Housing systems in Europe. Part II: A comparative study of housing finance

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HOUSING SYSTEMS IN EUROPE: PART 11

A COMPARATIVE STUDY OF HOUSING FINANCE

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HOUSING AND URBAN POLICY STUDIES

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OTB Research Institute for Policy Sciences and Technology Delft University of Technology

Thijsseweg 11,2629 JA Delft, The Netherlands, tel. 015-783005 Ministry of Housing, Physical Planning and Environment, The Hague, The Netherlands

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HOUSING SYSTEMS IN EUROPE: PART 11

A COMPARATIVE STUDY OF HOUSING FINANCE

Oscar Papa

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Housing and Urban Policy Studies are published by: Delft University Press

Stevinweg 1 2628 CN Delft The Netherlands tel (015) 783254

Editors: Hugo Priemus, Johan Conijn, Jacques van der Jagt Translation and flnal editing: Nancy van Weesep

Translation: Trevor Preston

CIP-DATA Koninklijke Bibliotheek, Den Haag Housing

Housing systems in Europe. - Delft : OTB Research Institute for Policy Sciences and Technology, Delft

University of Technology ; The Hague : Ministry of Housing, Physical Planning and Environment

Pt.

n: A comparative study of housing flnance / Oscar

Papa. - lIL, fig., maps, tab. - (Housing and urban policy studies, ISSN 0926-6240 ; 2)

With ref.

ISBN 90-6275-770-7 NUGI655

No part of this book may be reproduced in any form by print, photoprint, microfilm, or any other means, without written permission from the publisher, Delft University Press, The Netherlands

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4.3.3 The Wallonia region . . . 39

4.3.4 The Brussels region . . . 40

4.3.5 Some quatitative data . . . 42

4.6 Effects of the financial instrurnents . . . 47

5. FINANClAL INSTRUMENTS IN THE FEDERAL REPUBLIC OF GERMANY ... 53

5.5 Fiscal instrurnents . . . 64

6. FINANCIAL INSTRUMENTS IN DENMARK •••••••••••••••• 75 6.1 Introduction . . . 75

7. Financial INSTRUMENTS IN ENG LAND . . . 93

7.5 Fiscal instrurnents . . . 112

8. THE FINANCIAL INSTRUMENTS IN FRANCE ••••••••••••• 119 8.1 Introduction . . . 119

8.5 The fiscal instrurnents . . . 128

8.6 The effects of the financial instrurnents . . . 130

9. FINANCIAL INSTRUMENTS IN SWEDEN ••••••••••••••••• 137 9.1 Introduction . . . 137

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9.6 Effects of the financial instruments . . . 152

10. A COMPARATIVE SUMMMARY •••••••••••••••••••••••• 157 10.1 Introduction . . . ... . . . 157

10.2 Financial housing instruments . . . 157

10.3 Comparison of financial housing instruments .... . . 161

10.3.1 Housing allowances . . . 161

10.3.2 Property subsidies . . . ... . . . 163

10.3.3 Financing . . . ... . . ... . 166

10.4 Fiscal instrurnents of housing policy .. .... . . 167

11. CONCLUSIONS ••••••.•••••.••.•.•....••••.••••••••• 179

11.2 Conclusions regarding the form of the instruments . . . ... . 179

11.2.1 The appearance of the instruments: differences and similarities ... 179

11.2.2 The relation between instruments . . . ... .. 182

11.3 Conclusions regarding the nature of the instruments . . . 183

11.4 Conclusions regarding the effect of the instruments . . . 184

11.5 Final remarks . . . . . . . 186

ANNEX 1 . . . • • 187

ANNEX 2 . . . • . . 189

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FOREWORD

This study forms part of research project entitled "Housing systems in Europe." We are also publishing a companion report called "Housing systems in Europe: part I, a comparative study of housing policy" by Peter J. Boelhouwer and Harry M.H. van der Heijden (1992). Two other studies are currently underway. These concern an international comparison of housing costs, and an international comparison of fiscal policy and home ownership in the EC. Reports on these studies will be published in the near future.

An advisory committee guided the progress of the first two studies. This committee consisted of the following:

Drs. R. Spreekrneester (chairperson) - Ministry of Housing Drs. H.S. van Eyk (secretary) - Ministry of Housing Ir. W.G. Hulshof - Ministry of Housing

Drs. H. Mersmann - Ministry of Housing Drs. RJ.J. Roemers - Ministry of Housing KJ.R. Schiffer - Ministry of Housing Drs. J.S. Monasch - Ministry of Finance

Drs. M.MJ. Vergeer - Central Planning Bureau

The author would like to express his gratitude to the members of the committee for their advice and constructive criticism. The author also gratefully acknow-ledges the assistance of the many civil servants, researchers and organizations abroad that he visited in the summer of 1990. Without their generosity, this report would not have been possible.

Oscar Papa Delft, 1992

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1 INTRODUCTION

1.1 Introduction

Tbis research report is part of a larger investigation of how the housing systems function in seven Western European countries: the Netherlands, Belgium, Denmark, England, France, the Federal Republic of Germany, and Sweden. Tbe Netherlands serves as a frame of reference. Tbe main objective of the wider project is to gain insight in how the housing systems function in the countries under investigation. Tberefore, besides describing the systems, attention is also given to the effects emanating from these systems.

Tbe wider project consists of several modules, which form separate research projects. Tbe initial phase deals with four modules: 'general housing policy: adrninistrative and legal aspects'; 'housing finance'; 'housing costs'; and 'fiscal

aspects of home ownership'. Tbe present investigation is being published along witb the report on 'general housing policy: adrninistrative and legal aspects' (Boelhouwer and Van der Heijden, 1992). Tbe publication of other modules is planned for a later date: 'housing needs'; 'housing management'; 'housing quality'; and 'land policy'. Tbe project also envisions setting up an information system/databank on European housing (see Boelhouwer and Van der Heijden, 1992).

