Understanding Los Angeles' Complex Affordable Housing Ecosystem

Los Angeles is in the midst of an affordable housing crisis. Short 500,000 affordable housing units, the city faces extreme challenges like undersupply, obstacles around zoning and land use and high development costs. The recent fires in Los Angeles — which destroyed 16,000 properties and cost an estimated $250 billion in economic losses — and recent mass layoffs and funding cuts at the Department of Housing and Urban Development have further exacerbated the city’s affordable housing shortage.

Matthew Haas, Senior Relationship Manager and Senior Banker at KeyBank Real Estate Capital, spoke about the constant and immeasurable pressures on Los Angeles’ affordable housing ecosystem at the recent Bisnow Los Angeles Multifamily conference. The topic, A Continued Housing Crisis Ahead, allowed a panel of experts to discuss the complex issues impacting affordable housing in the region.

State leadership on zoning and land use

Zoning and land use has a major impact on multifamily development. Los Angeles and most of Southern California has low density zoning that needs to be updated to accommodate more multifamily and affordable housing projects. “This starts with [governmental] leadership,” added Haas.

California State Governor Gavin Newsom set a goal of building 2.5 million new homes. Although that figure is short by some estimates — with some experts saying the figure is closer to 4.5 million — he has made significant steps to update zoning and provide exemptions for affordable housing development. Although there has been some community pushback, most of these exemptions have gone a long way to support new housing development.

In addition, zoning and land use regulatory reform will also help to address restrictions. A recent report from The National Association of Home Builders and National Multifamily Housing Council found that regulation was responsible for more than 40% of the cost of multifamily development. Multiple panelists agreed that The California Environmental Quality Act (CEQA) reform, in particular, would go a long way toward supporting more housing development in the state and helping to bring thousands of units to the market.

The effects of high costs

U.S. construction costs have increased between 25% and 40% since 2020, driven by increases in materials pricing, labor costs and equipment costs. Now, tariffs promise to drive up costs once again for raw materials, while immigration reform could put more pressure on construction labor.

Developers in Los Angeles can help to curb construction costs by adopting non-traditional construction methods. Modular construction, in particular, is becoming an increasingly viable way to build a quality multifamily property for a reduced cost. Haas said that it does require some adjustments. “You have to know the rapport and the relationships — and the contracts and the exclusions — between the architect, the contractor and the modular manufacturer,” he said. “Those are really important. It’s not for the faint of heart, but it is definitely doable.”

In addition, modular construction requires some increased underwriting for the bank. For example, what happens if the modular manufacturer goes out of business? There are some fundamental questions the bank needs to answer to finance an affordable housing modular deal. However, banks are getting more comfortable with the modular concept, helping to increase popularity for these types of projects. In addition, Haas has also seen increased attention to build accessory dwelling units (ADUs) on single-family lots, thanks to decreased regulation for ADU development and an increased opportunity due to the fires.

New sources of capital emerge

Affordable housing developers typically build a complicated capital stack rounded out with tax credits or other public subsidies. Research has shown that this complex capital stack actually makes the cost to develop more expensive and suppresses affordable housing development.

As a result, the cost of a Low-Income Housing Tax Credits (LIHTC) unit, in some parts of California, has ballooned to roughly $1 million per unit. Developers need to look for alternative sources of capital to fund affordable housing projects, and thankfully, it is arriving. Philanthropic and family office money is helping to fill funding gaps in the affordable space, especially in the areas of naturally occurring affordable housing. These capital sources still want a return, of course, but are often willing to accept a lower return than the market standard.

EAH Housing is one example of a large, well-established statewide affordable housing nonprofit that is adapting to pressures in making deals pencil. The nonprofit actually has a senior risk manager on staff to assess investment risk around insurance costs that impact builders’ construction risk and property operating expenses. “Not a lot of nonprofits have a risk manager,” says Haas. “You’re having to manage with your insurance company what those risks are.”

While it is still challenging to make affordable housing deals financially viable, philanthropic and family office capital can help to round out the capital stack, and it could be an attractive alternative to LIHTC, according to Haas. “Low-Income Housing Tax Credit does provide gap financing and equity, but it is only a 15-year equity or 10-year equity that gets spread over 15 years,” he said. There is the potential for more attractive capital sources through public-private partnerships and joint ventures, he added.

Los Angeles has become known as the epicenter for the affordable housing crisis, as evidenced by its high rate of homelessness. The region is an example of the challenges facing affordable housing construction and preservation, but it can also become a model for change. With government, developers and capital providers adapting and working together to find solutions, a path forward exists to make a difference for those looking for affordable housing in the region.

Maintaining the Mission

Affordable housing is part of KeyBank’s core mission, and it receives top-down support from the CEO and senior leadership. The support has fostered an environment where professionals can be fully dedicated to serving local communities and clients and creating a positive impact on people’s lives.

Let’s start the conversation on your next project.

Connect with your banker, or Matthew Haas directly. Take a look at key.com/affordable for our latest in thought leadership and the breadth of our expertise in the affordable space.