Editor’s Note: This is part one of a two-part series by Zak Yudhishthu on inclusionary zoning.
Inclusionary zoning (IZ) is a widespread tool for developing affordable housing in the United States. Minneapolis, Bloomington, Richfield, St. Louis Park, and Edina all have inclusionary zoning policies, and St. Paul recently flirted with the idea in a proposed, but never completed, study.
The central concept of IZ policy requires a certain proportion (usually 5% to 20%) of units in new housing developments to be affordable for low- and moderate-income households. These policies often only apply to medium and large multifamily developments, with affordability being defined by reference to low- and moderate-income levels from other affordable housing programs like the Low-Income Housing Tax Credit.
IZ is a popular tool for local governments to create affordable housing; a recent survey documented over 1,000 localities with such policies. One reason for the popularity of these policies: IZ creates affordable housing units without requiring cities to directly spend money (though cities often choose to spend money on IZ programs anyways). Some local policymakers also see IZ as a way to capture some of the “surplus value” that developers earn by building housing, and utilize it for the public benefit of affordable housing.
The first part of this series will sketch a broad theoretical framework for understanding inclusionary zoning policies; the second part of this series will analyze the implementation of these policies in Minneapolis. Existing writing on inclusionary zoning focuses on the main policy details of IZ:
- The percentage of affordable units required
- The level of affordability required
- Whether programs are mandatory or optional
- Whether developers may be allowed to pay “in-lieu” fees to affordable housing trusts instead of actually building the units.
These details are influential to the outcomes of an inclusionary zoning policy; however, it’s hard to extract general lessons from them as every policy is highly dependent on the local housing market. This article will focus on a broader framework for understanding how IZ works — specifically, how the costs of IZ can be distributed in different policy structures.
Inclusionary Zoning creates affordable housing units at a cost: a landlord renting affordable units receives less revenue, and therefore less profit, than a landlord renting units at market prices. The decreased profit is not a flaw in the program; rather, it is a necessary condition of creating below-market goods. Furthermore, the cost to landlords grows for affordable units that have a larger discount relative to the existing housing market.
It’s important to focus on where that cost can be accounted for under IZ by situating the policy in the context of a locality’s housing market and policy ecosystem.
Three Ways of ‘Paying’ for Inclusionary Zoning
A “tax” on development
In some cases, IZ policies require affordable units in all new multifamily developments while offering no additional incentives to help the developer build those units. Here, IZ functions like a tax, because it raises the costs of producing a good.
This “tax” is implicit, and although not literally a tax, has similar effects: It supports the public need for lower-cost housing, but reduces the quantity of housing and raises its construction cost.
However, some research shows that IZ policies do not always lead to notable declines in housing construction or increases in prices. To avoid the decline in housing stock, IZ is almost never implemented purely as a “tax” on development; successful programs offer incentives that counteract the cost of including affordable units.
Fiscal assistance
If a city’s government is concerned about implementing an IZ policy which will raise the cost of construction and thus discourage development, their program can be modified to contribute fiscal resources to developers. This offset could come in the form of direct subsidy, via tax-increment financing, or indirect subsidies such as reduced future property taxes. Either way, developers receive direct fiscal assistance to compensate for the costs of building new units.
While fiscal assistance is a common feature of IZ policy, its use moves IZ into a category with other housing programs which implement fiscal incentives (e.g. tax credits, housing fund subsidies, etc.). Instead of capturing value from developers of new housing in order to create affordable housing, a city is spending its own money to get affordable housing. IZ is different from other funded affordable housing programs in some ways: It mixes the affordable units within a primarily market-rate building, for example; yet, in terms of how it appears in government budgets and the larger housing market, it’s not so different.
Regulatory/zoning incentives
The last way to “pay” for IZ is to offer regulatory incentives that offset the cost of affordable units. Since most localities today have costly restrictions on housing development, cities can remove some of these restrictions for developers in exchange for providing affordable units. This method reduces the cost of development relative to the status quo, allowing the savings to be dedicated towards affordable housing.
