture, University of Virginia; former Mayor, Charlottesville, Virginia

Mary Eysenbach, former director, The City Parks Forum, a program of the American Planning Association, Chicago, Illinois

Klaus Mayer, partner, Mayer Sattler-Smith, a multidisciplinary design firm in Anchorage, Alaska

Cara McCarty, curator of decorative arts and design, St. Louis Art Museum

Mario Navarro, former housing policy director, Chilean Ministry of Housing and Urban Development, Santiago

Dan Pitera, director, Detroit Collaborative Design Center, University of Detroit Mercy School of Architecture

Carlos Romero, community organizer and community development advocate, San Francisco, California

Susan Zielinski, cofounder and director, Moving the Economy, Toronto

In June the Lincoln Institute convened a roundtable of experts from around the country to examine how and why property ownership and title problems exacerbate abandonment. The group debated the merits of public policy intervention, identified policies with the greatest potential for success, and outlined anticipated complications and issues in remedying abandonment. This article reports on that discussion.

The prevalence of vacant and abandoned property in U.S. cities has reached crisis proportions despite efforts to foster reuse of these sites. A mix of macroeconomic and demographic trends, such as deindustrialization, population shifts from urban and rural to suburban communities, and the shrinking urban middle class, have precipitated the decline in real estate demand that can lead to property abandonment in certain neighborhoods.

These trends, along with other factors, have resulted in various abandonment “triggers” (Mallach 2004) depending on the property type: inadequate cash flow; multiple liens; liens that exceed market value; fraudulent transactions; predatory lending; and uncertainties regarding environmental, legal, and financial liability. These triggers often prolong abandonment or relegate a property to permanent disuse, particularly in markets characterized by widespread disinvestment. Many of these triggers also “cloud” the property title and interfere with a potential new owner’s efforts to acquire property title or obtain site control in order to make improvements or commence reuse activities.

Comparable data on vacancy and abandonment across cities are difficult to obtain and vary widely due to different definitions and gaps in data sources, particularly in commercial and industrial land uses. Estimates of the amount of abandoned housing stock range from 4 to 6 percent in “declining” cities to 10 percent or more in “seriously distressed” cities (Mallach 2002). The following city statistics from Census 2000 data and city records only suggest the scope of the problem.

• Cleveland counts more than 25,000 vacant and 11,000 abandoned properties (National Vacant Properties Campaign 2005).
• Baltimore has more than 42,000 vacant housing units, constituting 14 percent of its housing stock, and more than 17,000 vacant lots (National Vacant Properties Campaign 2005).
• Philadelphia’s vacant properties total more than 60,000 (27,000 abandoned residential structures, 2,000 abandoned commercial buildings, and 32,000 vacant lots) with nearly 10 percent of the city’s housing described as abandoned (Black 2003).
• St. Louis has one of the highest vacant housing rates in the country, at over 29,000 or nearly 17 percent of total housing units (National Vacant Properties Campaign 2005).

The abandonment problem is even more profound and perhaps less susceptible to reversal in some smaller cities of less than 100,000 that have lost at least 25 percent of their population over the last few decades. The situation in Camden, New Jersey, East St. Louis, Missouri, and other cities with large-scale abandonment suggests a severely weakened market with multiple contributing socioeconomic factors. Where the number of abandoned properties indicates a systemic problem, there may be an inherent limitation on the ability to stimulate market activity.

This problem has ramifications for the quality of our public and private lives, because abandonment can lead to other detrimental social and fiscal impacts: depressed property values of surrounding properties (Temple University 2001); increased criminal activity; health and safety concerns due to environmental hazards; and additional disinvestment. All of these outgrowths of abandonment raise costs for the city, including site cleanup and demolition, provision of legal services, police and fire protection, and legal enforcement.

As urban vacancy and abandonment increase and suburban open space becomes less available or attractive for development, market pressures may improve redevelopment prospects, as in Boston, Chicago, and Atlanta. However, for several reasons we cannot just wait for this to happen everywhere.

First, the market does not always operate perfectly, in part because it is subject to existing laws and regulations (e.g., tax foreclosure statutes and clean title requirements) that impose high transaction costs to taking title and therefore affect market redevelopment. Some level of public policy innovation is needed, whether reform of existing laws or new laws and practices. Second, preserving open space is arguably a public benefit, but that also implies the need for public action to steer new development to previously developed properties. Finally, decisions about whether to spend public money, time, and effort are not made in a vacuum, but require an understanding of the problem, the available tools, and the resources and skills to implement them.

The magnitude of the problem suggests there are no easy answers. Multiple, interconnected market factors and differing state legal frameworks mean that the remedies to abandonment vary. In an effort to better define the public strategies for addressing the problem in different settings, this article sets forth the challenges of overcoming property acquisition barriers to abandonment, outlines a range of remedies, and explores potential next steps.

Neighborhood Redevelopment in New Jersey

Several years ago, Housing and Neighborhood Redevelopment Services, Inc. (HANDS), a nonprofit community development corporation (CDC) in Orange, New Jersey, tried to acquire an abandoned multifamily property. The property was burdened by tax liens that the city had sold to third-party purchasers, a strategy that cities use to raise revenue for other needs. The lien holders included out-of-state investment groups and speculators, and the current property owners did not have the financial ability or desire to redeem the liens. No entity was taking responsibility for property upkeep, so it sat idle and accumulated more tax liens, further elevating the stakes involved in clearing the title and heightening the financial, legal, and psychological barriers to acquisition. HANDS had a plan for neighborhood revitalization and a productive use for the property, but it lacked the funds for acquisition and the tools to clear the legal title.

Over the past few years, however, New Jersey reformed state programs to provide up-front subsidies for property acquisition, removal of liens, and other activities necessary for CDCs to establish site control (Meyer 2005). At the same time, a new state law, the Abandoned Properties Rehabilitation Act (2004), accelerated foreclosure action on vacant property by eliminating the waiting period between the time a potential new owner gives notice of its interest in foreclosing and lien acquisition. In cases where the owner will not rehabilitate a property, the new law allows the municipality to undertake rehabilitation or find a CDC to do so.

In this instance, HANDS took advantage of the new state law and financial incentives to acquire the multifamily property and convert it into housing for first-time homebuyers as part of the CDC’s larger neighborhood revitalization strategy. A few other organizations have begun to use these tools to acquire and redevelop single-family and multifamily homes around the state.

Ownership and Title Issues

Where abandonment or prolonged vacancy occurs due to owner inaction, two options exist for reuse. First, the property may be left abandoned indefinitely, or until the market changes. Alternatively, a new owner (e.g., the municipality, a CDC, or a private developer) may intervene, acquire the property, and carry out rehabilitation or reuse. It is this second alternative and the remedies for implementing it that concern us here. New methods for acquiring abandoned property will help to obtain property control from unwilling, unknown, or incapable owners.

However, the debate between these two alternatives raises significant issues that need further exploration. If the primary objective is to put the property back into productive use, one impetus for intervention is to eliminate the legal barriers to transferring the property to a new owner. Clear title is a critical issue. The multiple tax liens that encumber the title, and often cause the property’s abandonment in the first place, can cloud the title and prevent effective title transfer.

These title complications can be further compounded by the use of certain supposed remedies. For example, forcing title transfer involuntarily, from an unwilling owner or in abandonment cases where ownership is in doubt, can result in a cloudy title that may jeopardize obtaining title insurance—a mandatory precursor to procurement of conventional financing—and thereafter present title problems whenever the property changes hands. Clear title is part of the larger challenge for many states that do not have efficient, workable processes for moving title into the hands of responsible owners.

Remedies: Laws, Practices, and Tools

Municipalities seeking to reduce their stocks of vacant and abandoned property may be inspired by strategies and programs used in other localities, but they should carefully assess their own situations first. Differences in state laws may require a variety of approaches, such as reforming existing laws; improving local practices and implementation; and introducing innovative new tools. Some remedies to facilitate acquisition of vacant and abandoned properties for redevelopment seek to

• tighten code enforcement practices;
• strengthen nuisance abatement laws;
• pass a receivership law or encourage CDCs and municipalities to use existing receivership powers;
• reform tax foreclosure laws;
• use land banks or similar acquisition vehicles; or
• exercise eminent domain powers.

Remedy choice depends on the property’s stage of abandonment, the current land use (e.g., multifamily rental, single-family house, commercial, or industrial), the property’s ownership status, and state statutes and regulations. A property at an early stage of abandonment due to general neglect and code violations, including conditions that adversely affect the health, safety, or well-being of building residents or neighbors, may be turned around with regular inspections and enforcement. These preventive remedies can slow disinvestment and prevent permanent abandonment by forcing a known owner to either renovate the property or transfer it to another entity willing to do so. Effective code enforcement varies widely because it is a function of local practice, but persistent municipal issuance of orders for code violations is critical.

Localities may also enforce state-authorized nuisance abatement laws to address these code violations by requiring an owner to make repairs or improvements, such as trash removal, structural repairs, and building demolition. If an owner refuses, then the municipality can enter the property to undertake these activities and seek to collect the costs from the owner. If that fails, the municipality may place liens on the abandoned property equal to the costs of these actions, enforcing them through foreclosure actions, or in many states by attaching the owner’s assets. The effectiveness of nuisance abatement laws varies across states, depending on the definition of “nuisance,” the prescribed statutory penalties, and how the local authority chooses to carry out nuisance actions (Mallach 2004).

Significant disinvestment generally occurs where property owners fail to undertake property management responsibilities that cause significant disrepair; stop paying back taxes, utilities, or other public services; and/or allow the property to remain vacant for more than a designated period, usually six to twelve months. Some of these complicated cases require innovative, sometimes controversial remedies.

Under Baltimore’s vacant property receivership ordinance, for example, the city or its CDC-designee may petition a court to appoint a receiver for any property with a vacant building violation notice, though it is generally used in the case of severely deteriorated single-family houses. The receiver may collect rents (if the property is still occupied), make repairs, and attach a super-priority lien on the property equal to the expense; or immediately sell the property to a private or nonprofit developer who will conduct the rehabilitation. Advocates argue that the receivership approach is beneficial because it focuses on fixing the property (bringing an action in rem, literally against the “thing”) rather than on punishing the owner (known as an in personam action, or against the person) (Kelly 2004).

In Cuyahoga County (where Cleveland is located), CDCs have used nuisance abatement as a form of receivership. In these cases, the CDC brings such an action in a special housing court to abate a nuisance and have a receiver appointed, and then the CDC collects the incurred improvement costs from the owner or conveys the property to a new owner.

In both Baltimore and Cleveland, the concept is used effectively against speculating investors who buy inexpensive, dilapidated properties and do nothing but pay taxes, hoping that the revitalization work of others in the community will increase their property values. These “free riders” frustrate efforts to identify them as targets in a legal action by creating sham ownership entities or providing the vacant house as the owner’s only mailing address (Kelly 2004).

Nuisance abatement or receivership actions ultimately may not provide secure title for the subject properties, or may cause properties to be more susceptible to unclear title outcomes. Receivership can create an encumbrance on the title that is difficult to extinguish, thus clouding the title and providing an excuse for banks not to lend on the property. The current title system, as adhered to by title companies and financial institutions, works relatively well for tracking and recording straightforward, linear property transactions, but is not set up to handle properties with multiple liens or encumbrances arising from checkerboard-type transactions that are characteristic of vacant and abandoned properties. Nevertheless, these actions constitute an underutilized and powerful tool, when used in the right legal and market circumstances.

Tax foreclosure is the most commonly used property acquisition tool for local government. It involves the taking of title to properties where owners have failed to pay their property taxes or other obligations to a government entity (e.g., a municipality, school district, or county). Third parties, such as CDCs or private developers, can also use tax foreclosure proceedings, as governed by state law, to acquire properties. The tax foreclosure process is based on the principle that a tax lien has priority over private liens, such as mortgages, so when the buyer forecloses on the tax lien, any private liens are extinguished and the property is acquired “free and clear” (Mallach 2004).

The common problems associated with this otherwise powerful tool arise from the lengthy time periods imposed by state statutes on different stages in the foreclosure process (e.g., the time in which the owner has a right to redeem his or her rights to the property); the length of time that taxes must be delinquent before a sale can occur; and whether the state first requires sale of the liens or sale of the property outright. Constitutionality standards also require strict notice requirements to all parties holding a legal interest in the property. Although rewriting state statutes to reduce or eliminate these time requirements may be a politically protracted process, state law reform can occur. For example, the law passed last year in New Jersey substantially reduced the notice periods, and Michigan’s tax foreclosure reform offers faster judicial proceedings to increase the timeliness of property transfer (Mallach 2004).