Tbe segment of the overall research project that is treated in the present report concerns the financing of housing. Tbe objective of this survey is to elucidate how governments intervene in housing through the implementation of financial instruments. Ultimately, the study should clarify two fundamental questions: What is the (relative) level of government expenditure on housing in these countries? and What forms does this expenditure take? In some of tbe countries investigated here, the cost of housing is covered not only by government; social housing funds, for instance, also make a significant contribution. Tbus, this study also gives attention to the sources of support.

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1.2 Research themes

Wben we translate the research objective into concrete research questions, we distinguish three themes:

-A- the way governments use financial instruments to intervene in housing markets;

-B- the differences and similarities among countries in re gard to these instru-ments;

-C- the effects of implementing these financial instruments.

The first theme should provide insight into the set of financial instruments that is used in selected countries. Accordingly, this part of the research is descriptive. Of course, a survey of financial instruments in seven European countries is likely to turn up many variants. Thus, it is appropriate to classify the instruments. An

obvious classification is in three categories: instruments in the area of subsidies; instruments in the area of financing; and instruments that operate through the fiscal system. With this classification in mind, we can formulate the following concrete research questions:

1. Wbich financial instruments, classified as subsidy, financing, or fiscal instruments, can we discern?

2. How are these instruments interrelated within a country?

3. How do the financial instruments found in one country differ from or resembie those found in another?

The second tbeme deals with the question of 'why?'. A mere description of the set of instruments found in each country does not constitute comparison. It is a short step from observing differences and similarities to asking why they exist. We presume the instruments are different or similar across countries because tbey reflect the prevailing policy guidelines, institutional frameworks for the provision of housing, or the economie, social, and demographic context, for instanee. With tbis in mind, we can formulate the following research question: 4. Can we explain the differences or similarities among financial instruments

found across the selected countries in terms of their policy perspective and the prevailing financial-economic context?

To answer this question, we must incorporate the results of the study on general bousing policy and its administrative and legal aspects.

The third theme concerns the effects of the instruments. This can be elucidated by the following research questions:

5. What are the general effe cts of the financial instruments on housing in the countries under study?

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6. What expenditures accrue to the government through these financial instru-ments?

1.3 Research methodology

These research questions were addressed as follows. First. we analyzed the available material, including policy documents, research reports, and statistical data. We realized beforehand that tbis mate rial alone was insufficient for a thorough anaiysis. Therefore, we arranged to visit the countries involved in the survey, where we interviewed staff members of pertinent departments. In some countries, we met with experts at the national level who are involved in scholar-ly research. During these visits, we also gathered supplementary documentation. The trips took place from May through August 1990. A list of people intervie-wed and organizations visited is included in this report as Appendix 1.

In the period February to April 1991, a draft of the English version was sent to representatives of the countries studied for their comments. Their supplemen-tary information and classifications are included in this report.

1.4 Content of the report

Before we gathered the data, we set up a framework in which to organize it. Chapter 2 elaborates on this framework. It includes a classification of the financial instruments to be distinguished in terms of a number of main catego-ries. On that basis, we constructed a schedule for the collection of data. lnitially, that schedule provided a frame of reference. Subsequently, we were able to use it to compare the findings and draw conclusions. Ultimately, it allowed us to visualize the sub-areas where gaps remained in the collected material.

Chapters 3-9 present the descriptions of the individual countries. These chapters are arranged according to a fixed format. After a short introduction, the financiai instruments pertaining to the housing system are des cri bed. This falls under a set of sub-headings: housing allowances, property subsidies, financing and guarantees, and fiscal instruments. Following this description, we elaborate on the interrelationship among the instruments we could identify, their general effects, and the government expenditure they entail. Chapter 10 offers a comparative summary of the financial instruments found in the countries studied. First, the countries are compared in terms of their financiai instruments. This provides a classification of countries according to type of instrument and the shifts in type over time. Then, the countries are compared in greater depth in regard to the four types of instruments: individual rent allowances, property subsidies, financing, and fiscal regulations.

In Chapter 11, the report concludes with an overview of the findings of this investigation.

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2 ANALYTICAL FRAMEWORK

2.1 Introduction

To compare how various European governments use financial instruments to intervene in housing markets, we have to construct a theoretical framework in which comparison can take place. In the previous chapter, we briefly introduced the three central themes with which the comparison is coneemed:

-A- the way governments use financial instruments to intervene in housing markets;

-B- the differences and similarities among countries in regard to these instru-ments;

-C- the effects of implementing these financial instruments.

This chapter elaborates on these themes; for each one, we sketch a framework for the description. But first, we have to clarify which financial instruments are being reviewed.

In the next section, we define the focus: the interface of housing supply and demand. In Section 2.3, we go on to discuss how governments can regulate supply and demand through the process of housing allocation. This can be done in a variety of ways. Section 2.4 provides a framework for analysis of govem-ment intervention, which constitutes the first theme. Essentially, we can distin-guish four types of financial instruments: subsidies, fiscal measures, financing, and mortgage guarantees. This section elaborates on these instruments and evaluates their merits.

Section 2.5 offers a framework for analysis of the second theme. The central issue is the relation with the institutional context. Finally, we discuss the effects of the financial instruments. Measurement is useful in itself, but it does not elucidate how an effect relates to the wider context of housing. And it is imperative to link effects to some situation. This point is discussed in Section 2.6 The theoretical framework developed in this chapter provides guidelines for comparing financial instruments of housing regulation in the countries treated in this report.

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2.2 Basis tor a comparative framework

The advent of 'Europe 1992' has roused interest in international comparison among policy-makers in numerous fields. This is also the case in the area of housing. International awareness is not only growing in the Netherlands; other countries are also showing more interest in what is happening across their borders. Of course, international comparative research is not new to scientific endeavor. In the 1960s, housing systems were compared internationally. Yet this field did not pick up momentum until the 1970s. In the companion to this report, Boelhouwer and Van der Heijden (1991; Chapter 1) have traced the development of this area of research.

