Why Expensing New Rental Housing Is One of the Best Ways to Tackle the Housing Supply Problem

America’s housing affordability problem is driven by insufficient supply. Indeed, analysts from the American Enterprise Institute and the Center for American Progress agree that the country needs millions more homes to achieve key housing goals, such as returning to historical vacancy and household formation rates, relieving overcrowding, and improving housing affordability. The taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. code itself is part of the problem. It famously favors owning a home, but penalizes building homes for renters. One simple, pro-growth way to counter this tax penalty is expensing for new residential structures.

A business that buys equipment can generally deduct the cost immediately, a pro-growth approach that was recently made permanent. But a developer who builds an apartment building must instead spread the deductions over 27.5 years, driving the deductions down to roughly 50 cents on the dollar in present value. In this way, the developer effectively pays tax on income that doesn’t exist. That is a tax penalty on multifamily residential projects: projects that would otherwise pencil never happen, the housing stock ends up smaller, and everyone is poorer.

Policymakers have many options that could counter this tax penalty, but approaches differ enormously in how much of the forgone revenue reaches new construction. The Rental Housing Investment Act (RHIA), introduced by Sen. Lisa Blunt Rochester (D-DE) in March with a bipartisan House companion in May, would let developers of new rental housing (buildings with two or more units) immediately deduct up to $150,000 per unit rather than depreciating it over 27.5 years, and up to $250,000 per unit for projects meeting affordability tests borrowed from the Low-Income Housing Tax CreditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income rather than the taxpayer’s tax bill directly. program.

The proposal is a strong step toward expensing, an approach that ensures taxes do not distort investment choices. Moreover, nearly every dollar of forgone revenue would benefit new units.

Fix the Tax Code for New Capital, or for All Capital?

Expensing spurs more investment per dollar than a corporate rate cut, because its benefits reach only new capital, while a rate cut also benefits old capital.

Nearly every popular housing program is more like a rate cut as it benefits both new and old housing. First-time homebuyer credits, tax-preferred home purchase accounts, and rental assistance all help people pay for housing regardless of whether it is new or old stock. Dollars spent on these programs—or, equivalently, tax dollars forgone—are spread across all housing. For example, in the case of government subsidies for home purchases, existing home sales outnumber new home sales by roughly six to one, so about six out of every seven of these dollars bid on existing homes. Cheap credit, such as through Federal Reserve or Freddie/Fannie policy, also does not discriminate between new or old housing stock.

In the RHIA proposal, the neutral tax treatment is limited to property whose “original use . . . commences with the taxpayer,” so existing buildings are not eligible. Bonus expensing for machinery and equipment requires no original use, but the original use restriction matters far more for buildings than for equipment: in 2025, investors spent about $166 billion purchasing large apartment properties—roughly 45 percent more than the $115 billion spent building new multifamily housing.

A version that permits the deduction to be taken for purchased used property could double the tax revenue cost while not providing any further incentives for new construction on the margin. Similarly, original use expensing protects taxpayers from providing favorable treatment where building is blocked. Indeed, at the margin, a city that permits more building attracts more of the favorable treatment, an incentive pushing in favor of upzoning.

Build Three Times as Much, Get Three Times the Tax Relief

Consider Austin and San Diego. The two metro areas have nearly the same number of homes (1.13 million and 1.27 million) and nearly the same number of homes sell each year (about 36,000 and 32,000). But Austin permits roughly three times the new multifamily housing: 20,100 units a year against San Diego’s 6,800. A housing program that is absorbed by the housing stock, or home purchases, spends about equally in the two metros. Tax relief that benefits only new construction, by contrast, rewards Austin for building more.

Let us make the comparison in dollars, assuming naïvely that there is no behavioral response to the policy. A $10,000-per-purchase homebuyer subsidy costs about the same, $300 to $400 million, in each metro. Assuming complete uptake, and making certain reasonable parameter assumptions, the Austin metro would benefit by about $353 million per year from RHIA, while the San Diego metro would benefit by only $120 million. Three times the building yields three times the benefit, which transparently shows what the policy encourages—new construction.

Table 1. Expensing Targets Benefits to Cities That Build More

Note: Illustrative calculations. Homebuyer subsidy cost equals homes sold × $10,000. RHIA relief assumes the $150,000-per-unit cap binds, full take-up, a 26.6 percent average marginal tax rateThe marginal tax rate is the amount of additional tax paid for every additional dollar earned as income. The average tax rate is the total tax paid divided by total income earned. A 10 percent marginal tax rate means that 10 cents of every next dollar earned would be taken as tax., and a present value of 27.5-year straight-line deductions of 56 cents per dollar, consistent with Tax Foundation’s general equilibrium model cost recoveryCost recovery refers to how the tax system permits businesses to recover the cost of investments through depreciation or amortization. Depreciation and amortization deductions affect taxable income, effective tax rates, and investment decisions. estimate for noncorporate residential structures. Assumes no behavioral response.
Source: Redfin Data Center; Census Building Permits Survey; Tax Foundation calculations.

One Percent to New Homes, or 93 Percent?

We can extend the Austin versus San Diego comparison to national policy. Financial assistance for housing policy can provide support for homes that exist (about 147 million homes), homes that trade (about 4.8 million sales a year—4.1 million existing plus 0.7 million new), or homes that get built (about 1.5 million homes a year).

How much of the forgone revenue actually benefits newly built homes in a given year? For policies targeting existing homes (such as property taxA property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services. relief or broad rental assistance): about 1 percent, which is new homes’ share of the stock in each year. For policies targeting home purchases (such as homebuyer credits or home-purchase savings accounts): about 15 percent, as one sale in seven is a new home. Expensing without an original use test: about half, since investors spend at least as much each year buying existing apartment buildings as builders spend building new ones. RHIA’s expensing, with the original use test: nearly every dollar; we estimate at least 93 percent, with the remainder going to teardown rebuilds (a 10-unit building demolished and rebuilt as five would qualify). An incremental-units test, which would provide neutral treatment only for units added beyond those already on the parcel, would close even that small gap.

We caveat that two of these estimates rest on judgment calls, due to lack of data. For expensing without an original use test, the exact share depends on what share of purchased apartments were newly built in the same year, the share of land value in purchase prices, and the total value of small purchases; half is probably an overestimate. For RHIA, we use an estimate of the single-family teardown share (6.9 percent of starts) as an upper bound on teardowns, which very likely overstates the multifamily share, since for multifamily, one teardown lot likely yields many new units.

These shares also assume no behavioral response, which likely understates the gaps between the policy designs. For example, removing the original use test would likely increase churning, as owners trade existing buildings to accelerate deductions, thereby pulling even more of the relief away from new construction.

Expensing Is Sound Tax Reform and Cheaper Than It Looks

In Options for Reforming America’s Tax Code 3.0: A Policymaker’s Guide to Tax Reform Trade-Offs, we estimate that full expensing for all structures would add $537 billion to primary deficits over 10 years on a conventional basis, but because it is among the most pro-growth tax changes, it would reduce primary deficits by $434 billion on a dynamic basis. RHIA-style residential expensing, as a subset of full structures expensing, would have a similarly large gap between conventional and dynamic revenue scores.

The housing affordability problem is driven by supply constraints, and much of the fight is in state and local decisions about what may (not) be built. Federal tax policy is unlikely by itself to push San Diego to reform its regulations to be as favorable as Austin’s. But sound tax reform can stop penalizing the act of building, without providing a windfall for capital that already exists. Bonus expensing for new rental housing is exactly the right tool.

Share this article