An increasingly popular tool is the local land bank, a governmental entity that acquires, holds, and manages vacant, abandoned, and tax-delinquent property. The properties are acquired primarily through tax foreclosure, and then the land bank develops or, more likely, holds and manages the properties until a new use or owner is identified. Land banks can provide marketable title to properties previously encumbered with liens and complicated ownership histories. They also provide localities with a way to create an inventory and monitor properties, and assemble properties into larger tracts to improve opportunities for targeted economic development.

Each city’s land bank is organized and operates differently. Some operate within city agencies, while others exist as legally separate corporations (Alexander 2005). The Genesee County, Michigan land bank has pioneered a way to self-finance redevelopment by using the financial returns on the sale of one property to support the costs of holding other properties, an approach that ultimately reduces municipal costs (Kildee 2004).

Exercise of eminent domain powers pursuant to the Fifth Amendment of the U.S. Constitution is another remedy that transfers real property titles to the government for public use. Targeting blighted properties remains an agreed upon use of eminent domain, although state statutes differ on how it is carried out. Cities are certain to be more wary of using this tool in the wake of the controversial U.S. Supreme Court decision, Susette Kelo et al. v. City of New London, Connecticut, et al. (Kelo), which sanctioned New London’s condemnation of nonblighted private property for economic development purposes. The Kelo ruling has caused state legislatures around the country to consider reevaluating the meaning of public use and limiting the circumstances under which government entities can utilize this powerful remedy.

Without overall market improvements, it is unlikely that these remedies alone can give cities, neighbors, courts, or community nonprofit organizations the tools needed to address the vacant and abandoned property problem. However, anecdotal experience and discussions at the Lincoln Institute roundtable indicate that these tools have been used successfully on a case-by-case basis; whether they affect change on a neighborhood- or city-wide basis and over a period of years is still unclear. Success may depend, in part, on market strength and conditions, but also on localities’ vigilance (for instance, with code enforcement), willingness to take risks and use new tools, and institutional capacity.

Local Impacts of Remedy Implementation

Even where one or more of these tools is legal, available, and effective in eventually converting vacant and abandoned property to productive uses, there are three types of hurdles that may prevent valuable projects from being pursued: local administrative and procedural barriers; unintended and potentially negative consequences; and ancillary local strategies that can enhance or decrease their effectiveness.

Local barriers include costs to cities of administering, managing, and implementing these conversion activities; political opposition, inaction or apathy; and lack of local knowledge or capacity. The up-front costs to cities or nonprofit entities of taking ownership to dilapidated properties and making improvements are not trivial. Also, some tools may require investment in training, innovation, and minor risk-taking by local governments. Studies and experience are beginning to reveal that, for similar reasons, localities are not taking advantage of tools already provided for in some state statutes. One researcher found that local governments in Massachusetts were not utilizing existing mechanisms to address tax delinquent properties (Regan 2000). New Jersey is reportedly experiencing a similar phenomenon, where local entities are underutilizing tools available since adoption of new abandoned property laws and funding programs.

The possibility of unintended consequences fostered by intervention in the market should not be an argument for no intervention, but it is a reminder that any remedy needs to fit market conditions and be used with appropriate reuse restrictions or incentives to avoid new problems. One downside to successful neighborhood revitalization is gentrification, which is the displacement of lower-income residents by new, wealthier residents who can afford the higher prices placed on renovated properties. For instance, in Atlanta and Boston neighborhoods with relatively strong metropolitan-wide real estate markets, carrots and sticks must be used selectively to promote the transfer of abandoned property in some areas. One way to minimize the extent of gentrification is to require that any residential reuse maintain an income mix by preserving a percentage of units as long-term affordable housing. Another model is the nonprofit community land trust (CLT), which generally owns the land and provides affordable housing in perpetuity by leasing it to the building owners (Greenstein and Sungu-Eryilmaz 2005).

Local neighborhood revitalization strategies combined with other appropriate remedies can improve the chances of success as cities and CDCs work to address their redevelopment challenges. These strategies may include documenting and inventorying abandoned properties; targeting pivotal properties in neighborhoods selected for redevelopment; increasing home ownership; forging partnerships with business groups, city hall, hospitals, universities, and other nonprofits; and identifying and reforming significant policies and regulations on tax liens.

Communities must also continue to be innovative and to adapt available tools and remedies to address ever-changing local abandonment triggers. One such challenge is the recent phenomenon of lien securitization, which occurs when one entity buys up multiple liens on multiple properties and bundles or securitizes them for resale. This puts the liens into the hands of investors who presumably have no interest in the local economy or the property’s productive reuse, and can prevent title transfer, especially in weak secondary markets.

Next Steps in Meeting the Abandonment Challenge

Property title and acquisition obstacles are not the only barriers to fostering productive reuse of abandoned property, and removing these obstacles may not overcome the abandonment cycle. However, use of the remedies outlined here is an essential first step, and several next steps could significantly enhance their implementation. First, a pressing need exists to clarify the meaning of “clear title,” possibly by updating title insurance company standards to reflect new practices.

Second, case studies of successful and failed tools and mechanisms in weak and strong urban markets could provide valuable lessons. Possible criteria to evaluate a remedy’s success or failure include the frequency and extent of their use; their applicability to all property uses (residential, commercial, industrial); their effectiveness in fully clearing the title; unexpected consequences; and, if possible, the property’s ultimate reuse and its sustainability.

Third, a study of states where statutory reform has occurred, such as Michigan or New Jersey, would offer an analysis of how such reform has impacted property transfer and reuse. Finally, since local entities play a key role in tool implementation, improving local capacity through education about these tools and their importance in revitalizing urban areas would be another crucial next step in ultimately reducing the numbers of vacant and abandoned properties.

Lavea Brachman, a visiting fellow at the Lincoln Institute of Land Policy in 2004–2005, continues to research public policy remedies and the roles of local nonprofits and government entities in fostering brownfield and abandoned property reuse. She also directs the Delta Institute’s Ohio office, a nonprofit working on sustainable development solutions to environmental quality and community and economic development challenges.

References

Alexander, Frank. 2005. Land bank authorities: A guide for the creation and operation of local land banks. New York, NY: Local Initiatives Support Corporation.

Black, Karen. 2003. Reclaiming abandoned Pennsylvania. Philadelphia, PA: Pennsylvania Low Income Housing Coalition Report, March.

Greenstein, Rosalind, and Yesim Sungu-Eryilmaz. 2005. Community land trusts: Leasing land for affordable housing. Land Lines 17(2): 8–10.

Kelly, Jr., James J. 2004. Refreshing the heart of the city: Vacant building receivership as a tool for neighborhood revitalization and community empowerment. 13-WTR J. Affordable Housing & Community Dev. Law 210.

Kildee, Dan. 2004. The Genesee County land bank initiative. Flint, MI: Genesee County Land Bank.

Mallach, Alan. 2002. Abandoned properties, redevelopment and the future of America’s shrinking cities. Working paper. Montclair, NJ: National Housing Institute.

———. 2004. Addressing the problem of urban property abandonment: A guide for policy makers and practitioners. Montclair, NJ: National Housing Institute, April.

Meyer, Wayne T. 2005. High-impact development for long-term sustainable neighborhood change: Acquiring, rehabilitating, and selling problem properties. Orange, NJ: HANDS, Inc.

National Vacant Properties Campaign. 2005. www.vacantproperties.org.

Regan, Charleen. 2000. Back on the roll in Massachusetts: A report on strategies to return tax title properties to productive use. Boston: Citizens’ Housing and Planning Association (CHAPA).

Temple University Center for Public Policy and Eastern Pennsylvania Organizing Project. 2001. Blight-free Philadelphia: A public-private strategy to create and enhance neighborhood value. Philadelphia, PA, October.

A major argument in support of land-value taxation is that it creates no incentives for altering behavior in order to avoid the tax. By contrast, a conventional property tax, levied on buildings, can deter landowners from erecting otherwise desirable structures on their land. For example, homeowners may decide against finishing a basement or adding a second bath because it would increase tax liability. Thus, a conventional property tax can lead to excessively low capital-land ratios and “excess burden”—a cost to taxpayers over and above the actual monetary payments they make to the tax authorities. This article reports on a recent study of excess burden resulting from an early British antecedent of the modern property tax—the 17th-century window tax.

The Case of the Window Tax

In 1696, King William III of England, in dire need of additional revenues, introduced a dwelling unit tax determined by the number of windows in an abode. The tax was designed as a property tax, as described by this discussion in the House of Commons in 1850: “The window tax, when first laid on, was not intended as a window tax, but as a property tax, as a house was considered a safe criterion of the value of a man’s property, and the windows were only assumed as the index of the value of houses” (HCD 9 April 1850).

In its initial form, the tax consisted of a flat rate of 2 shillings upon each house and an additional charge of 4 shillings on houses with between 10 and 20 windows, or 8 shillings on houses with more than 20 windows. The rate structure was amended over the life of the tax; in some cases, rates were raised dramatically. In response, owners of dwellings attempted to reduce their tax bills by boarding up windows or by constructing houses with very few of them. In some dwellings, entire floors were windowless, leading to very serious and adverse health effects. In one instance, lack of ventilation led to the death of 52 people in the surrounding town, as reported by a local physician who called on a house inhabited by poor families:

“In order to reduce the window tax, every window that even poverty could dispense with was built up, and all sources of ventilation were thus removed. The smell in the house was overpowering and offensive to an unbearable extent. There is no evidence that the fever was imported into this house, but it was propagated from it to other parts of town, and 52 of the inhabitants were killed.” (Guthrie 1867)

The people protested and filed numerous petitions to Parliament. But, despite its pernicious effects, the tax lasted more than 150 years before it was finally repealed in 1851.

The window tax represented a substantial sum for most families. In London, it ranged from about 30 percent of rents on “smaller houses on Baker Street” to as much as 40 to 50 percent on other streets, according to a House of Commons debate in 1850 (HCD 9 April 1850). The tax was particularly burdensome on poor families living in tenements, where assessors taxed the residents collectively. Thus, if a building contained 2 apartments, each with 6 windows, the building was taxed at a rate based on 12 windows. By contrast, on very large houses of the wealthy, the tax typically did not exceed 5 percent of the rental value.

The tax schedule underwent several significant changes before it was finally repealed. In 1784, Prime Minister William Pitt raised tax rates to compensate for lower taxes on tea. Then in 1797, Pitt’s Triple Assessment Act tripled the rates to help pay for the Napoleonic Wars. The day following this new act, citizens blocked up thousands of windows and wrote in chalk on the covered spaces, “Lighten our darkness we beseech thee, O Pitt!” (HCD 24 Feb. 1848).

England and Scotland were both subject to the window tax, but Ireland was exempted because of its impoverished state. One member of Parliament quipped, “In advocating the extension of the window tax to Ireland, the Honorable Gentleman seemed to forget that an English window and an Irish window were very different things. In England, the window was intended to let the light in; but in Ireland the use of a window was to let the smoke out” (HCD 5 May 1819).

The window tax, incidentally, was viewed as an improvement over its antecedent, the hearth tax. In 1662, Charles II (following the Restoration) imposed a tax of 2 shillings on every fire hearth and stove in England and Wales. The tax generated great resentment largely because of the intrusive character of the assessment process. The “chimney-men,” as the assessors and tax collectors were called, had to enter the house in order to count the number of hearths and stoves. The window tax, by contrast, did not require access to the interior of a dwelling; the “window peepers” could count the apertures from the outside and avoid invading the privacy of the home.

The window tax, however, created some administrative problems of its own—most notably the definition of a window for purposes of taxation. The law was vague, and it was often unclear what constituted a window for tax purposes. In 1848, for example, Professor Scholefield of Cambridge paid tax on a hole in the wall of his coal cellar (HCD 24 Feb. 1848). In the same year, Mr. Gregory Gragoe of Westminster paid tax for a trapdoor to his cellar (HCD 24 Feb. 1848). As late as 1850, taxpayers urged the Chancellor of the Exchequer to clarify the definition of a window.

Notches and Their Effects on Behavior

Throughout its history, the window tax consisted of a set of “notches.” A notch in a tax schedule exists if a small change in behavior—such as the addition of a window—leads to a large change in tax liability.