International comparison has occasionally been applied to the topic of financial instrurnents in housing policy. Comparative research has been done in some sub-areas of the field. These include studies on individual housing allowance systems (Howenstine, 1986); housing finance (Boleat, various publications); housing costs (Van Fulpen, 1984); and rent policy (RIGO, 1987).

These comparative studies have some things in common.

- They of ten concern only one element of the total set of financial instruments. This narrow focus blocks insight into the internal cohesion of the body of instruments. This lirnits the scope for conclusions.

- The descriptions and analyses are of ten based on secondary material from a foreign country. Thus, the researeher implicitly authorizes standpoints and data from sourees that happen to be easily available.

- These are of ten purely descriptive studies. They offer a great deal of informa-tion about the operainforma-tion of systems and regulainforma-tions. However, they rarely analyze or compare the data systematically (Oxley, 1990).

- Comparison is not usually concerned with 'why' a system is set up as it is, nor with the measurement of its effects.

- There is no generally accepted methodology for international comparative research (BalI and Harloe, 1990; Lundqvist, 1990; Oxley, 1990).

This last point is especially important. The range of approaches to comparative analysis of housing systems is elaborated in another study in this research project. We refer the interested reader to the report on general housing policy and its adrninistrative and legal framework (Boelhouwer and Van der Heijden, 1992, Chapter 1). In our investigation, we have built upon the groundwork reported there. The approach adopted for the entire research project is closely aligned with that proposed by Lundqvist (1990). His goal is to discover the 'why' of a given system (its aims), the way it is structured (its institutions), and its effects (its output).

Lundqvist's approach is very useful in delirniting the range of financial instru-rnents to be discussed here. It clarifies the role of government in the imp lemen-tation of these instruments. We can sketch the rationale of this approach as follows.

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The dynamics of the housing system may be seen as a continuous process of adjustment of households and dwellings. This process operates according to market forces, whereby producers generate a supply of housing and consumers exert a demand for it. This means that the housing system in a given country consists of two categories: subjects (consumers and producers) and objects (dwellings) (Lundqvist, 1990). Subjects and objects become adjusted in various ways. Two of these ways tie at opposite ends of the range of alternatives: the principles of 'each according to his ability', and 'each according to his need'. In the former situation, the role of govemment may be absent; in that case, the price mechanism determines what is made available and what can be consumed. In the latter situation, the role of govemment may be considerable; in th at case, the govemment regulates supply and demand. These adjustment mechanisms operate through two key variables: the purchasing power of households, and the price of housing. If the government does not intervene, these two variables become the determining factors of allocation through the operation of the market mechanism. Govemment regulation determines or influences either the buying power or the price of housing, or both.

This approach helps us to fill in our analytical framework. In the process of adjustment of subjects and objects, government intervention stands somewhere between the two extremes. Government regulation can be directed toward one or both of the two variables. And intervention can take diverse forms. It can mean regulation by way of legal measures. It can mean subsidies andjor financing. Or it can entail a role in the production of the housing stock. In the following section, we will elaborate on the ways in which govemment interven-tion in housing can take place.

2.3 Characteristics of government intervention

As pointed out above, we can distinguish three main forms of govemment intervention in housing. These forms are found to some degree in all of the countries studied (OECD, 1988, p. 31):

a. regulation b. subsidies

c. direct investment

Regulation means that the government makes use of laws to intervene in the market mechanism. In OECD countries, regulation of the housing market takes the form of rent control and constraints on the capital market. In the latter case, regulations stipulate the type of loans andjor mortgage rates that may be applied to housing. The mortgage guarantee is also a form of regulation.

Subsidies also allow a government to intervene in the market mechanism. But this instrument is primarily intended to assist the consumers by fixing housing costs below cost price. This instrument applies to both the supply and the

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demand sides of the housing market. Subsidies on the supply side are directed toward the producers of housing, such as developers and housing associations. With subsidies, housing services can be offered at a reduced price. Subsidies can be granted in various forms, such as capital subsidies or tax deductions. And subsidies can also be directed to the demand side. Through this channel, the direct housing consumption (of the renters and owner-occupants) can be influenced by bringing direct housing outlays down below cost. Subsidy systems in this area apply to individual housing allowances and income tax relief.

Finally, governments can intervene in the housing market by investing in housing and then bringing it onto the market. Various strategies are conceivable. The government can act as developer; it then takes the risk of building and selling the dwellings. These units could also be rented under public manage-ment.

The financial instrurnents should be derived from these three main forms of government intervention. Obviously, direct subsidies form a part of the package. Tax deductions will also be considered. Although, strictly speaking, they are not true subsidies, the effect of these two measures is essentially the same. Besides subsidies, attention is also given to certain forms of regulation; for instance, the above-mentioned strategies of rent control and regulation of the capital market. To be complete, we also give attention to direct government investment in housing. Vet our primary focus is on the following financial instruments: subsidies, financing (and mortgage guarantees), and fiscal regulations.

2.4 The instruments

2.4.1 Subsidies

In economic terms, subsidies are non-compensated payments by government to private parties andjor institutions. The cost of subsidies is drawn directly from the government budget, although not always from a clearly identifiable budget-ary item. For instance, there are forms of subsidy on interest, for which the government extends loans at interest rates below market level.

First of all, subsidies can be further differentiated according to the objective of the instrument. In the Netherlands, three categories are recognized (Ministry of Housing, 1988):

1. subsidies on construction and rehabilitation of dwellings 2. subsidies on acquisition and improvement of housing sites 3. subsidies for the occupant of a dwelling

In the international context, it is customary to distinguish between object subsidies (property subsidies) and subject subsidies (individual housing allowan-ces). Points 1 and 2 above refer to property subsidies, whereas point 3 is an individual housing allowance.

