Empowering Cities and Towns to Tackle the Housing Shortage

Several Massachusetts cities and towns are petitioning the state Legislature for the right to impose new real estate transfer taxes, which would allow them to tax the sale of high value properties and dedicate the proceeds to affordable housing. Unfortunately, this approach is doubly fraught.

Transfer taxes are highly inefficient, especially compared to established alternatives like the property tax.
There is no guarantee that the new tax revenue will actually be spent on housing, as we know from our prior analysis of poor compliance rates with the Community Preservation Act.

To highlight more effective alternatives and better understand the problems with transfer taxes, the Greater Boston Real Estate Board partnered with the Center for State Policy Analysis at Tufts University.

The Data

Our research shows that, when times are good and buildings are selling, cities and towns that introduce a 1 percent transfer tax on high value properties will lose 34 cents for every $1 they expect to raise and, if communities opt for a 2 percent transfer tax, they’d lose 43 cents. The transfer tax shortfall is due to the combined impact of shrinking sales and lower property values.

The data shows that, when the real estate market is struggling, as it is right now, the transfer tax is even less efficient. A 2 percent transfer tax in place in 2023 would have produced offsetting losses of nearly 60 cents for every expected dollar.

Key Takeaways

Transfer taxes have substantial shortcomings. Even in the best of times, cities would lose 35 to 45 cents for every $1 they expect to raise in new transfer taxes, due to a combination of reduced property values and foregone sales.

Transfer taxes inhibit property sales, which is especially concerning now since the real estate market is frozen. And they disproportionately affect commercial real estate, a struggling sector in Massachusetts that is poorly positioned to absorb the cost of new taxes.

Often, what constrains affordable housing is not a lack of tax dollars but excessive zoning restrictions and local legal challenges. These impediments are amplified right now by high mortgage costs and a shortage of construction workers.

Where local revenue is needed, the best alternatives generally involve targeted work-arounds for the limits of Proposition 2 ½.

Transfer Taxes in the Current Climate

Taxes work best when they target healthy industries and thriving economic sectors, as that resilience provides a cushion to absorb tax increases.

But right now the statewide real estate sector is facing real and measurable distress, including falling wages in some key areas, job losses, and a general lack of opportunity affecting virtually every corner of the state.

Overall, Massachusetts is not the picture of a healthy housing industry, the kind that could continue to power growth while absorbing new tax levies from cities and towns. Until interest rates fall, or offices are utilized again, new development will be difficult to catalyze.

**The Fiscal Challenge for Cities and Towns**

With the real estate market flagging, and commercial properties facing generational stress, cities and towns are genuinely struggling to raise revenue for affordable housing and other key investments.

Massachusetts municipalities are bound by the limits of Proposition 2 ½, and those limits are not compatible with recent levels of inflation and wage growth.

In the past, cities and towns with revenue needs could collect more property taxes than otherwise allowed by building more stuff. But this whole dynamic — where new construction gives towns the ability to circumvent Proposition 2 ½ — is now in jeopardy, thanks to the rise of remote work, higher interest rates, and the general downturn in the commercial real estate market.

Additionally, the way tax rates work in Massachusetts has left some cities and towns especially vulnerable. Many municipalities levy a higher property tax on commercial properties, meaning overall tax collections fall at a more rapid rate when the commercial industry struggles.

A Path Forward

Other states are pursuing more aggressive reforms, some of which are bearing significant fruit. These don’t require additional local funds and yet each could spur significant housing production and reduce housing costs.

Setting Core Expectations

Setting core expectations for overall housing production or affordable production, and imposing a builder’s remedy on municipalities that fall short, as is happening in California. Under a builder’s remedy, if communities fail to produce sufficient new housing, developers would be able to bypass local zoning rules. In Massachusetts parlance, a builder’s remedy is akin to a beefed-up version of what we call 40b, with even less local recourse and even more scope for developer activity.

01

Accessory Dwelling Units

Allowing accessory dwelling units (ADUs) by right, as included in the Governor’s housing bond bill.

02

Transparency and Communication

Setting clear expectations about local and legal review, so developers know how long approval processes can take — and what recourse they have in case of delay.

03

Reporting

Tracking and overseeing existing pots of money meant for affordable housing, including funds in local housing trusts, which rarely report their activity, as well as revenue from the Community Preservation Act, which sometimes sits in municipal bank accounts.

04

Additionally, there are ways to accelerate progress by helping towns raise new revenue for housing investments, including:

Exempting affordable housing initiatives from Proposition 2½, just as the state allows for new growth.

Allowing municipalities to introduce a new, CPA-like property tax surcharge for the express purpose of affordable housing.

Pooling money at the state level- which is often more effective than authorizing local spending.

Vastly expanding the number of state vouchers is the surest, fastest way to ease the cost-burden for struggling residents.

Pursuing a new generation of public housing purchases and projects, following the lead of innovative public agencies in places like Montgomery County, Maryland.

These proposals are explained in more detail in the full report available here.

What is a transfer tax?

As generally defined by Investopedia.com, a transfer tax is a charge levied on the transfer of ownership or title to property from one individual or entity to another.

What is Proposition 2 ½?

proposition 2 ½ imposes two tight limits on Massachusetts cities and towns:

1) Property taxes can’t rise more than 2.5 percent in any given year (with an important exception for “new growth.”)

2) Total property tax collections can’t exceed 2.5 percent of the value of all taxable property

Add in the fact that Massachusetts municipalities are not allowed to introduce local sales or income taxes, and these rules place tight limits on municipal revenue.

Read the Full Report (PDF)Plain Text Version of Report