Notches are rare (Slemrod 2010) and not to be confused with kinks, which are far more common even today. A kink in a tax schedule exists if a small change in behavior leads to a large change in the marginal tax rate but just a small change in tax liability. The income tax in the United States, for example, has several kinks. Married couples with taxable income from $17,850 to $72,500 are in the 15 percent marginal tax bracket; couples with taxable income from $72,500 to $146,400 are in the 25 percent marginal tax bracket. If a couple with income of $72,500 were to earn an extra dollar, its marginal tax rate would jump to 25 percent, but its tax liability would increase by just $.25.

Microfilm records of local tax data in the U.K. from 1747 to 1830 allow for a more systematic examination of the impact of the window tax and notches. This article draws on a data set from 1747 to 1757, with information on 493 dwellings from Ludlow, a market town in Shropshire, near the border of Wales. Over this period, the window tax schedule included 3 notches. A homeowner in this period paid:

• no tax if the house had fewer than 10 windows;
• 6 pence per window if the house had 10 to 14 windows;
• 9 pence per window if the house had 15 to 19 windows;
• 1 shilling per window if the house had 20 or more windows.

Homeowners who purchased a 10th window thus paid a 6 pence tax on the 10th window as well as on each of their 9 other windows, which previously had been untaxed. Thus the total tax on the 10th window was 60 pence, which was equal to 5 shillings. If the window tax distorted decisions and thus led to excess burden, then one would expect to find many homes with 9, 14, or 19 windows but very few with 10, 15, or 20. A test of this argument is discussed below.

Through the first half of the 18th century, the administration of the tax had been troublesome, as homeowners frequently camouflaged or boarded up windows until the tax collector was gone, or took advantage of loopholes or ambiguities in the tax code. As a result, tax collections were much lower than expected. In 1747, however, Parliament revised the tax by raising rates and introducing measures to improve its administration. Most notably, it prohibited the practice of blocking up and subsequently reopening windows in order to evade assessment; violators had to pay a penalty of 20 shillings (1 pound) for every window they reopened without notifying the tax surveyor (Glantz 2008).

The 1747 act reduced tax evasion significantly, so the data for the following 10 years should provide reasonable estimates of the actual number of windows. If the window tax distorted behavior, one would expect to find spikes in the number of dwellings at the notches, with 9, 14, or 19 windows. And this is precisely what the data demonstrate. Figure 1 is a histogram showing the number of windows for homes in the sample. The pattern is clear; there are sharp increases in the number of homes with 9, 14, or 20 windows:

• 18.4 percent of the homes have 9 windows, 3.9 percent 8 windows, and 4.6 percent 10 windows.
• 16.6 percent have 14 windows, 6.0 percent 13 windows, and 1.8 percent 15 windows.
• 7.1 percent have 19 windows, 3.4 percent 18 windows, and 0.7 percent 20 windows.

Standard statistical tests reject the hypothesis that there are equal numbers of houses with 8, 9, or 10 windows; with 13, 14, or 15 windows; or with 18, 19, or 20 windows. It is manifestly clear that people responded to the window tax by locating at one of the notches so as to minimize their tax liability.

Data on a sample of 170 houses for the period 1761 to 1765 shed light on the response to Parliamentary revisions to the tax in 1761. In addition to rate increases, the 1761 revisions expanded coverage of the tax to include houses with 8 or 9 windows. Under the earlier rate structures, houses with fewer than 10 windows paid no window tax. For this second sample, figure 2 shows a large spike at 7 windows: 28.2 percent of the houses have 7 windows, but only 5.2 percent have 6 windows, and just 2.9 percent have 8 windows. Once again, it’s easy to reject the hypothesis that there were an equal number of houses with 6, 7, or 8 windows.

In summary, the evidence from our two samples makes it quite clear that there was a widespread tendency to alter behavior in order to reduce tax payments. People chose the number of windows not to satisfy their own preferences, but to avoid paying higher levels of taxes. The window tax, in short, generated a real “excess burden.”

How Large Was the Excess Burden from the Window Tax?

As discussed, the window tax was substantial and induced widespread tax-avoiding behavior. Based on some standard techniques of economic analysis, our simulation model generates an estimate of what people would have been willing to pay for their preferred number of windows. The model captures each consumer’s demand for windows with and without the tax, the taxes paid, and the loss of welfare from adjusting the number of windows in response to the tax.

In the sample from 1747 to 1757, the estimated welfare losses were very large for households at one of the notches. For them, the welfare loss (i.e., excess burden) is 62 percent of the taxes they paid. That is to say, for every dollar collected under our simulated version of the window tax, the tax imposed an additional burden or cost of 62 cents on these households. The excess burden, not surprisingly, is particularly large for households that chose 9 windows. One criterion economists use to evaluate a tax is excess burden relative to taxes paid. By this standard, a good tax is one that collects significant revenue buts leads to very small changes in decisions. Consumers who purchased 9 windows are thus the worst possible case. Those consumers paid no tax; so, for them, the entire burden of the tax is excess burden.

For our entire sample of 1,000 simulated households, the excess burden as a fraction of taxes paid is about 14 percent. Thus for each tax dollar raised by the window tax, our simulation suggests an additional cost of 14 cents to taxpayers as a result of their distorted choices.

Some Concluding Remarks

The window tax represents a very clear, transparent case of excess burden—a tax that placed heavy costs on taxpayers in addition to their tax liabilities resulting from tax-avoiding adjustments in behavior. But, as mentioned early on, modern property taxes also create an excess burden, although the consequences are less dramatic than in the case of the window tax.

In designing a tax system, it is important to consider this issue. The ideal, in principle, is a neutral tax that raises the desired revenues but doesn’t distort taxpayer behavior so as to create additional burdens. Such a tax is a pure land-value tax levied on the site value of the land—that is, its value with no improvements. Thus, the assessed value of the land (and hence the tax liability of the owner) is completely independent of any decisions made by the owner of the land parcel. Unlike the window tax, which provides a compelling example of the additional costs that arise when property tax liabilities depend on the behavior of the property owner, a land-value tax creates no incentives for tax-avoiding behavior.

About the Authors

Wallace E. Oates is Distinguished University Professor of Economics, Emeritus, University of Maryland, and University Fellow at Resources for the Future.

Robert M. Schwab is a professor of economics at the University of Maryland.

Resources

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Liz Wood wanted to buy a house. It was 2006, she had been renting for A decade, and her monthly payments were getting high. She was 43 and steadily employed, earning $34,000 annually plus benefits as a family educator. She didn’t want anything fancy, just a place where she could “gather love and bring stability.” She would stay within her means.

Nonetheless, the math was tricky. Wood lives in Duvall, Washington, a town of roughly 7,500 in the foothills of the Cascade Mountains. Steeped in lush forest, Duvall is about 30 miles from Seattle and a mere eight miles from the City of Redmond, the headquarters for Microsoft. The median income in Duvall is nearly twice that of the state of Washington, and homes in this area are expensive. In 2010, the median value of owner-occupied homes in Duvall was $373,500, compared to $262,100 for the state, according to the U.S. Census Bureau.

With few options, Wood eventually decided on a used factory-built home (also known as manufactured housing) for $55,000 in Duvall Riverside Village, a four-acre community of 25 manufactured homes in the middle of downtown Duvall. “It’s amazing here,” she says. “I live on riverfront property, so when I walk out my door I see water, pine trees, and a walking trail that goes from my house to the next town. I wake up in the morning hearing birds. I know all my neighbors; I’m connected to my community. I’m a block from the police station. I feel safe.”

But it was still difficult. Wood owned her house, but not the land on which it sits. Instead, she rented the plot for $450 a month, plus water and utilities, as did the other residents of Duvall Riverside Village. As a result, Wood and her neighbors remained largely at the mercy of the property owner, their landlord, and forfeited much of the autonomy and security associated with more traditional home ownership models.

Their landlord prohibited garages, leaving residents limited storage options. He charged them $25 a month per additional car or adult beyond those registered at the time of move-in. He charged $5 a month for every pet and required dogs to be leashed at all times. There was a $5 monthly fee for every extra half-cord of firewood, which Wood needed to fuel her stove. Though he employed a groundskeeper, he didn’t install outdoor lights, nor did he maintain the community roads, which were pocked and cracked.

In 2012, Wood and her neighbors received a written notice that the owner was selling the land. Unlike many owners, who prefer to sell their properties to a developer, this landlord was open to selling to residents. He had agreed to host a meeting between the tenants, a real estate broker, and the Northwest Cooperative Development Center, a nonprofit that supports cooperatives. The parties discussed the possibility of establishing a nonprofit, resident-owned cooperative to purchase the property. In doing so, they would conserve the land for manufactured housing, continue living there as a community, and collectively manage it to guarantee a safe, affordable, high-quality experience.

The residents voted to go for it. The landlord had two demands. He wanted fair market value, and he wanted to complete the sale by the end of the year. It was already August. They had five months.

In addition to the collaboration with Northwest Cooperative Development Center, the residents also began working with ROC USA, a New Hampshire–based nonprofit organization that offers residents of manufactured housing communities a mix of technical assistance and affordable financing to purchase their rented land when it becomes available for sale. Since its establishment in 2008, ROC USA has successfully facilitated 80 of these transactions nationally and secured more than $175 million in financing for them.

ROC USA works with a network of eight regional affiliates, including the Northwest Cooperative Development Center. In Duvall, the nonprofits worked together with the residents to assess the economics of a possible deal and to confirm that the community was a good fit for resident ownership. Next, the organizations helped the residents to hire a third-party lawyer and establish their cooperative, which would operate as a democracy with residents elected into leadership positions by fellow residents. ROC USA assisted the residents to hire an independent engineer and conduct due diligence of the property; secure financing through ROC USA’s lending subsidiary, ROC USA Capital, to purchase the property and undertake critical repairs; and organize the real estate transfer.

On December 27 of that year, the newly formed cooperative bought the Duvall Riverside Village with $1.3 million in purchase financing from ROC USA Capital, granting Wood and her fellow home owners control over their living arrangements, and permanently preserving 25 affordable homes in a town where such housing stock is scarce.

The residents continue to pay $450 a month to rent the land, but now they vote to determine community rules, and use the rent to make improvements and to pay the community’s mortgage, taxes, and expenses.

“Now, you can have a garage if you want,” explains Wood, who is president of the Duvall residents’ cooperative and a ROC USA board member. “And we spent $35,000 to fix the roads. We don’t have to live in fear anymore, so people are willing to invest in their homes. We have annual meetings to vote in projects. We can lower the monthly rent if we are over-budgeting for things we don’t need. The bottom line is that we are in control of our own destiny.”

Upon completing the sale, ROC USA and the Northwest Cooperative Development Center have continued providing the residents with technical support to ensure smooth operations.

“If they had just lent us the money and said, ‘these are the guidelines, here’s what you need to do, have at it,’ we would have failed,” explains Wood. “But they are an ongoing resource. They help us with tough situations, or when we don’t know how to do something legally. The goal is for us to become independent and to be able to run our community like a business. Pay your bills, and your house can stay where it is. Period. Forever.”

Benefits

Across the United States, more than 18 million Americans live in factory-built homes, which represent 5 percent of the nation’s housing stock in metro areas, and 15 percent in rural communities. They range significantly in quality. Roughly 25 percent of today’s manufactured housing stock is the stereotyped, rickety trailers of the 1960s and early 1970s, produced before the federal government introduced quality controls in 1976. The remaining 75 percent complies with the federal standards, and includes charming, energy-efficient homes, indistinguishable to the untrained eye from their site-built counterparts. Though manufactured homes have long been cast aside as a housing choice of last resort, today’s models are robust, efficient, and inviting, with the potential to help alleviate the nation’s shortage of safe, affordable housing.

Modern manufactured homes cost approximately half as much as their site-built counterparts and can be built five times faster, making them a genuinely viable option for low-income consumers. The production process is less wasteful, and models that comply with the federal government’s Energy Star standards offer home owners meaningful energy savings. And they are durable. Whereas manufactured homes built prior to the 1976 regulations were made to be portable, like recreational vehicles, modern models are built with stronger materials and designed to be permanent. Today’s manufactured homes can sit on any foundation that would otherwise accommodate a site-built structure, creating the flexibility to use the housing in a wide range of geographies and environments.