Property subsidies are intended to influence the supply of housing services.

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Individual housing allowances, in contrast, are designed to influence housing demand. It should be kept in mind that this division into two categories may bias our perception of reality. There are numerous transitional situations that do not fit unambiguously into one or the other category. One example is the way Belgian authorities use property subsidies and rent control to regulate the sodal rental sector.

We can further specify these subsidy categories according to the technical characteristics of the instrument. A subsidy can be granted as a once-only lump-sum grant, or payments can be scheduled over time. When government expen-ditures are compiled by budgetary year or fiscal year, and these figures have to be made comparable, this difference in payment schedule should be taken into account. Expenditures for multi-year subsidies that are booked in year t stem from obligations that had been contracted in previous years. These contracts of ten entail outlays for years to come. The nature of the multi-year payment should also be taken into account: fixed, incremental, or decreasing.

The subsidies can be further classified according to the sector to which they apply: rental or owner-occupied housing. It is useful to differentiate subsidies in this way because there is of ten a connection between fiscal instrurnents and the housing sector to which they apply.

2.4.2 Loans and mortgage guarantees

These are instrurnents to finance housing construction and rehabilitation, as weIl as the acquisition of dwellings. We should be aware that loans are extended on the basis of income in the form of amortization and interest payments. The nature of the expenditure is thus entirely different from th at of subsidies, which are monetary transfers.

Yet the extension of a loan may include a subsidy component. This is especially the case if the government lends at interest below market rate. The mortgage guarantee comprises the security on the loans taken out on the capital or mortgage markets by landlords or owner-occupants in order to acquire andjor improve a dwelling. The guarantee can take various forms. The govern-ment might directly provide security; alternatively, the governgovern-ment might underwrite a mortgage that has been primarily assumed by other parties.

It should be kept in mind that these instrurnents only lead to actual expendi-ture when the mortgagee (accredited institution or owner-occupant) is no longer able to meet the payment obligations toward the mortgagor.

2.4.3 Fiscal instruments

Fiscal regulations are instrurnents that operate through the tax owed by a person or incorporated entity. The OECD (1988, p. 39) notes five important forms of tax regulation concerning housing in its member countries:

a. deduction of mortgage interest payments and addition of imputed rent to income

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c. capital gains tax d. sales tax

e. income from savings instrurnents

In addition, there are other kinds of fiscal instrurnents related to housing. With regard to owner-occupancy, for instance, Haffner (1990) recognizes the follo-wing:

f. real estate registration tax g. 'stamp' duty

h. transfer tax i. real estate tax

j. inheritance tax k. gift tax

This list makes no pretence to be complete. And not all of the above taxes are levied in every European country. But the list does illustrate that regulations in this area can be highly diverse.

To classify these forms of taxation, Haffner (1990) recognizes three phases of tenure. First, there are kinds of taxation that apply to the acquisition of a dwelling. Haffner includes sales tax, transfer tax, stamp duty and registration fe es among these kinds of taxation. Moreover, the period of ownership can be distinguished as a phase. In this phase, the income tax (deduction of interest and addition of imputed rent), the capital assets tax, and the real estate tax play an important role. Finally, there is a phase of disposal of the dwelling. lnheritance tax, gift tax, and capital gains tax may be applicable in this final phase.

This investigation does not purport to be an exbaustive analysis of the fiscal treatment of the acquisition, ownership, and disposal of a dwelling. That topic is elaborated in the investigation of the fiscal treatment of home ownership (Haffner, 1990). We have therefore narrowed the scope of the present study. This restriction concerns the fiscal treatment of (occupant) home owner-ship during the ownerowner-ship phase. Specifically, this concerns how the amount of tax owed by owner-occupants can be reduced through adjustment of the income tax. The effect can be equated with the impact of individual housing allowances and property subsidies in the rental sector.

The fiscal treatment of home ownership through income tax is of ten studied from two perspectives: the dwelling as investment property (commodity) and the dwelling as consumer good. In the former perspective, the dwelling gener-ates income (imputed rent) that is subject to income taxation. Along the same Hnes, it is logical that certain costs connected with the acquisition and maintenance of the income flow from the dwelling may be deducted from the income. In the latter perspective, it is not logical to identify a taxabie income, nor to consider certain income as deductible.

In regard to the actual treatment of home ownership in the OECD countries, three groups may be distinguished. Some countries follow either the 'investment property' perspective or take the 'consumer good' approach in their fiscal

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regulations. But other countries adopt the 'consumer good' approach in the fiscal treatment of income from the dwelling, while they implicitly choose the 'investment property' approach by permitting the deduction of mortgage interest payments.

The way in which fiscal control is set up can differ from one country to the other and from one regulation to the next. Haffner (1990) distinguishes four forms: tax exemption. the allowance of deductions in determining the tax base (tax allowance), the application of a deduction on the amount of tax owed (tax credit), and the application of a reduced rate (rate relief). The above should make it clear that the application of fiscal regulations as instrurnents of control differs in essence from the application of subsidies. Fiscal instruments make the real tax income higher or lower than income without application of an instru-ment. The amount of money involved does not appear on the government budget. Usually, the amount has to be estimated.

2.4.4 Regulation

In the previous section, regulation was mentioned as one of the explicit instru-ments the government can use to intervene in housing. In th is study, th is instrument itself will not be discussed. Yet if a form of regulation is strongly related to the operation of a financial instrument, it will be given attention under this heading.

2.4.5 Direct government investment

Direct government investment is derived directly from government funds. The government acts as the principal in housing development. In the Netherlands, direct government investment is rare in residential construction.

The investments by municipal housing authorities are not included in this category. Within the municipal government, these institutions have the status of separate 'corporations'. They apply for subsidies and loans to finance their activi ties.

