What is “Affordable” Housing? More than Social Housing

Published: Monday, April 24th, 2017 by Debra Erb

Editor’s note: Debra Erb, Managing Director of Housing Programs at the Overseas Private Investment Corporation (OPIC) wrote a popular article in July of 2016 called 7 Key Points DFIs Need To See in Your Housing Project. This article is the anticipated follow-up to that note. Thank you to all our readers for your notes asking for more of Debra’s insights. Developing Smart Cities is grateful for her generous willingness to share with this community.

Despite the need and the apparent market opportunity for affordable housing, there’s a mismatch in most markets between demand and supply. Most builder/developers I talk with prefer to build upper middle income product over houses for lower middle income households.

Understandably so. Since the margins are better, you can build fewer houses to make the same gross profit and the buyers are theoretically better qualified. However, with most builders targeting the same buyers, this small market can quickly become saturated.

Affordable housing project in Cape Town, South Africa

Anne and her own Habitat house in Cape Town, South Africa.
Source: Paul Williams

Affordable goes beyond social housing. Builders say also that they do not want to develop “social” housing projects. They often don’t realize affordable does not mean “social.”

Social housing is typically very basic and small (30 square meters or less) with limited amenities in high densities with a price per square meter potentially as low as $200. Social projects are usually funded by the government under a “build to suit” contract. These units are either given to families for free or rented under a subsidized program. The families who qualify for social housing have little or no income and so are unable either to pay market rent or to afford the costs of buying a home.

By contrast, families in the affordable market segments generally have income and often savings. As a result, they can pay a monthly rent or qualify for some kind of mortgage. Even so, they may need support from subsidies to purchase a home or would have to compromise on size and amenities in the home.

Key considerations. Several factors determine if a proposed project meets the affordability test:

  1. What kind of mortgage financing can the buyers obtain? Based on those requirements, what would the typical monthly payment be, and what percentage of the family income? The general rule is about 30% of pre-tax income.
  2. How much cash would buyers need to cover the down payment and closing costs? How does this compare to average savings rates in the country? Is there a viable target market given the costs?
  3. What income does a family need to purchase or rent the house? What percentage of median income does this represent? Income distributions vary widely between markets, but ideally, your project will mostly target buyers with income below the median.
  4. Who will be the buyers? Their occupations and family size communicate the nature of your market. Occupations in the “workforce” category, including clerical workers, civil servants, young families, etc. usually represent entry-level buyers taking early steps on the housing ladder.
  5. What is the level of finishes and amenities? It’s critical to understand that an affordable product should be built to the same quality as a higher end house. However, the units will be smaller with lower cost finishes in flooring, ceramics, kitchen finishes and interior/exterior trims. “Walk-ups” also save the cost of elevators.
  6. Community amenities should include basic amenities, such as lighting, good interior roads, security (where appropriate), green areas and possibly space for small retail, a place of worship and community center. Swimming pools, clubhouse and other higher end amenities can be a red flag.

Total costs of the unit. It’s important to understand the whole cost of the house to the homebuyer. For instance, if a home is priced in hard currency, the buyers’ capacity to manage that currency risk has to be considered. Other monthly costs, such as the association/service fee, utilities and general home maintenance costs figure in as well.

Affordable housing should also be accessible to public transportation. Transportation costs are increasingly considered part of the full financial and environmental or carbon costs of housing. When homebuyers commute long distances to their jobs, this generates emissions and extra cost that developers don’t often take into account.

Affordable housing units should also be built for easy maintenance to minimize additional costs. Ideally, these units should also be designed to minimize water and electricity expenses. Again, the full operating and environmental costs are factors to take into account.

Difficult to control costs. Of course, the cost of financing and the availability of government subsidy programs will have a significant effect on affordability. The builder can’t control this necessarily. Other structural market limitations, such as the cost of permitting, land, and other major construction inputs will affect the cost to build. This limits the size of unit that can be provided at an affordable price.

Developers, finance providers and policy makers do have to recognize that the unit size that emerges from these considerations may not ultimately appeal to buyers, for whom this house or apartment may be the one major asset they purchase in their lifetime.

This market challenge can be solved in various ways, and I welcome discussion about that in future blogs.