“The manufactured housing stock is a critical component of the nation’s affordable housing,” says George McCarthy, president and CEO of the Lincoln Institute of Land Policy. “It easily outnumbers our subsidized stock two or three times in almost every market.”

Manufactured homes are cheaper to produce than site-built houses because of the manufacturing process. As Andrea Levere, president of the Corporation for Enterprise Development, writes in the Huffington Post, the “term ‘manufactured housing’ itself has less to do with quality and more to do with the production process, which is a derivative of Ford’s assembly lines. This model allows manufactured homes to be built in a more controlled work environment, translating into predictable costs, increased efficiencies, and reduced waste” (Levere 2013).

In 2013, a new, energy-efficient manufactured home cost $64,000, compared to $324,500 for a new, site-built one, according to the U.S. Census, though the price for the latter includes the land. Even after stripping out the land costs, manufactured homes are still significantly less expensive, averaging $44 per square foot, versus $94 per square foot for site-built homes. And they are unsubsidized, which is a boon given the extremely short supply of subsidized housing compared to demand. Currently, only one in four income-qualified families receives a housing subsidy according to the Bipartisan Policy Commission, leaving the remaining 75 percent in need of an affordable, unsubsidized alternative. By helping to fill that gap, manufactured housing can relieve some of the demand for subsidized housing that state and federal governments are struggling to supply in the face of shrinking budgets. “The majority of families who live in manufactured housing would qualify for subsidized housing, but instead they choose this less expensive and unsubsidized option,” says McCarthy.

The stock is also very versatile, argues McCarthy, who cites its role in housing people during the immediate aftermath of Hurricane Sandy. “Recovery workers got 17 manufactured homes on the ground in New Jersey within weeks of the hurricane—permanent homes for displaced renters, not the problematic ‘Katrina trailers.’ And they did it before most organizations even had a housing plan. This speaks to the efficiency and nimbleness of building manufactured housing. The production times are about 80 percent shorter than for site-built homes, making them the best housing option for disaster response.”

Nevertheless, manufactured housing often gets a bad rap, due largely to the widespread misperception that today’s models are the same as the earliest generations of mobile homes built prior to the introduction of quality control standards by the U.S. Department of Housing and Urban Development in 1976. Today, there are roughly 2 million of these pre-1976 homes; many are barely hanging together and house the nation’s most vulnerable populations, including the elderly and disabled. Though the pre-1976 stock is virtually unrelated to its present-day counterpart, these older, dilapidated dwellings dominate the general public perception of manufactured homes in the United States.

The housing stock’s reputation is further diminished by the vulnerabilities facing home owners who do not own the land on which they live. Roughly 3 million people live in one of the nation’s 50,000 manufactured housing communities, while another 3 million rent on private property. There are manufactured housing communities in every state in the country. Like Duvall Riverside Village, many of them are on prime real estate, and the landowners routinely receive purchase offers from developers.

Advocates working to improve the manufactured home ownership experience, and to promote the stock’s viability as affordable housing, are focusing on three critical areas of innovation: conserving mobile-home parks; replacing pre-1976 units with modern, energy-efficient homes; and increasing access to affordable financing for potential buyers, which is virtually unavailable in the current market and is imperative to building equity and preserving a home’s resale value.

Conserving Manufactured Housing Communities

The conversion of Duvall Riverside Village from a privately owned mobile home community to a resident-owned cooperative is not common. For every community available for purchase that is successfully preserved as affordable housing, there are many more that end up sold for redevelopment, displacing residents who may lack good alternatives.

“It’s not as simple as just moving the home,” says Ishbel Dickens, president of the National Manufactured Home Owners Association. “First, there’s the question of whether the home can even be moved. It may be too old or unstable to survive a move. And even if it can be moved, it’s expensive to do so, and very hard to find a space in another community. In most instances, when a park closes, the residents are probably going to lose the home and all their equity in it. In all likelihood, they will never own a home again. They’ll likely end up on a wait list for subsidized housing, or may even end up homeless.”

To some degree, it’s an accident of history that so many of today’s mobile home parks occupy plots of coveted real estate, says Paul Bradley, president of ROC USA. As he explains it, in the late 1950s and 1960s, Americans began to embrace transportable trailers and campers, in part because of a cultural shift toward outdoor recreation, and in part because post–World War II factories began producing them to utilize excess manufacturing capacity, making them widely available and affordable. As the units grew in popularity, they transitioned from temporary structures to permanent ones, and people began adding makeshift carports and sunrooms. At the time, urban planners accepted the evolution toward permanency. As they saw it, most of the trailers were on land that no one else was using in outer-circle developments. Why not let these campers stay for awhile, until the cities expanded to meet them, at which point the land would be redeveloped?

“These original communities were built with a plan to close them,” says Bradley. “Back then, no one contemplated the full implications of creating a housing stock for which home owners lacked control of the underlying land. No one anticipated that these communities would be full of low- and moderate-income home owners who spent their own money to buy these homes and had few alternatives. And that’s what we are still grappling with today. That lack of control of the land means that home owners live with a deep sense of insecurity and the feeling that it’s irrational to make investments in their properties because they won’t get it back. What’s the implication for home owners who cannot rationally argue for investing in their home? What does that mean for the housing stock? For neighborhoods?”

Short-sighted land use policies are not the only challenge to preserving manufactured housing communities. An equally onerous obstacle is the lack of legal protections afforded to residents. In 34 states and the District of Columbia, the landowner can sell the property without giving residents the opportunity to purchase it. In fact, in most states, the landowner doesn’t have to notify residents that the community is for sale; the landowner can wait until the property has been sold to inform residents of the transaction, suddenly leaving them in a tenuous position. Even the 16 states that require the owner of a manufactured housing community to provide residents advance notice of a sale do not necessarily afford tenants the necessary protections. “In most of the states with advance notice, there are so many limitations on the notice requirements that it is rarely of any use to residents,” says Carolyn Carter, director of advocacy at the National Consumer Law Center.

To better protect residents, advocates support legislative reforms to state laws and tax incentives for landowners who sell to residents. The most effective of these strategies are state laws requiring a landowner to give residents both advance notice of the sale—ideally 60 days—and the opportunity to purchase the property, argues Carter. According to her, there are six states with laws that “work on the ground and provide effective opportunities for residents to purchase their communities,” including New Hampshire, Massachusetts, Rhode Island, Florida, Vermont, and Delaware. She says Oregon passed promising legislation in January 2015.

“In those states with effective notice and opportunity to purchase laws, resident ownership takes off,” Carter explains. Roughly 46 percent of the 80 communities that ROC USA supports are in either New Hampshire or Massachusetts—two small states with some of the nation’s strongest resident protections. There are an additional 89 resident-owned cooperatives in New Hampshire that predate ROC USA’s launch.

To understand the value of strong consumer laws for residents, consider the story of Ryder Woods, a 174-unit mobile home park in Milford, Connecticut, 11 miles south of New Haven, just off a major thoroughfare. Connecticut is one of 19 states that either offer tax incentives or provide residents “some” protections when a community is sold, but also contain “significant gaps,” according to Carter.

In 1998, Ryder Woods’ landowner sold the property to developers. He informed the residents via eviction notices, in violation of state laws requiring him both to give them advance notice of the pending sale and to provide them the right of first refusal to purchase the land. Ryder Woods had an active home owners association, and very quickly they organized protests and petitions and lobbied the state legislature to reverse the sale. Eventually, the local news picked up their story, at which point a Milford-based attorney volunteered her services to help them. As she dug into the case, she realized that the law was on the side of the residents and that the community needed more legal support than she alone could offer. She enlisted help from a friend and fellow attorney—a partner at a prominent, Hartford-based firm—who agreed to take the case pro bono and assigned it a team of attorneys. The case ended up going to trial, eventually making its way to the state’s highest court. Uninterested in the unfolding legal headache, the original buyer resold the property to a second developer.

Four years after the original sale, the courts ruled in favor of the residents. In an unprecedented deal, and as required as part of the settlement, the second developer purchased a new piece of land a mile from the original parcel and completely rebuilt the community there. The developer purchased 174 new mobile homes and sold them to the residents at significantly reduced prices with more favorable mortgage terms than any available in the conventional financing market. He built a community center and a pond, complete with swans. And, as required by their agreement, he provided the residents the opportunity to form a cooperative and buy the land, which they did in 2009 with $5.4 million in purchase financing from ROC USA Capital. They closed on their purchase in the offices of the Hartford firm, which had continued to volunteer its services to the residents through the sale’s completion. Today, there is a Walmart on the land that housed the original Ryder Woods community.

“Sometimes, when we look back, we think it was crazy. We chartered a bus, went to Hartford, spoke to the legislature, and just fought it. We stuck together and won against two big-time, billion-dollar developers,” explains Lynn Nugent, 68, a part-time merchandise associate at Sears, and one of the residents who helped organize the campaign, along with her husband, a retired locksmith. “Now I always say, ‘Somebody else used to own us, and now we own ourselves.’”

Improving Access to Quality, Affordable Manufactured Homes

Unlike the residents of Ryder Woods, many owners of manufactured homes struggle to secure a quality unit with affordable financing. Here again, legislation is a primary culprit. Under federal law, manufactured homes are considered personal property, like a car or a boat, opposed to the real property designation assigned to traditional homes. Consequently, buyers cannot access mortgage loans. Instead, financing is available in the form of personal “chattel” loans. More expensive than mortgage loans, they average an additional 50 to 500 basis points and provide fewer consumer protections. More than 70 percent of purchase loans for manufactured homes are these higher-cost loans, which are considered a proxy for subprime products.

“This second-tier status is one of the biggest limitations to increasing the stock of permanently affordable manufactured homes,” says McCarthy. “It makes financing the homes more challenging and expensive than it should be, and it diminishes the homes’ wealth-building potential because it reduces effective demand for existing units.”

While the dream fix would be to change federal titling laws, such revisions are not forthcoming. Instead, Next Step, a Kentucky-based nonprofit organization, has established “Manufactured Housing Done Right (MHDR).” This innovative strategy works to make high-quality, affordable manufactured homes—and financing—available to low- and moderate-income consumers through a combination of energy-efficient homes, home buyer education, and affordable financing. Here’s how it works.

First, Next Step gives low-income buyers access to high-quality manufactured homes. The organization created a portfolio of models that are both robust and affordable. Each Next Step home meets or exceeds Energy Star standards, reducing utility costs for the home owner and shrinking the environmental footprint. According to Next Step, testing has shown these homes to be 30 percent more efficient than a baseline code home and 10 to 15 percent more efficient than a baseline Energy Star home. On average, this results in $1,800 in energy savings each year for every pre-1976 mobile home replacement and $360 each year for every new home placement.

Additionally, Next Step homes are “value engineered to ensure affordability while upholding quality standards.” They are installed on permanent foundations, providing for greater structural support against wind and reducing settling issues. The homes contain high-quality flooring and insulation, which helps to increase durability and reduce energy costs. And because water is the number one problem for foundations, Next Step homes contain additional safeguards to protect against moisture.

Improving Access to Sustainable Financing

Next Step also makes sure the home buyers can secure sustainable, affordable financing. “One of the problems facing the industry is that the capital markets don’t participate in a big way,” explains Stacey Epperson, CEO of Next Step. “The secondary market is not there in any meaningful way, so there are very few lenders in this marketplace and very few options for buyers. Our solution is to prepare our borrowers for home ownership, and then bring them good loans.”

Next Step works with a mix of nonprofit and for-profit lenders, vetted by the organization, to provide safe, reasonably priced financing. In return, Next Step reduces the lenders’ risk. The homes are designed to meet the lenders’ requirements, and the home buyers receive comprehensive financial education so that they are equipped to succeed as home buyers. Consequently, Next Step home buyers not only secure a better initial mortgage, but also have the capacity to build equity and obtain a good resale price for the home should they decide to sell it one day.

Importantly, each Next Step home is placed on a permanent foundation in order to qualify the home owner for certain government-backed mortgage programs, which are less expensive than a chattel product. Next Step estimates it has saved its 173 home buyers approximately $16.1 million in interest payments.

“Right now, close to 75 percent of all financing for manufactured housing is going out as chattel. But 70 percent of new manufactured homes are going out on private land where, in many cases, the home could be put on a permanent foundation, and the owner could get a mortgage with a lower interest rate and a longer term,” says Epperson.