2.5 The national context as basis

In order to explain why financial instruments take a specific form in a given country, we must make a link between the instruments and the context within which government intervention takes place. This context embraces not only the demographic, economic, and political environment but also the structural and institutional framework. This concerns the way the housing market functions and the framework of social, economic, and political factors within which the government should operate. Since this framework may differ substantially among countries, the ways the governments can intervene in housing are very different. In most Western countries, there is a specific institutionalized method of providing owner-occupancy housing, social rental dwellings, private rental units,

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and cooperative forms of ownership. Both government and the private sector can play a role in the provision of housing. If we assume that this institutional context is a contingent condition for government policy, then we can address the 'why' question: Why do government policies differ? (Lundqvist, 1990). The institutional context places restrictions on the scope of government action, but it also provides opportunities for government intervention.

The national context wiIl not be explicitly described in this report. That is done in the narrower study of general housing policy and its administrative and legal aspects, which was carried out in conjunction with the present investigati-on. Where pertinent, we shall refer to that study in the present report (see Boelhouwer and Van der Heijden, 1992).

2.6 Measurement of efTects

Finally, we will analyze the effects of the set of financial instruments. These effects can be documented by observation. The interpretation of the effects cannot take place without establishing a relation with the national context. In that sense, the same considerations apply as mentioned above in the treatment of the second main question.

In the statement of the problem, the third theme is split into general effects of the financial instruments and the effects on government expenditure. In particular, the measurement of these financial flows means little in itself. The measured flows are more revealing when they are viewed in a national frame of reference. In this way, we can establish a baseline for comparison.

2.7 Concluding remarks

In this chapter, we have introduced some important restrictions on the objective of this study. First, we have chosen to focus on the financial instruments influencing the supply and demand of housing services. This decision narrows the range of instruments to be considered. Concretely, we discuss government subsidies, financing options and mortgage guarantees, fiscal instruments, and direct investments in housing by the government or the private sector. Secondly, the framework will also have to be limited when we explain the similarities and differences in the financial instruments operating in the countries under study. We do not seek a general explanation but one within the given policy and financial constraints. In this way, we can also make use of the results from the study of general housing policy and the administrative and legal framework (see Boelhouwer and Van der Heijden, 1991). Finally, we consider the measurement of effects. In order to make a comparative assessment, we have to relate the absolute values found for the effects to the relevant values at the macro level.

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3 FINANCIAL INSTRUMENTS IN THE

NETHERLANDS

3.1 Introduction

Since the Second World War, the Netherlands has had a high degree of government intervention in housing. Consequently, an extensive system of subsidies, financing constructions, and mortgage insurance has developed through the years. But government intervention in housing is now past its peak; the 1990s have ushered in a new approach, whereby subsidies are concentrated on lower-income

households. The state has already retrea~ed frofm the areas of grants, loans, and I!,-~~ ,T~

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mortgage insurance. However, lower tiers 0 government are still involved, ' "

particularly in the provision of mortgage insurance.

Another trend in the 1990s is the decentralization of authority for the aIlocation

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of subsidies. In the future, property subsidies wiIl largely be funneled through I ' budgets and funds administered by local authorities. Accordingly, local governments wiIl determine how these funds should be spent.

Subsidies are not the only financial instruments in the Netherlands; fiscal policy is alSO important. Whereas subsidies are the responsibility of the Ministry of Housing, fiscal instruments lie in the realm of the Ministry of Finance. The use of the fiscal instruments results in an increase or a decrease of the income of this Department, since it affects the tax receipts. Local governments are also involved in fiscal policy; the municipality levies a real estate tax.

The foIlowing sections elaborate on the financial instruments of housing policy in the Netherlands.

3.2 Housing allowances

The Netherlands has a system of individual rent subsidies (IHS). This is meant to keep housing affordable for lower-income groups. It has been in effect since July 1, 1975. Only renters can apply for this subsidy. In principle, renters are eligible for IHS if the following conditions are met:

- the tenant must be 18 years of age or ol der; - he or she must occupy an independent rental unit;

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- the applicant and any others sharing the dwelling must not be subject to capital assets tax.

In addition to these general conditions, two other factors determine eligibility for IHS: household incom,e and rent level. These must be under a specified maximum. c::w--____ ,,~. __ .~"____ ...

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If either income or rent is higher, the applicant is disqualified.

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", .Î " IJ! 1989, Chapter 3). In the present system, the amount of subsidy is determined on

I ~,,7t ~';rp ~ '1he basis of a table with norm rents for each income bracket. There are separate '" 1ables for singles and households with more than one person. The norm rent is the amount that an average tenant should be able to pay on a given income. In principle, the difference between contract rent and norm rent can be subsidized. However, a higher rent generally corresponds to a higher quality dwelling. Therefore, the formula incorporates a 'quality discount'. The discount is applied to the difference between the contract rent and the norm rent. So the higher the

1 i, & contract rent, the larger the amount subtracted from the potential subsidy (being the difference between contract rent and norm rent).

~YJ~J Thus, the IHS subsidy is calculated aceording to the following formula: Subsidy = R - {(a • Y) -G • (R - Rn)};

where R = contract rent, a = normative rent quote, Y = adjusted income,

G = percentage of the difference between contract rent and norm rent that is not subsidized, Rn =

norm rent (which is equivalent to a • Y).

An annual adjustment complements this statie method of calculating the amount of subsidy. This is important because incomes and rents can change from one year

'1'

,>-

to the next. Therefore, the Ministry of Housing, Physical Planning, and the Environment (VROM) attunes subsidy tables to current wage and rent levels. The norm rents are revised annually following the trend of rent increases allowed by the Ministry. The income brackets used in the program are also adjusted, according to the projected income development.