Regulatory and zoning incentives for IZ also encapsulate “density bonuses,” or “optional” inclusionary zoning. “Density bonuses” are just another name for “inclusionary zoning with regulatory incentives.” Consider, for example, the density bonus included by St. Paul in the city government’s recent missing middle housing reforms. As of 2023, St. Paul allows fourplexes in many areas throughout the city, but developers can also build a five-plex if they include two affordable units. In other missing middle-zoned areas of Saint Paul, you can’t build above 3 units unless you include affordable units. In densely zoned areas of Bloomington, you can’t build above 20 units unless you include affordable units.
In terms of how they produce affordable housing, the policies of Bloomington and St. Paul are quite similar. Both use regulatory incentives to require affordable housing in new developments of a specified density.
The Three-Circle Venn Diagram
These three mechanisms — taxing developers, using subsides, and using zoning relief — are not mutually exclusive ways to fund IZ. Many cities’ policies use a combination of the three, and often to differing extents project-by-project; IZ sometimes operates via highly discretionary agreements between the city and the developer, where the two parties negotiate specifics for each project.
It’s best to see them as a three-circle Venn Diagram of methods for requiring affordable housing in new developments. Relatively higher or lower reliance on each form of “payment” can create different policy systems with different housing outcomes.
For example, one city with IZ might provide density bonuses or subsidies that are valuable enough to avoid an implicit “tax” on development and reductions on supply — or perhaps even induce a net increase in housing supply (example: Bloomington, Minnesota). In another city, market-rate rents might be so high that developers have no problem absorbing the affordable housing costs of IZ; in effect, the tax does not prevent a project from being profitable (example: Los Angeles). Elsewhere, up-zoning can provide value to a developer, but not always enough to counteract the cost of the affordable units, ultimately distorting development patterns (example: Seattle). The figure below shows that when Seattle up-zoned some areas (known as Mandatory Housing Affordability areas), and in tandem instituted affordability requirements, housing development actually shifted away from the up-zoned areas.
Considering how IZ can be paid for via “taxes” on development or public subsidy offers a clearer perspective of the relevant tradeoffs; there are important discussions to have regarding the most efficient and fair ways to tax and spend. Should developers take the burden through a “tax” on new housing construction, or should a traditional broad-based tax be instituted to generate affordable units (e.g., a sales tax for funding affordable housing)? Should we use public subsidy to incorporate a proportion of affordable units into all new developments, or lean more on other affordable housing programs that make entire affordable buildings?
Regulatory incentives or density bonuses are a bit more complex. These policies can only help offset the cost of affordable units if zoning is restrictive or exclusionary in the first place. Two big challenges arise here. First, exclusionary zoning policies are harmful: keeping parking minimums high (or keeping density limits low, maintaining onerous building material requirements, etc.) to try to force more affordable units risks only generating more parking (or less overall housing, or more expensive housing), which is bad for a city. The second challenge is that these restrictions are not always the binding constraint on development. If your city doesn’t have extensive latent housing demand constrained by regulatory policies (as the Twin Cities’ accessory dwelling units experience suggests), lifting regulatory restrictions will not get you anywhere.
Thus, the outcomes of IZ policies can be enormously different depending on three main details: the cost of affordability requirements, how this cost is financially offset by the public, and how this cost is offset by regulatory incentives. Any city looking to implement IZ must be carefully attuned to this balance. These decisions will dictate whether policy will damage the local housing market or create an effective program for developing affordable housing and increasing integration.
In the second part of this series, I will analyze Minneapolis through this framework, focusing on the implemented IZ in 2020, which has seen little discussion about the policy since its inauguration.
Featured image at top: A new development in Minneapolis at 13th Avenue Northeast that fell under the city’s inclusionary zoning requirements. The developers chose to pay an “in-lieu” fee towards affordable housing instead of including affordable units onsite. Photo courtesy Minneapolis CPED.