The MHDR model is innovative in part because it is scalable. Next Step trains and relies on a membership network of nonprofit organizations to implement the model in their respective communities. Next Step sells the homes to members at competitive prices, and then member organizations oversee the process of identifying and educating buyers, assisting them to secure the loan, and managing the installation.

“The way the industry works, there has never really been a way for a nonprofit to buy a manufactured home at wholesale prices. That’s what we’ve engineered, and that’s what makes these homes a lot more affordable than if the nonprofit or home owner tried to buy them on their own,” explains Kevin Clayton, president and CEO of Clayton Homes, one of the nation’s largest producers of manufactured housing, and one of Next Step’s long-time supporters.

“The Next Step program works because it sets people up for success,” says Clayton. “Next Step takes them through home ownership counseling, and supports home owners if they have a hardship down the road. They get to buy the house for a lot less than they otherwise could have, build equity in the home, and have a low monthly loan payment and energy costs.”

Cyndee Curtis, a Next Step home owner, agrees. Curtis was 27, single, and pregnant when she purchased a used, 1971 Fleetwood mobile home for $5,000 in 2001. She put it on the lot she owned just outside the town of Great Falls, Montana.

“I didn’t have money, I didn’t have a degree, and I didn’t have choices,” says Curtis. “The old steel septic tank was a ticking time bomb, with rust holes. The carpet was worn through, the linoleum underneath had burn spots on it, and the ceiling leaked where an addition had been added. Every year, I would buy construction books, go to Home Depot, and ask how to fix that leak. And every year I ended up there by myself, trying to fix it. There was mold on the doorway from that leak, and I had a newborn in there.”

In 2005, Curtis went back to school for two years, obtained her nursing degree, and began working as a licensed practical nurse, earning $28,500 a year. “I figured now I am earning a livable wage and can explore my options,” says the single mother of two. “I wanted something that my kids could grow up in and be proud of, and to make the most of owning the lot I lived on.”

But her credit was poor, and eventually she ended up at NeighborWorks Montana, a nonprofit Next Step Network member that told her about the Next Step program. Over the next two and a half years, Curtis worked with the staff of NeighborWorks Montana to repair her credit. With their assistance, she secured a mortgage and purchased a Next Step home for $102,000, which included not only the house but also the removal, disposal, and replacement of her old septic system. Because the Next Step home is on a permanent foundation that meets certain qualifications—and because of Curtis’s improved credit history, income, and geography—she qualified for a mortgage from the U.S. Department of Agriculture’s Rural Development program, which was significantly less expensive than the more common chattel products. Additionally, whereas Curtis’s previous mobile home was titled like a car, her Next Step home is deeded like a site-built house. Consequently, a future buyer will also be eligible to apply for a traditional mortgage.

Curtis says her Next Step home has provided her significant energy savings. “I have 400 square feet more now than I had previously. I went from having one bathroom to two. And still both my gas and power bills have been cut by about two-thirds.”

She continues. “My house is a thousand percent better than what I lived in before. If a person goes inside my house, they can’t tell it’s a manufactured home. It has nice doorways, nice walls that are textured. It looks like any new home you would want to live in.”

“Sometimes people think they have to suffer with poor housing conditions. I know how it is, and I want them to know that if you put in some hard work, you can make a difference for yourself and your family.”

Loren Berlin is a writer and communications consultant based in Greater Chicago.

References

Levere, Andrea. 2013. “Hurricane Sandy and the Merits of Manufactured Housing.” Huffington Post. January 8. http://www.huffingtonpost.com/andrea-levere/hurricane-sandy-manufactured-housing_b_2426797.html

The proliferation of informal and illegal forms of access to urban land and housing has been one of the main consequences of the processes of social exclusion and spatial segregation that have characterized intensive urban growth in developing countries. Given the absence of adequate housing policies and the failure of the land market to offer sufficient, suitable and accessible housing options, millions of urban poor have to create their own shelter, either by invading private or public land or by buying land illegally and constructing their own housing. This phenomenon has attracted the attention of many researchers, policy makers and others worried about the grave socioeconomic, environmental and political implications for the urban poor and society at large.

Peruvian economist Hernando de Soto is one of the most influential contemporary ideologues addressing this complex issue. His ideas and proposals regarding large-scale regularization programs, most recently presented in his book, The Mystery of Capital, have received extensive media coverage and have raised the level of public debate. His influence can be measured by the fact that an increasing number of countries and cities, in Latin America and elsewhere, have introduced regularization policies based on his ideas, and these programs have already had a significant impact on international and institutional approaches to property reform and good governance. In many countries, politicians who were never particularly interested in urban development concerns have now become vigorous defenders of de Soto’s ideas. Why?

A Review of Urban Settlement Trends

Before addressing de Soto’s work directly, a brief summary of the current situation is in order. In Latin America, the urbanization process has been especially significant: 380 million people, some 75 percent of the total population, lived in urban areas in 2000, making it the most urbanized region in the world. While the globalization of urban land markets has intensified in Latin America, the region has also seen poverty escalate. It is estimated that between 40 and 80 percent of the population lives illegally because they can neither afford nor gain legal access to land near employment centers. As a result, illegal tenure arrangements have become the main form of urban land development.

The violent evictions and forced removals of the 1970s have been gradually replaced by a relative tolerance of illegal occupations, culminating in some cases with the official recognition of such settlements. Responding to growing social mobilization, public administrators and policy makers in several countries have struggled to formulate regularization programs aimed at both upgrading informal areas and recognizing the land and housing rights of the dwellers, thus legalizing their status.

Most land tenure regularization programs have been structured around two intertwined objectives: to recognize security of tenure and to promote the sociospatial integration of informal communities within the broader urban structure and society. The definition of what constitutes security of tenure has varied in both theory and practice. The UN Global Campaign for Securing Tenure for the Urban Poor, for example, seeks to protect dwellers against eviction and achieve other basic objectives, such as contributing to sustainable livelihoods; improving access to basic services; securing urban citizenship; producing certainty and incentives for investment; mobilizing disparate communities; and empowering women.

Generally speaking, regularization programs in Latin America have been more successful in upgrading settlements through public investments in urban infrastructure and service provision than in legalization programs. The definition of the nature of the rights to be attributed to dwellers has varied greatly, ranging from titles (such as freehold and leasehold) to contracts (such as social rent and other rental mechanisms) and precarious administrative permits (such as temporary licenses and certificates of occupancy). Experiences based on the transfer of individual freehold titles have been largely unsuccessful, given the many existing legal, technical and financial obstacles.

de Soto’s Contributions to the Debate

Although he has claimed that he initiated the debate, de Soto instead has made an undeniably important contribution to a long-standing discussion of the need to confront the phenomenon of urban informality and illegality through public policies aimed at legalizing informal settlements and other extralegal economic activities. Since the 1970s, this debate increasingly has involved planners and policy makers, but de Soto has repackaged the discussion and, to some extent, contributed to widening its scope and reach.

What makes de Soto’s ideas so appealing is that, perhaps better than anyone else, he has been able to emphasize the economic dimension and implications of urban illegality. Most of the academic research, social mobilization and policy-making on the matter of informal settlements and land regularization have been supported by a combination of humanitarian, ethical, religious, sociopolitical and environmental arguments. de Soto’s approach, on the other hand, has stressed the significant impact that comprehensive regularization programs could have on the overall urban economy by linking the growing informal extralegal economy into the formal economy. Moreover, he has argued that such public policies can be instrumental in reducing social poverty.

In his view, small informal businesses and precarious shanty homes are essentially economic assets, “dead capital,” that should be revived by the official legal system and turned into liquid capital so people could gain access to formal credit, invest in their homes and businesses, and thus reinvigorate the economy as a whole. He has estimated the amount of dead capital in the developing world at about US$9.3 trillion, a staggering figure that has drawn the attention of many influential politicians, land developers, government officials and financial organizations (Bourbeau 2001). His argument has been summarized as follows:

“Most of the poor already possess the assets they need to make a success of capitalism…But they hold these resources in defective forms…They lack the process to represent their property and create capital…They have houses, but not titles…. It is the representation of assets in legal property documents that gives them the power to create surplus value” (Mammen 2001).

In his first book, The Other Path, de Soto advocated the formalization of informal settlements. In his new book, The Mystery of Capital, he has taken this argument one step further, advocating that property ownership is the reason “why capitalism triumphs in the West and fails everywhere else,” which is also the subtitle of the book. de Soto offers a three-part argument:

• People need to feel secure of their legal tenure status so they can start investing in housing and business improvements;
• Security of tenure and resulting access to credit can only be provided by the legalization of informal settlements and businesses;
• The way to proceed is to provide universal title ownership through individual freehold titles, with clear titles and enforceable rights, to enable third world countries to leverage themselves and thus eradicate poverty.

The recognition of property ownership in de Soto’s proposal is important because it would entail access to credit and finance. He argues that European countries and the U.S. improved their property systems, allowing economic actors to discover and realize the potential of their assets and thus to be in a position to produce the kind of noninflationary money necessary to finance and generate production. Following that logic, national and international organizations have proposed, and even imposed, the full legalization of businesses and the unqualified recognition of individual freehold titles for urban dwellers in some informal settlements as the “radical” way to transform decaying urban economies.

Critiques of de Soto’s Assumptions

Appealing as his ideas are, there are many flaws in de Soto’s arguments. Now that the dust raised by the initial media attention to his book has started to settle down, the debate has become increasingly critical. Such an appraisal is especially important because the regularization programs inspired by his ideas have had a significant impact on the daily lives of millions of people.

To begin with, there has been increasing criticism of de Soto’s methodological approach that led to the highly unlikely estimated figure of existing dead capital. Some analysts have pointed out that his grasp of the role and social construction of individual property ownership in European and U.S. economic history is not entirely correct (Payne 2001). Others have criticized de Soto for oversimplifying, if not totally misunderstanding, the complex dynamics of both informal and formal urban land markets (Bourbeau 2001). I have stressed the specific, perhaps unique, role of land ownership in developing countries, especially in Latin America, where historically the combination of weak capital markets, highly inflationary economies and deficient social security systems has turned land value appreciation into a fundamental capitalization mechanism, thus generating a culture of speculation that has long supported a heritage of patrimonialism and political clientilism. This process has, in its turn, deeply affected the conditions of access to urban land and housing and the spatial distribution of public equipment and services, as well as generating urban illegality.

Another related critical argument is that de Soto has failed to recognize that the poor, despite their poverty, have already amassed assets through access to credit, albeit not from formal institutions. In fact, de Soto has failed to provide evidence that banks and other official financial and credit institutions would be prepared to give systematic credit to the poor, even though there is historical evidence to the contrary. For example, in de Soto’s country of Peru very few people have been able to access official credit following a massive regularization program (Riofrio 1998; Calderon 2001). Moreover, existing research in Colombia and other Latin American countries has indicated that the poor would not even be interested or willing to obtain official credit, given the socioeconomic and fiscal implications of this process (Gilbert 2001). Recent studies also have questioned the urban and socioeconomic sustainability of settlements in Mexico, Peru, El Salvador and elsewhere that have been legalized by programs inspired by de Soto’s ideas (Duhau 2001; Kagawa 2001; Zeledon 2001). Such programs have focused exclusively, and artificially, on the formal legalization of informal settlements and have not included adequate upgrading and other socioeconomic programs, thus failing to promote any sociospatial integration.

From my perspective as a legal scholar, I see three main flaws in de Soto’s argument. First, while discussing the importance of legalizing informal settlements, he has failed to question the very nature of the legal system that has generated urban illegality in the first place. I believe that the discussion of laws and legal institutions has to be supported by a critical understanding of the nature of the law-making process, the conditions for law enforcement, and the dynamics of the process of social construction of urban illegality. In particular, I have argued that the legal treatment of property rights should be taken out of the narrow, individualistic context of civil law so the matter can be interpreted from the socially oriented criteria of redefined public urban law (Fernandes 2001).

In this context, far from being radical, de Soto’s argument is a very conservative one. His work has failed to qualify the discussion on property rights, and he seems to assume that there is a universal, a-historical, “natural” legal definition of such rights. However, in Latin American countries and elsewhere in the developing world, the state has treated differently the different forms of property rights (financial, industrial, intellectual, etc.) and the social relations around them, allowing for varying degrees of state intervention in the domain of economic property relations. It is only for a very specific form of property rights, land and real estate, that the state has failed to affirm the notion of the social function of property versus the dominant individualistic approach given to such rights by anachronistic civil legislation (Fernandes 1999). The historical and political factors that have allowed classical legal liberalism to survive in Latin America have to be addressed before any comprehensive legal reform, such as that proposed by de Soto, can be implemented. The intimate though dialectically contradictory relationship between legality and illegality cannot be ignored (Fernandes and Varley 1998). Such a critical approach to law would certainly serve to dismiss de Soto’s claim that formal, unqualified individual ownership can be used against crime and terrorism.