Table 3.1 shows the basic dimensions of the housing allowance program. From 1975 to 1988, the number of households taking advantage of the IHS increased; from 348,000 in the first subsidy period (1975-1976), the number of recipients rose beyond 900,000 in the last period for which figures are available (1988-1989). The corresponding expenditure rose from 339 million guilders in 1975 to 1600 million guilders in 1988. Using the tabie, we calculate that at the start of the program, the number of grants grew initially by 3% per year on average. The period 1979-1980 marks the transition to a greater increase in the number of renters. The sharpest increases took place in the periods 1981-1982 and 1982-1983, representing rates of 16% and 19% respectively. Growing unemployment had a major influence on applications for IHS. Because the number of households applying for IHS rose sharply, the program was adapted during the 1983-1984 budget year. This stabilized the expansion of the program somewhat. But subsequently, the number of grants rose annually, despite further adjustment of the program.

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I d i l H' I , W ' P

Table 3.1 Quantitative efTects of the IHS program, 1975-1989, in prentheses as index (1975 = 100)

Number Average Total government

of grants allowance expenditure in

Budget year in guilders millions of guilders

1975-1976 348,320 (100) 974 (100) 3393 (100) 1976-1m 356,939 (102) 1,001 (103) 357.5 (105) 1m-1978 383,619 (110) 1,081 (111) 414.8 (122) 1978-1979 394,718 (113) 1,198 (123) 472.7 (139) 1979-1980 417,903 (120) 1,277 (131) 533.7 (157) 1980-1981 455,864 (131) 1,380 (142) 628.9 (185) 1981-1982 529,991 (152) 1,562 (160) 827.5 (244) 1982-1983 628,834 (181) 1,700 (175) 1,069.0 (315) 1983-1984 635,255 (182) 1,782 (183) 1,132.0 (333) 1984-1985 715,323 (205) 1,777 (182) 1,271.0 (375) 1985-1986 m,692 (223) 1,729 (178) 1,345.6 (397) 1986-1987 830,500 (238) 1,767 (181) 1,467.0 (432) 1987-1988 880,000 (253) 1,763 (181) 1,551.0 (457) 1988-1989 907,000 (260) 1,765 (181) 1,600.9 (472)

Souree: Ooms and Papa (1989: 22)

The table also shows the development of the average allowance granted. In contrast to the delayed rise in the number enrolled in the program, the greatest increases in expenditure occurred when the IHS was first in operation. From 1983-1984 on, the increase of the average amount of subsidy slowed down. This stabilization is related to two developments: adjustments in the formula used to calculate the quality discount; and the introduction of a new subsidy table for singles.

On the basis of an evaluation study, we can characterize the type of household enrolled in the program (Ooms and Papa, 1989). It turns out that the IHS was used largely by elderly persons, at least in its early years. At that time, they constituted on average 44% of the group of beneficiaries. More recently, that portion has declined to about one-third. This is partly due to the rapid growth in the share of young applicants in the 1980s.

The recipients of IHS can also be characterized by household income. Over the entire life of the program, the majority of recipients had an income of minimum wage or less. This shows that the increase in the number of recipients with a minimum-wage income was greater than the rise in enrollment of tenants with higher incomes. It turns out th at from 1975 to 1987, an average of two-thirds of the IHS recipients had an income equal to minimum wage. Among the singles enrolled in the program, almost three-fourths had a minimum-wage income.

The statistics on source of income for IHS recipients are limited. The source is only specified when the beneficiary is on welfare (Algemene Bijstandswet, ABW) or draws unemployment benefits (Rijksgroepregeling Werkloze Werknemers, RWW). Those figures reveal that the number of such households increased from 50,000 in 1980 to 157,000 in 1987. The percentage of IHS recipients on welfare or

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unemployment benefits rose in the same period from 11% to 19% (Ooms and Papa, 1989, p. 37).

Besides the individual rent subsidy (IHS), the Netherlands also has a rent adjustment subsidy (Regeling Huurgewenningsbijdrage). This program is designed to ease the transition of households that move from a substandard dwelling or are forced by urban renewal to pay considerably more rent than they were accustomed t~. For this program as weil, eligibility is tied to a maximum household income and rent levels.

Up to 1988, this program provided decreasing annual benefits for three or five years. As of 1988, this became a once-only grant. In comparison to the IHS grants, the government budget for this program is relatively smalI.

3.3 Property subsidies

In the Netherlands, there are three kinds of property subsidies: state, provinciaI, and municipal subsidies. The central government funds the latter two types. This money is placed in an earmarked account. The lower tiers of government are then responsibie for the allocation of this money within the framework of the funding agreement. Since 1985 much of the urban renewal program has been financed in this way.

State subsidies

To date, the central govemment has been responsible for paying out property subsidies. Table 3.2 gives an overview of the property subsidy programs in the state budget for 1990. The table shows that even now, payments are still being made on the basis of subsidy commitments from the sixties and seventies. This is an outgrowth of the way the subsidy programs are set up. Since the fifties, housing construction in the Netherlands has been heavily subsidized. The considerable war damage to the Dutch housing stock and the postponement of an adequate housing production for many years led to a major housing shortage. In order to compensate for this shortage as quickly as possible, incentives were necessary to promote residential construction. Financial support to build and operate housing, in combination with rent control, was considered to be imperative. The purpose of these subsidies was to cover part of the losses incurred by the owners of rental housing.

Within these three classes, we can differentiate programs th at apply to rental housing and those that apply to owner-occupied dwellings.

The table also shows that property subsidies can be classified according to purpose: 1. subsidies on construction of housing;

2. subsidies on home improvement; 3. subsidies on building sites.

