Development charges (DCs) were created to facilitate development by reducing the incentive for current residents to block development based solely on their reluctance to pay for new infrastructure. In this way, DCs can improve economic efficiency.
Development charges (DCs) can be considered a windfall tax, but only to the extent that they are paid by the owners of undeveloped land before it is developed. In this case, these charges capture the increase in property value that results from upzoning land for urban use. Unfortunately, in North America, residential development charges are passed on to the owners (or renters) of new homes in newly developed areas.
Proponents of the slogan “growth should pay for growth” support development charges based on the belief that growth-related infrastructure costs can be fairly separated from other local infrastructure costs and that current residents should not have to cover such costs. Although history demonstrates this is seldom the case, this argument has been used to sideline any meaningful debate around these charges.
By their nature, public goods are non-exclusive in their use, which is why they are considered public. If you can’t exclude usage, it makes it hard to justify attaching development charges to new housing projects. Moreover, when the range of various fees are considered, development charges have become a convenient way to increase taxes without facing public scrutiny.
With housing affordability now a huge issue in Canada—particularly in communities with high development charges—it seems reasonable to conclude that reducing or eliminating DCs could help reduce housing costs.
Development charges, often “hidden” and largely borne by homebuyers in supply-constrained markets, have had a perverse effect: driving up the price of not only new development but also existing homes. This is in large part a result of using comparable homes to determine house values.
Cities like Montreal, Calgary, and Edmonton which rely less on DCs, are more affordable than Toronto and Vancouver, where these charges can add up to $100,000 to the price of a home. While other factors are at play, development costs have been a significant driver of rising home prices.
One potential solution is to freeze DCs at current levels and gradually reduce them over time. During this adjustment period, DCs could be used to increase the availability of affordable housing. However, this approach doesn’t address the broader affordability problem; it merely prevents a bad problem from becoming worse.
If provinces were to eliminate development charges, where would cities find funding for infrastructure? One possible solution worth exploring is using capital markets to finance infrastructure. We will examine this option in an upcoming piece.
These infrastructure expenditures still need to be paid for, and the most direct approach is through property taxes. As Dahlby and McMillian point out when examining the need for alternative revenue sources for municipal governments, the “rate-setting process is highly transparent and political: homeowners see and feel annual hikes quite keenly, and governments are publicly held to account for their taxing decisions.” They further note that “local governments will, of course, have to make a persuasive case to taxpayers that any tax hikes are justified, but that — rather than utilizing revenue tools that are less transparent — is precisely how responsible governments should function.” As a result, we have seen a number of cities looking for alternative revenue sources to limit this accountability.
While transparency around the rate setting process for property taxes is important for accountability, it is also important for house prices. Because property taxes are transparent, homeowners factor in expected future property tax costs when determining house prices. A recent OECD (Organisation for Economic Co-operation and Development) analysis of 34 countries found “a strong negative relationship between increases in immovable property tax revenues and house prices.”
To address affordability, cities could shift their focus from development charges to property taxes. While this would likely lead to higher property taxes and slower house price appreciation, it presents a tough but necessary policy option that must be considered if we are going to solve our affordability crisis.
Independent Opinion
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