A second flaw is that research in many developing countries has indicated that, given a combination of certain social, political and institutional conditions, residents in informal settlements can share an effective perception of security of tenure, have access to informal (and sometimes formal) credit and public services, and invest in housing improvement, even without having legal titles (Payne et al. forthcoming).

Third, and more important, existing research has shown that while the recognition of individual freehold titles can promote individual security of legal tenure it does not necessarily entail sociospatial integration. Unless titling is undertaken within the context of a broader set of public policies that address urban, politico-institutional and socioeconomic conditions, legalization programs may actually aggravate the processes of exclusion and segregation. As a result, the original beneficiaries of the programs might not be able to remain on the legalized land, although that should be the ultimate objective of regularization programs, especially on public land.

Moreover, regularization programs have had little impact on social poverty, in part because the traditional banking and financial mechanisms have not embraced them, as de Soto has claimed. The root of the problem runs deeper because regularization programs have a remedial nature. They can only have a more direct impact on urban poverty if they are part of a broader set of preventive public policies aimed at promoting overall urban reform and supported by socioeconomic policies aimed at generating job opportunities and income. There is a fundamental role for the market economy in this process, but it also requires systematic intergovernmental relations, public-private partnerships, and above all renewed social mobilization. Furthermore, de Soto has failed to consider the essential gender and environmental implications of land legalization.

To prevent the production of these perverse effects, we must identify and understand the factors that have contributed to the phenomenon of urban illegality. These include not only the combination of land markets and political systems but also the elitist and exclusionary legal systems still prevailing in Latin America. To legalize the illegal requires the introduction of innovative legal-political strategies to promote the articulation of individual land tenure with the recognition of social housing rights compatible with keeping dwellers in their existing settlements. Housing rights cannot be reduced to individual property rights.

New tenure policies need to integrate four main factors: legal instruments that create effective rights; socially oriented urban planning laws; political-institutional agencies and mechanisms for democratic urban management; and inclusionary macro-socioeconomic policies. The search for innovative legal-political solutions also includes the incorporation of a long-neglected gender dimension and a clear attempt to minimize the impacts such policies have on the land market. The benefits of public investment should be captured by the urban poor, not by traditional and new private land developers, as has happened frequently in settlements regularized according to de Soto’s proposals.

In conclusion, I would argue that regularization programs should be group specific, taking into account the local historical, cultural and political contexts as well as the existing forms of tenure arrangements, both legal and customary and formal and informal. Public administrators and lawmakers should refuse the pressure to homogenize land and property laws. Individual property ownership will always be an attractive option that should be considered, but there are many other legal-political alternatives.

Hernando de Soto is absolutely right when he questions the legitimacy of exclusionary legal systems. However, while he has uncritically assumed that legitimacy would result from the widespread recognition of individual ownership, other research has proved that this is not necessarily the case. He is generally right when he says that lawyers lack an understanding of the economic process. However, many observers believe that his own understanding of the economic process may be deeply flawed, and that he could also learn a thing or two about the legal process.

Edesio Fernandes is an attorney, urban planner and lecturer in the Development Planning Unit of University College London. He is also coordinator of IRGLUS-International Research Group on Law and Urban Space. This article is based in part on his ongoing research and a lecture he presented at the Lincoln Institute in October 2001.

References

Bourbeau, Heather. 2001. Property wrongs: How weak ideas gain strong appeal in the world of development economics. Foreign Policy (November/December):78-79.

Calderon Cockburn, Julio A. 2001. Comparative analysis of the benefited and non-benefited population by the national formalization plan, in Has the well-being of the population improved?: A balance of the main social policies and programs. Lima: National Institute of Statistics and Information (INEI): 65-92.

Duhau, Emilio. 2001. Impacts of regularization programs: Notes on the Mexican experience. Paper presented at the Lincoln Institute workshop on Informal Land Markets: Land Tenure Regularization and Urban Upgrading Programs (October).

de Soto, Hernando. 1986. The Other Path. London: I.B. Tauris & Co Ltd.

_____. 2001. The Mystery of Capital. London: Bantam Press.

Fernandes, Edesio. 1999. Redefining property rights in the age of liberalization and privatization. Land Lines (November) 11(6):4-5.

_____. 2001. Law and the production of urban illegality. Land Lines (May) 13 (3):1-4.

Fernandes, Edesio and Ann Varley, eds. 1998. Illegal Cities: Law and Urban Change in Developing Countries. London: Zed.

Gilbert, Alan. 2001. On the mystery of capital and the myths of Hernando de Soto: What difference does legal title make? Paper presented at the N-AERUS Workshop in Leuven, Belgium (June).

Kagawa, Ayako. 2001. Policy effects and tenure security perceptions of Peruvian urban land tenure regularization policy in the 1990s. Paper presented at the N-AERUS Workshop in Leuven, Belgium (June).

Mammen, David. 2001. Roundtable discussion for the International Division of the American Planning Association. Interplan (June):2-9.

Payne, Geoffrey. 2001. The mystery of capital: Why capitalism triumphs in the west and fails everywhere else. Habitat Debate (September) 7 (3):23.

Payne, Geoffrey, et al. Forthcoming 2002. Land, Rights and Innovations: Secure Land for the Urban Poor. London: International Technology Development Group (ITDG).

Riofrio, Gustavo. 1998. Why have families mortgaged so little? Paper presented at the Lincoln Institute workshop on Comparative Policy Perspectives on Urban Land Market Reform in Latin America, Southern Africa and Eastern Europe (July).

Zeledon, Aida. 2001. De facto and legal regularization programs in El Salvador. Paper presented at the Lincoln Institute workshop on Informal Land Markets: Land Tenure Regularization and Urban Upgrading Programs (October).

Most jurisdictions require residential assessments to be proportional to market value, but in practice assessment ratios—assessed value divided by sale price—are often lower for high-priced than low-priced properties. This tendency for assessment ratios to fall as sales prices rise is termed regressivity, because it means that property taxes are a higher percentage of property value for lower-priced properties. Regressive assessments have been identified in many jurisdictions and times (such as Cornia and Slade 2005; McMillen and Weber 2008; and Plummer 2010).

Assessment regressivity is an important issue because it has the potential to undermine support for a property tax system. Consider a simple system in which taxes are 1 percent of a home’s assessed value, with no exemptions or deductions. For example, a $100,000 home should have a $1,000 tax bill, and a $1 million home a $10,000 tax bill. However, it is not uncommon to find that a $1 million home is actually assessed at $800,000 or $900,000, resulting in effective tax rates of 0.8 or 0.9 percent rather than the statutory 1 percent.

Having lower-than-prescribed assessment rates for some high-priced properties may result in greater variability in assessments within price groups. One owner of a high-priced home may accept a $1 million assessment as an accurate measure of market value, while another owner may appeal and win a lower assessment. Different tax bills for identical properties can cause taxpayer resistance and resentment.

The Assessment Process in Illinois

I have analyzed data from two counties in the Chicago metropolitan area that provide quite different perspectives on assessment regressivity. In suburban DuPage County, assessment ratios decline uniformly with sales prices and there is no marked difference in the degree of variability in assessments across the range of sales prices. In the City of Chicago, which is part of Cook County, the degree of variability in assessment ratios is greater than the degree of regressivity. Notably, assessment ratios in Chicago are highly variable at low and very high sales prices, while not varying greatly with mid-range sales prices.

Illinois has a simple flat-rate property tax, but the homestead exemption produces a degree of progressivity. This exemption is generally a flat amount that does not vary by price, although Cook County has an “alternative general homestead exemption” that can make the exemption higher in areas with rapid price appreciation. The basic homestead exemption is designed to produce much lower effective tax rates for low-priced properties—where the exemption is often high relative to market value.

Assessment practices in DuPage County are similar to those in all but one of the 102 counties in Illinois, where properties are assessed on a four-year cycle at 33 percent of market value. In DuPage County, properties were most recently assessed in 2007 and new assessments will be established in 2011. Cook County alone has a classified system with varying statutory assessment rates. Prior to 2009, the statutory rates were 16 percent for residential properties, 38 percent for commercial, and 36 percent for industrial, although actual assessment rates were much lower. In 2009, the statutory rates were “recalibrated” to 10 percent for residential and 25 percent for commercial and industrial properties. Cook County assesses its properties on a rotating, three-year cycle. The City of Chicago was last reassessed in 2009, and all city properties will be reassessed again in 2012. Properties in the north suburban part of Cook County were reassessed in 2010, and south suburban properties will be reassessed in 2011.

Traditional Measures of Regressivity

The importance of assessment regressivity has led the International Association of Assessment Officers (IAAO 2007) to recommend that an analysis of regressivity be included as part of any study of assessment accuracy. One common procedure recommended by the IAAO to evaluate assessment regressivity is a descriptive statistic, the price-related differential (PRD), which is the ratio of the simple mean assessment ratio to a comparable statistic that places more weight on higher-priced properties. Typically this ratio is greater than one, which implies that higher-priced properties have lower average assessment ratios than lower-priced homes.

Table 1 presents traditional IAAO measures of residential assessment performance for the most recent reassessment year for which I have data—2006 in Chicago and 1999 in DuPage County. The data on sales prices and assessed values come from the Illinois Department of Revenue, which is responsible for monitoring assessment performance for all counties in the state. I focus on Chicago rather than all of Cook County to keep the sample size more manageable, to focus on a single assessment year, and to avoid combining the county’s three assessment districts.

Chicago’s average assessment rate (mean) of 9.4 percent differs significantly from the statutory value of 16 percent. In DuPage County, the average assessment rate of 29.8 percent is much closer to the statutory 33 percent rate, and it would likely be even closer if the timing of the sales prices and assessment origination dates were closer. The value-weighted mean is calculated by weighting each observation by its sale price. The finding that the value-weighted mean is less than the arithmetic mean implies that higher-priced properties tend to have lower than average assessment ratios in both counties.

The price-related differential (PRD), which is the ratio of the value-weighted mean to the arithmetic mean, formalizes this measure. IAAO standards call for the PRD to be no higher than 1.03; by this standard, DuPage County’s degree of regressivity is acceptable while Chicago’s is not. The coefficient of dispersion (COD) is the traditional measure of assessment variability. By IAAO standards for residential properties, the COD should not exceed 15. Again, Chicago’s COD indicates excessive variability while DuPage County’s degree of variability is within IAAO’s acceptable range.

Statistical Analysis of Regressivity

A second IAAO-recommended procedure to measure regressivity is a statistical regression of a sample of assessment ratios on sales prices, which typically produces a negative coefficient for the price variable, i.e., a downward sloping line. This type of analysis provides estimates of the conditional expectation of the assessment ratio for any given sale price. Although several approaches exist in the literature, the basic idea is to estimate a function that produces a simple relationship between sales prices and assessment ratios. If the function implies that assessment ratios decline with sales prices, the assessment pattern is said to be regressive.

Figure 1 shows the estimated functions when assessment ratios are regressed on sales prices using data from Chicago and DuPage County. The straight lines are simple linear regressions. The curved lines are a nonlinear estimation procedure—a locally weighted regression technique that estimates a series of models at various target values, placing more weight on values closer to the target points. For example, to estimate a regression with a target point of $100,000, one might use only observations with sales prices between $75,000 and $125,000, with more weight placed on sales prices closer to $100,000.

The linear and locally weighted regression estimates are much more discrepant for Chicago’s data set than for DuPage County’s. While both approaches indicate that assessment ratios fall with sales prices, the nonlinear procedure indicates that expected assessment ratios are extremely high in Chicago at very low sales prices—but still below the statutory rate of 16 percent.

The regression lines imply precise relationships, but they do not address differences in the degree of variability at different sales prices. It may be that both unusually high and unusually low prices are simply hard to assess accurately. If so, assessment ratios could have high variances at both low and high sales prices while being tightly centered on statutory rates near the mean sale price. Neither the traditional PRD statistic nor standard regression procedures are well-suited for analyzing a situation where the accuracy of the assessment process varies with sales prices.