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Table 3.2 Overview of property subsidies in the Netherlands in effect in 1990

Social rental Private rental Owner-occupancy

Housing constlUetion subsidies:

1. operating casts subsidies,

budget years 1968 - 1975 x x

2. operating casts subsidies

budget years 1975 - 1990 x x

3. lump-sum grants x x x

4. five-year grants x

5. ÛlcoDle-dependent

grant systeDl x

Home improvement subsidies:

6. operating casts subsidies

various systeDls x x

7. lump-sum grants x x

Location subsidies:

8. lump-sum grants x x x

1. Subsidies on construction of housing

There are two main programs for subsidies on the construction of new rental housing that were still in effect in 1990. In the period 1968 - 1975, construction of rental units was subsidized by providing an annually decreasing contribution to operating costs. This subsidy was available to owners of rental housing in both the private and social sectors. The subsidy was calculated on the basis of cost rent, which assumes that the construction is financed on an annuity loan basis. Apart from this, a contract rent was calculated by the Ministry of Housing. The renter was supposed to pay this contract rent, which is lower than the cost rent, out of his/her own pocket. The subsidy covered the difference between cost rent and contract rent. Because the contract rent was raised each year by a percentage set by the government, the subsidy gradually tapers off. In this way, the dwelling was subsidized for about 15 to 20 years, depending on the level of costs in the year of construction. Af ter the subsidy was terminated, the owner could book a profit in the long run because the contract rent would eventually rise above the level of cost rent.

In the early 1970s, this came to be seen as an inefficient way to subsidize housing. The system was replaced in 1975 bya new formula based on adynamic cost rent (DKP). The principle of long-term subsidies to defray operation losses was retained. Only the method of determining the amount of subsidy was radically changed. In the DKP program, the cost rent was calculated to cover the sum of operating costs over a period of 50 years, given the projected rent increases. This

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means that the system anticipates higher returns in the future and takes these into account. With the expected ioflation, this formula leads to a cost rent that is lower than that determined by the old formula. When the contract rent is tbe same as

in the previous program, the subsidy is much lower in the initial years of use. However, this means that government subsidies are needed for 50 years. The cost rent and the contract rent increase annually by the same rate. Conijn (1982) and Klunder (1986, 1988) give further details on this program.

The high real interest rate and the discrepancy between the actual and the projected rent increase created budgetary problems in the 1980s. Consequently, to make subsidy outlays more manageable, a new way of calculating the subsidy was sought (Ministerie van VROM, 1989, p. 135). A satisfactory altemative was found

in the replacement of the DKP formula in 1992 by a budgetary system (see below

in this section). This allows decentralization of the task of subsidy allocation to the local authorities, who

can

set criteria according to local conditions.

Subsidies on the construction of new owner-occupancy dwellings are calculated differently. Since 1975, subsidies have also been available for this type of housing. First, there is a 'Type A Owner Occupancy Grant'. The income of the buyer is a decisive factor in setting the amount of this subsidy. According to the program that was operational between 1979 and 1984, a household could receive a subsidy for several years. For the frrst year of residence, a subsidy amount was determined on the basis of the income of the buyer and the development cost of the dwelling. In subsequent years, this amount was cut back by 300 to 500 guilders per year. The subsidy continues until the annual contribution is down to nothing. In principle, the buyer

can

thus receive a subsidy for flve to 15 years, as long as his or her income does not grow beyond the maximum set for the program.

In 1984, this formula was replaced by another one. The government now prepares tables showing the total subsidy for which each income class is eligible. This amount equals the cash value of the total subsidy. By annually granting an equal sum to the owner-occupant, the term of subsidy can be calculated with the aid of a discount factor. Because the interest rate is taken as the discount factor, the term of the subsidy varies along with the interest rate. Also this program stipulates a maximum income for the buyer and a maximum development cost for the dwelling. Every flve years, the income of the subsidy recipient is tested to ascertain that it has not risen above the maximum income level permitted by the program.

Besides the 'Type A Owner Occupancy Grant', another subsidy was in operation between 1979 and 1988. This was the 'Type B Owner Occupancy Grant'. The eligibility rules for tbis program included a maximum income level, but income was not a factor in determining the amount of the grant. Between 1979 and 1984, the subsidy was set in the flrst year of occupancy and was related to the development cost of the dwelling. The amount of subsidy was on average lower than for the 'Type A Owner Occupancy Grant'. Until 1984, the annual subsidy was decreased after the flrst year of occupancy in the same manner as in the 'Type A Owner 18

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Occupancy Grant', which was in effect until 1984. In this way, households could receive grants over a period of one to six years.

After 1984, this program was also revised. Depending on the development cost, a fixed sum of 5000 guilders could be received over a period of five, four, three, or two years.

These long-term subsidy programs are intended to stimulate construction of social rental and owner-occupancy dwellings. In addition, two other programs, in existence since the mid-1980s, are meant to stimulate the construction of more expensive dwellings in both the rental and the owner-occupancy sectors. Table 3.2 shows these programs under points 3 and 4. They entail payment of subsidy as a once-only sum or spread over a very few number of years. The amount of the subsidy is small.

The long-term subsidies that owner-occupants receive through the 'Type A Owner

Occupancy Grant' are not tax-free. These subsidies are considered as periodical income and as such are taxabie. However, this does not apply to the subsidies that are paid as a once-only sum; these are tax-free.

2. Subsidies on home improvement

Subsidies are granted to improve both rental and owner-occupied hou sing. Since 1970, when this subsidy was introduced, various programs have been in effect. In the early years, major differences existed between subsidies for social rental housing, private rental units, and owner-occupied dwellings. The character of the subsidies varied: a compensation for operating losses af ter rehabilitation (particularly in the case of prewar social housing); a once-only grant (in the case of postwar social housing); or an annual subsidy tapering off over a period of 10 or 20 years (for private rental units and owner-occupied dwellings).

The program rules have been streamlined since the mid-1980s. Money to subsidize improvements on owner-occupied housing has been transferred to the local authorities through the Urban Renewal Fund. Since that time, the municipalities have been responsibie for the allocation and the calculation of these subsidies. Annual payments are still made for improvements on rental housing if the rehabilitation is very thorough. For less drastic improvements, the subsidy is a once-only payment.

3. Subsidies on residential building sites

These subsidies are intended to enhance the competitive position of residential building sites within and adjacent to the central eities as compared to locations outside metropolitan areas. The subsidies are usually granted in combination with a construction subsidy.