Quantile Regressions Using Simulated Data

Another statistical procedure, quantile regression, provides much more information on the relationship between assessment ratios and sales prices by showing how the full distribution of ratios varies by price. The easiest way to understand quantile regression is to imagine two data sets, A and B, where both have 10,000 observations. Each observation represents a sale price and assessment ratio pair, but sales prices are constrained to integers between 1 and 10 (figure 2).

In constructing data set A, a sale price is assigned, and then an assessment ratio is drawn from a normal distribution with a mean (and median) of 0.33 (the statutory rate in DuPage County). Data set A then matches the assumptions of a classical regression model, where the variance of the assessment ratios is constant across all values of sales prices. In constructing data set B, however, the variance of the assigned assessment ratio is higher for lower sale price levels, but the mean is constant and equals 0.33 at each price.

In both data sets the mean is equivalent to the estimated linear regressions in this case, indicating no relationship between sale price and assessment ratio. If these regressions were estimated using real data, they would be interpreted as indicating that assessment ratios are proportional to sales prices, i.e., assessments are neither regressive nor progressive. Despite this finding, figure 2 clearly shows that in data set B assessments converge on the statutory 33 percent rate at high sales prices, whereas homes with low sales prices run the risk of having extremely high assessment rates.

Quantile regression estimates reveal the differences between data sets A and B in the degree of assessment ratio variability, and this approach can be estimated at any target value of the assessment ratio distribution. For example, since the 10 percent and 90 percent quantile lines are converging as sales prices increase, the quantile regression reveals what standard regression procedures do not—low sales prices have highly variable assessments and high sales prices have more precise assessments.

Quantile Regressions for the City of Chicago and DuPage County

In practice, linear regression, locally weighted regression, and a linear version of quantile regression all proved too restrictive to represent accurately the relationship between assessment ratios and sales prices in Chicago and DuPage County, especially for extremely low and extremely high sales prices. Instead, a nonlinear version of quantile regression provides the most accurate representation of the underlying relationship.

Figure 3 shows the results of nonlinear versions of the quantile regressions, which can be estimated at a series of target points, with more weight given to observations that are near the targets. From bottom to top, the graphs show the estimated 10, 25, 50, 75, and 90 percent quantile regression lines.

Chicago’s results suggest that assessment ratios are relatively high at all quantiles for quite low prices, but the high variability is evident in the large spread between the 10 and 90 percent quantile lines. However, as the sale price increases from about $250,000 to nearly $800,000, the regression lines are close to horizontal. The variability is also low in this range. The quantile lines begin to have a downward slope again for prices above $800,000, with a moderate increase in the variance. Thus, the Chicago results suggest that the standard analysis of regressivity is misleading in that most of the regressivity is concentrated at low sales prices where the variance is also quite high.

In contrast, DuPage County has relatively high assessment ratios and lower variances in the $100,000–$200,000 range of prices where most sales took place in 1999. Assessment ratios decline with sale price for all prices beyond about $100,000, while the variance is increasing. The pattern of results for DuPage County is closer to what is implicitly assumed in a standard regression analysis of assessment regressivity.

Assessment Ratios Distributions at Alternative Sales Prices

An alternative to quantile regression is to examine the actual distribution of assessment ratios at a variety of different target values for sales prices to see how assessment ratios vary at given sales prices. Since most of the interesting patterns occur at low sales prices, figure 4 shows estimated conditional density functions for sales prices ranging from $50,000 to $200,000. The density function for Chicago has a huge variance at a sale price of $50,000. As the price increases to $100,000, $150,000, and finally $200,000, the density function moves to the left, meaning that lower assessment ratios become more common—an indication of regressivity. The distribution is also much more tightly clustered around the mean value of 9–10 percent, which indicates that the variance is reduced substantially.

In the contrasting case of DuPage County, the conditional density functions simply shift to the left as the target sale price increases with no pronounced change in variance. This parallel leftward shift of the conditional density function shows what would be predicted by a classic regression analysis of a regressive assessment system.

Implications for Property Taxes

Assessment regressivity has important implications for individual tax bills, as exemplified in a simplified analysis of residential taxes in Cook County. Though not a literal representation of the county’s tax system, the analysis is a close approximation. The starting point for table 2 is the estimated market value, which we assume to be accurate. Although the statutory assessment rate in Cook County was 16 percent prior to 2009, I use an assessment rate of 10 percent because it is closer to the actual rate and it matches the recent recalibration. Thus, the proposed assessed valuation for the property is $10,000.

However, Illinois also requires that assessments across the state must average 33 percent of market value. If assessments average less than 33 percent—as is mathematically a near certainty under Cook County’s classification system—the Department of Revenue calculates an equalization factor by which all assessments are multiplied. Using a representative value of 2.7 for the multiplier in table 2, the $10,000 assessment turns into an adjusted equalized assessment value of $27,000. Finally, the standard homestead exemption of $5,500 (again, a representative value) is subtracted to produce the base for the homeowner’s property tax bill. Thus, the sample tax rate of 10 percent and the adjusted equalized assessed value of $21,500 produce a tax bill of $2,150.

Table 3 compares house values and property tax rates under the assumption that assessments are regressive and are more variable for $100,000 houses than for $500,000 houses. Due to the homestead exemption, the property tax is somewhat progressive even when assessments are proportional to market value. Thus, a $100,000 house that is accurately assessed at 10 percent of market value ($10,000) ends up with a tax bill of $2,150 or an effective tax rate of 2.15 percent, while a $500,000 house that is assessed correctly at $50,000 has a tax bill of $12,950, or 2.59 percent of market value.

But, suppose that assessment rates for $100,000 homes actually range from 9 to 14 percent, while the range for $500,000 homes is only 8 to 12 percent. In this case, the progressivity of the homestead exemption can be reversed completely. Owners of low-priced homes who are “unfortunate” in receiving high assessments end up with effective tax rates of 3.23 percent, which is much higher than the average 10 percent value for owners of $500,000 homes, and is even higher than the 3.13 percent tax rate paid by owners of high-priced homes assessed at 12 percent.

Moreover, actual tax payments vary significantly for otherwise identical homes—from $1,800 to $3,230 for $100,000 houses and from $10,250 to $15,650 for $500,000 homes. In other words, a homeowner may receive a tax bill that is nearly 80 percent higher than the neighboring house even if both have a market value of $100,000.

Conclusion

Because assessment accuracy is the key to an equitable property tax, statistical measures of regressivity are essential tools for evaluating property valuation systems. Standard measures of regressivity can present an incomplete or even misleading picture of the range of assessment ratios in a jurisdiction. Newer analytic tools such as quantile regression can improve our understanding of the distribution of tax burdens and in this way help improve assessment equity.

Note: The statistical tools used in this article are included in a contributed extension package for the statistical program R. The package (aratio) is designed to be accessible to people who have limited knowledge of the R program but are familiar with other statistical software packages. Both R and aratio can be downloaded at no charge from www.r-project.org.

About the Author

Daniel P. McMillen is a professor at the Institute of Government and Public Affairs and in the Department of Economics at the University of Illinois. He is also a visiting fellow of the Lincoln Institute’s Department of Valuation and Taxation in 2010–2011.

References

Cleveland, William S., and Susan J. Devlin. 1988. Locally weighted regression: An approach to regression analysis by local fitting. Journal of the American Statistical Association 83(403, September): 596–610.

Cornia, Gary C., and Barrett A. Slade. 2005. Property taxation of multifamily housing: An empirical analysis of vertical and horizontal equity. Journal of Real Estate Research 27(1, (January/March): 17–46.

International Association of Assessing Officers (IAAO). 2007. Standard on ratio studies. Kansas City, MO: IAAO.

McMillen, Daniel P., and Rachel Weber. 2008. Thin markets and property tax inequities: A multinomial logit approach. National Tax Journal 61(4, December): 653–671.

Plummer, Elizabeth. 2010. The effect of land value ratio on property tax protests and the effects of protests on assessment uniformity. Working Paper. Cambridge, MA: Lincoln Institute of Land Policy.

Even as the economy begins to recover from the greatest recession since the 1930s, the worst may be yet to come for state and local governments because their fiscal situations typically lag the general economy by two to three years. State budget deficits for FY2010 totaled more than 25 percent of general fund budgets—the largest budget gaps on record.

Making matters worse is the impending “stimulus cliff,” which arises because most of the roughly $135 billion in federal stimulus aid to state governments and school districts was used to help close state budget gaps in FY2010, leaving a small fraction of the aid for FY2011 (Lav, Johnson, and McNichol 2010). Even before the current recession, states faced substantial structural deficits. The U.S. Government Accountability Office (2007, 1) predicted state and local governments would face “large and growing fiscal challenges” within a few years time, and continuing through 2050.

These grim forecasts for state and local budgets have led some analysts and policy makers to call for reducing the size of state government, consolidating local governments, restructuring tax systems, and even changing state constitutions. According to Rob Gurwitt (2010, 18) of Governing magazine, the “fundamental assumptions about how state government operates need rewiring.”

Given the likelihood of a long-term state and local government fiscal crisis, property tax relief is an important state government function that is now more critical than ever. This article argues that most efforts to provide property tax relief, such as assessment limits and homestead exemptions, are inefficient and create substantial unintended consequences. Circuit breaker programs—a property tax relief mechanism first developed in the 1960s—deserve renewed attention in an era of streamlined state government because they target aid to those who need it most.

Alternative Approaches to Property Tax Relief

The property tax accounts for the largest share of own-source revenues for local governments, and is particularly suitable for funding local services for at least two reasons. First, it is a stable revenue source: property tax revenues do not fall dramatically during recessions as income tax and sales tax collections generally do. Second, property taxes are imposed on an immobile tax base: while people may have the option to buy the same goods in a nearby town with lower sales taxes, or move across state lines for lower incomes taxes, they cannot move their land across city lines to seek lower property taxes.

The property tax is not without problems, however. Chief among them are the disparities in property values across communities, an inexact relationship to taxpayers’ ability to pay, and the long-standing unpopularity of the tax. Its revenue importance means that improvement rather than elimination is the best way to address these problems.

Property tax relief can be provided in many ways, some of which are more effective and equitable than others. Wealth disparities among communities make locally funded property tax relief programs inherently problematic. Funding property tax relief at the state level is a better option, since communities with large concentrations of needy taxpayers are unlikely to have the resources to fund local-option tax relief programs. State funding also eliminates inequities in property tax relief among communities.

Assessment caps are used as a property tax relief measure in 20 states, and other states regularly examine proposals to employ such measures. A recent comprehensive study on assessment limits found, however, that “30 years of experience suggests that these limits are among the least effective, least equitable, and least efficient strategies available for providing property tax relief” (Haveman and Sexton 2008, 37). Assessment caps provide the greatest tax reductions to homeowners whose property values have increased the most. Even though such gains in housing wealth are not a liquid asset, tax relief should not be structured to provide the greatest benefit to those with the greatest increase in wealth.

Assessment limits also create horizontal inequities in cases where two homeowners with identical incomes and homes in the same community face dramatically different property tax bills solely because one owner has lived in the home longer. Fixed-dollar homestead exemptions are better, but still do a poor job of targeting homeowners with the highest property tax burdens, because they provide the same dollar value of property tax relief to all homeowners facing a particular tax rate, regardless of their income.

Residential property tax relief programs across the United States are seldom targeted by income—the best measure of a household’s ability to pay taxes. Of the 216 residential property tax relief programs in effect in 2006, only 81 took income into account when setting benefits by using an income ceiling, and only 37 programs set tax relief benefits that varied by income (Significant Features of the Property Tax 2010). Given the fiscal crisis, states should consider replacing untargeted property tax relief with circuit breaker programs that can provide relief to more households in need, without spending more money.

The Case for the Property Tax Circuit Breaker

When applied to property tax relief, the term circuit breaker is used to describe programs that provide benefits directly to taxpayers, with benefits increasing as claimants’ incomes decline. As an electrical circuit breaker stops the flow of electrical current to protect a circuit from overload, a property tax circuit breaker is a policy mechanism designed to stop property taxes from exceeding a claimant’s ability to pay, protecting the taxpayer from property tax overload.

A clear definition is critical since most states with true circuit breaker programs do not use that term to describe them. For example, Maine calls its circuit breaker program the Maine Property Tax and Rent Refund Program. Meanwhile, some states use the term to refer to property tax relief programs in which relief does not vary with income. In Indiana, a program is called a circuit breaker even though the program ties relief to property value, not to income.

Over the last 40 years, two-thirds of the states and the District of Columbia have adopted state-funded circuit breaker programs (see figure 1). Each of these programs satisfies the circuit breaker definition described above. However, the design of these programs, and consequently their effectiveness, varies considerably. Properly designed circuit breakers can target property tax relief more precisely and with less expense than broad-based mechanisms such as homestead exemptions and assessment caps.

Recommendations for a Circuit Breaker Program

We offer seven recommendations designed to obtain maximum benefit when creating or reforming a circuit breaker program. The New York case study presents the efforts of one state trying to reform its circuit breaker program (box 1).

Box 1: New York’s Effort to Provide Targeted Property Tax Relief

Policy makers in New York state are considering adopting a new, expanded circuit breaker program to provide more targeted property tax relief because the existing circuit breaker program does not provide adequate assistance. It currently excludes households with incomes above $18,000, and provides an average annual benefit of only $109 per claimant (Bowman et al. 2009).

The state’s primary means of providing direct property tax relief to households is the School Tax Relief program (STAR), which has three components. Basic STAR is available to all taxpayers on their primary residence, and exempts the first $30,000 in property value from school district taxes, with adjustments for municipalities where assessed values diverge from market values and for downstate counties with high real estate prices. Enhanced STAR exempts a higher value, and is available only to homeowners over age 65 with limited incomes. Middle Class STAR provided a rebate check that depended on households’ income and their other STAR benefits, but was repealed in 2009 for 2009–2010 and subsequent fiscal years.

STAR is an expensive program—the three property tax components cost about $3.9 billion in 2008–2009. However, because benefits are spread so widely, many homeowners still face excessive property tax burdens. According to the 2006 American Community Survey, even after accounting for reductions under the Basic and Enhanced STAR programs, 20.1 percent of New York homeowners paid more than 10 percent of their income in property taxes, while 52.6 percent paid less than 5 percent. By providing such generous relief to the second group, the state is not able to provide enough for the first. Also, by providing larger exemptions for counties with high house prices, STAR largely subsidizes households in property-wealthy communities, which makes the state’s property tax system more regressive (Duncombe and Yinger 2001).

To provide more targeted relief, several proposals have been introduced to establish a new circuit breaker program. During the 2005–2006 legislative session, Assemblywoman Sandy Galef and Senator Betty Little sponsored a plan with many desirable features: a multiple-threshold formula to make the distribution of tax relief more progressive; an income ceiling high enough to include all middle-income households; and a copayment requirement to discourage excessive spending by local governments. The cost would have been limited by making homeowners choose either circuit breaker benefits or Middle Class STAR.

The Omnibus Consortium put forward a proposal similar to the Galef–Little plan, but with two improvements. First, it includes renters. Second, it uses a graduated structure for the income brackets, so that a small income increase that moves a claimant from one bracket to the next does not result in a much larger decrease in circuit breaker benefits.

The consortium’s proposal was introduced in spring 2009 by Senator Liz Krueger and Assemblyman Steve Englebright; it is cosponsored by Galef, Little, and many other legislators. Once fully implemented this plan is estimated to cost $2.3 billion annually, which is 65 percent less than the cost of the 2008–2009 STAR property tax programs, even though the new plan would provide much more generous relief to households facing the largest property tax burdens.

Plans to pay for the circuit breaker have been clouded by the state’s repeal of the Middle Class STAR rebates in response to the 2009–2010 budget deficit. Governor David Paterson has also proposed a circuit breaker plan, which would tie circuit breaker benefits to a spending cap for state government. Annual spending growth would be restricted to inflation growth. When revenues exceed this limit, the surplus would be returned to homeowners via a circuit breaker. While this plan may seem attractive, it would accentuate budget cycles and result in unpredictable year-to-year fluctuations in tax relief for homeowners.

Given the state’s fiscal crisis, creating a new circuit breaker program now seems more difficult than when the Galef–Little bill was being actively debated in the 2006–2008 period. Still, it is a positive sign that many legislators and the governor are all advancing targeted and cost-effective circuit breaker proposals, and have repealed the expensive and untargeted Middle Class STAR program.

Provide property tax relief to owners and renters of all ages. Currently, more than two-thirds of state circuit breakers do not cover nonelderly households, and a quarter of programs do not cover renters. Restricting eligibility to seniors is based on the false assumption that age is a good proxy for property tax burden. In fact, while the elderly have higher property tax burdens on average, Census data show elderly and nonelderly homeowners both devote about 35 percent of their incomes to all home ownership costs combined (Bowman et al. 2009, 11).

Furthermore, circuit breakers eliminate the need to use age as a rough proxy for property tax burdens since they target relief based on each household’s income and property tax liability. States should also provide circuit breaker benefits for renters, because they pay property taxes indirectly as part of their rent and they generally have lower incomes than homeowners. States that cover renters typically estimate renter property tax payments by specifying a percentage of rent equivalent to property taxes, most commonly 20 percent.

Avoid low income ceilings and restrictions on maximum benefits.

Many circuit breakers fail to provide meaningful tax relief because they have low income ceilings that exclude middle-income households, or low limits on maximum benefits that result in inadequate relief. For example, Oklahoma’s circuit breaker program restricts eligibility to claimants with incomes below $12,000 and caps relief at $200. In 2008, almost three-quarters of state circuit breaker programs had income ceilings below the national median household income of $50,223. In the current fiscal crisis, states should take care to set appropriate limits to restrain the cost of circuit breaker programs without rendering these programs ineffective.

Use a multiple-threshold circuit breaker formula.

States use three basic types of circuit breaker formulas: threshold, sliding-scale, and quasi circuit breakers. Threshold circuit breakers are the only type that bases tax relief directly on property tax burdens—that is, the percentage of income spent on property taxes. Using multiple thresholds will result in a more progressive distribution of benefits.

Threshold formulas provide a benefit for the portion of a claimant’s property tax bill that exceeds set percentages of income. For example, the Massachusetts circuit breaker, which is limited to taxpayers over age 65, uses a 10 percent single-threshold formula. The taxpayer is responsible for the entire tax bill up to 10 percent of household income, while the circuit breaker benefit offsets the tax bill above this threshold, up to a maximum benefit of $960.

Multiple-threshold formulas set multiple threshold percentages that increase from the lowest income bracket to the highest, with these thresholds usually applied incrementally like a graduated income tax. Maryland uses four threshold percentages: the circuit breaker benefit offsets any property tax liability above 0 percent of income for the first $8,000 of income, above 4 percent for the next $4,000 of income, above 6.5 percent for the next $4,000 of income, and above 9 percent for income of $16,001–$60,000.

Sliding-scale formulas reduce property taxes by a set percentage for each income bracket, with lower relief percentages for higher income brackets. All claimants in a given income bracket receive the same percentage of relief regardless of their property tax bill.

Quasi circuit breakers use multiple income brackets to target benefits to low-income households; benefits are determined without reference to a claimant’s property tax bill, except that they cannot exceed the actual property tax paid. A few states use hybrid circuit breakers that employ elements of all three types of formulas.

Ensure reliable state funding.

Even generous circuit breakers can become ineffective without reliable state funding. Circuit breaker benefits should be treated as an entitlement, rather than relying on budget appropriations that can result in pro-rated benefits (as in Iowa), unpredictable annual changes in formulas (as in New Jersey), or elimination of benefits in some years (as in California). Unpredictable fluctuations in circuit breaker benefits are difficult for taxpayers to manage and can have potentially dire consequences on household budgets.

Given the disparities in property wealth across municipalities, it is important for circuit breakers to be funded by the state, rather than at the option of local governments. Because of differences in program design and participation levels, the costs to state governments of existing circuit breaker programs vary considerably, ranging from .004 percent to 6.3 percent of property tax collections among 14 states where program cost data are readily available (Bowman et al. 2009, 20).

Use copayment requirements with threshold circuit breakers.

States that use threshold formulas should relieve only a portion of property taxes exceeding the threshold. The remaining difference between the taxes exceeding the threshold and the circuit breaker benefit may be considered a copayment. Copayment requirements are important for avoiding inefficient increases in local spending. If a circuit breaker shields taxpayers from 100 percent of any property tax increase, they have no incentive to scrutinize increased local spending since they will benefit from better public services without any increase to their tax bill.

Deliver circuit breaker benefits in a timely and visible way.

States use three methods of distributing circuit breaker benefits: rebate checks, income tax credits, and property tax credits or exemptions. A property tax credit reduces the tax bill based on a property’s full assessed value, while an exemption reduces a property’s assessed value.

Providing benefits through a property tax credit or exemption has two key advantages over rebate checks or income tax credits. First, taxpayers receive an immediate reduction in their property tax bills instead of facing a delay between the date they pay their property taxes and the date their circuit breaker application can be processed. Second, taxpayers observe the benefit as property tax relief instead of mistaking an income tax credit for income tax relief. Since renters do not pay property taxes directly, their circuit breaker benefits can be dispersed through a rebate check.

Use a public outreach campaign.

Low participation is a common problem among existing circuit breaker programs. Taxpayers will not apply for benefits if they are not aware of the program, or if they do not believe they qualify for benefits. To increase awareness and participation, states may promote programs through print advertising, broadcast media, and/or speaking tours. The Internet is a particularly useful and low-cost tool for circulating up-to-date program details including deadlines, contact information, printable claim forms, or online applications. Some states are able to enlist the help of nonprofit organizations in promoting participation if the group views the circuit breaker program as supporting its mission. For example, the Gerontology Institute at the University of Massachusetts promotes that state’s program as part of its efforts on behalf of the elderly.

Conclusion

The current fiscal crisis may usher in a new era for state governments under intense pressure to redesign programs to “do more with less.” Property tax relief is a core function of state governments, and it can be made more fair and cost-effective by using a circuit breaker program. This policy tool is designed to stop the property tax from exceeding a taxpayer’s ability to pay by targeting tax relief to those who need it most.

A majority of the states currently employ circuit breakers, but most programs fall short of ideal leaving ample room for improvement. New York’s poorly targeted property tax relief system, for example, could be replaced with an expanded circuit breaker that provides more help to taxpayers overburdened by the property tax, but costs less than the current program. Circuit breaker programs can also help strengthen the property tax itself as a mainstay of local government finance.

About the Authors

Daphne A. Kenyon is principal of D.A. Kenyon & Associates, a public policy consulting firm in New Hampshire, and a visiting fellow at the Lincoln Institute of Land Policy.

Adam H. Langley is a research analyst at the Lincoln Institute of Land Policy and a graduate student in economics at Boston University.

Bethany P. Paquin is a research assistant for D. A. Kenyon & Associates and the Lincoln Institute.

The authors thank Frank Mauro of the Fiscal Policy Institute in New York State and Joan Youngman of the Lincoln Institute of Land Policy for helpful information and comments on previous drafts.

References

Bowman, John H., Daphne A. Kenyon, Adam Langley, and Bethany P. Paquin. 2009. Property tax circuit breakers: Fair and cost-effective relief for taxpayers. Cambridge, MA: Lincoln Institute of Land Policy.

Duncombe, William and John Yinger. 2001. Alternative paths to property tax relief. In Property taxation and local government finance, Wallace E. Oates, ed., 243–294. Cambridge, MA: Lincoln Institute of Land Policy.

Gurwitt, Rob. 2010. Broke and broken. Governing 23 (4): 18-23.

Haveman, Mark and Terri A. Sexton. 2008. Property tax assessment limits: Lessons from thirty years of experience. Cambridge, MA: Lincoln Institute of Land Policy.

Lav, Iris J., Nicholas Johnson, and Elizabeth McNichol. 2010. Additional federal fiscal relief needed to help states address recession’s impact. Washington, DC: Center on Budget and Policy Priorities, January 28. www.cbpp.org

Omnibus Consortium. 2010. Summary of Omnibus Bill Circuit Breaker. http://omnibustaxsolution.org/overview.html

Significant Features of the Property Tax. 2010. Residential property tax relief programs. www.lincolninst.edu/subcenters/significant-features-property-tax/Report_ResidentialRelief.aspx

U.S. Government Accountability Office. 2007. State and local governments: Persistent fiscal challenges will likely emerge within the next decade. July 18. GAO-07-1080SP.