Table 3.3 shows the number of dwellings that have been built with the property subsidy programs described above. Property subsidies on rental housing for which

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Table 3.3 Number of building permits issued tor new subsidized dwelllngs, 1975-1989 Year 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 Annual subsidy for rental units

63,803 50,999 36,721 32,530 37,068 54,620 73,198 67,079 56,134 50,974 50,088 48,190 42,191 37,829 34,707 Source: Ministerie VROM, 1986, 1990

Annual subsidy for owner-occupied dwellings 34,487 37,661 36,003 36,172 33,731 33,058 32,095 26,994 30,095 29,952 26,000 26,000 27,274 20,308 19,999 Lump-sum grants for rental and owner-occupied dwellings 10,000 19,000 20,000 19,991 17,782 14,847

building permits were issued prior to 1976 were only granted as decreasing annualpayments. As of 1978, the subsidy on rental dwellings has been an increasing annual payment. This applies to housing that was subsidized in the DKP system. The years 1976 and 1977 form a period of transition in which building permits were issued for housing in either system. Furthermore, the table shows that the once-only subsidy is a relatively new option.

Subsidies at the level of loeal govemment

The Urban Renewal Fund is currently important in the area of housing. This Fund is fed by the Ministry of VROM, with modest contributions from the Ministry of Economic Affairs and the Ministry of Welfare, Health, and Culture. The resources of the Fund are determined annuaIly. The municipalities actuaIly grant the money. Subsidies can be aIlocated for the construction and improvement of housing, for the building site, and as an income- dependent housing allowance.

Future developments

The way construction and improvement of housing in the Netherlands is subsidized is on the brink of change. As of 1992, Ministry intends to decentralize the responsibility for subsidies. Local authorities wiIl take it over; the province wiIl take over the job for the smaIl municipalities. Local authorities will receive annual funding in amounts set according to certain standards. A municipality that manages its own subsidy budget receives the earmarked funds from state budgets. These

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contributions are earmarked as follows.

a. Budget for annual payments

The Iocal authority can aliocate the annual budget to social rental housing, social owner-occupancy housing, and major improvement of (rental) dwellings.

b. Budget for extra costs arising from local situations

c. Budget to reduce rents

The 10ca1 authority is free, within the budgetary constraints, to spend the available funds on approved projects. Funds cannot be transferred from one budget to another. The details of the method are currently under discussion. The state intends that the Iocal authorities shouid take on as much responsibility as possibie in distributing the subsidies. Of course, their decisions shouid reflect the Ministry's principies for the allocation of subsidies. These priorities are as follows: to provide dwellings for households with a relatively low income; to promote filtering; and to aUeviate the qualitative housing shortage in the current housing stock.

3.4 Financing and guarantees

Financing

There are acute differences in the financing of rental and owner- occupancy housing.

Until 1975, almost every newly built rental dwelling was financed with a repayment schedule of annuities. One exception is the construction of more expensive rental housing by institutional investors such as pension funds and insurance companies. These institutions financed investments in rental housing directly with their Own funds. The operators of social rental housing, however, had no other recourse than to finance the construction of new housing through a loan. In the 1960s and 1970s, the Ministry provided loans for this purpose on a large scale. These loans, which could finance 100% of the investment, were drawn directly from the government budget. Not all new social rental dwellings were financed in this manner. A sizable share was built with Ioans from banks, pension funds, or insurance companies. These loans were negotiated directly with institutional investors and provided 100% financing. But these Ioans were guaranteed by the Iocal authority andjor the state.

In principle, state Ioans were not subsidized. They were extended at the current market interest rate. Yet since the government was abie to borrow on the capital market at slightly lower interest than was availabie to individual housing associations, these loans were slightly Iess expensive. On average, there was a 0.5 point difference in interest rate. All the Ioans were extended for 50 years, and the interest rate was fixed for 10 years.

In the past, financing of housing rehabilitation in the rental sector has been through loans with repayment scheduies based on annuities. Until 1984, the Ministry and the Iocal authorities jointly guaranteed these Ioans. In that way, a loan

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could cover 100% of the investment. As of 1984, a private mortgage insurance institution replaced government guarantees. The Ministry still provides a back-up for this fund. On that basis, private financing institutions were still willing to finance 100% of the investments. The term of these loans is equal to the period over which the investment is depreciated, which varies according to the amount invested. Interest is fixed for 10 years on these loans too.

With the introduction of the concept of 'dynamic cost rent' in 1975, an important change took place in the way subsidized construction of rental housing was financed. Since the cost rent is initially not sufficient to pay the interest due, this system requires additional financing; the unpaid amount is added to the principal. Consequently, the debt 'balloons'. An agreement was reached with the pension funds and insurance companies to provide such ballooning loans. Initially, the government itself also extended such loans for a few years to finance a portion of the annual housing construction program. Over a period of about 25 to 30 years, annual increments are added. As soon as the annual rent increases bring the cost rent above the amount of interest due, the debt ceases to inflate and the borrower starts to pay off the loan.

As of January 1, 1988, the state no longer extends housing construction loans. The amounts still on the budget concern old obligations from lending programs for accredited institutions (Beschikking Leningen Toegelaten Instellingen). It allows expenditure under the following budget headings (Ministerie van VROM, 1989): - loan commitments made in 1987 or earlier that are still pending;

- financing of cash-flow shortages on ballooning loans that were extended in the past (and not paid off prematurely);

- other loans that were extended in the context of the Housing Act.

For the most part, the last point pertains to obligations contracted in the past, such as interest-free loans to housing corporations; financing the take-over of housing in the public domain; and additional financing required by rescheduling of commitments on 'Type A Non-profit Housing Grants', for which building permits had already been issued in 1982.

Of these three headings, the financial obligations under the latter two are the largest.

Besides the state, also local authorities can extend loans to finance the construction and improvement of dwellings. In 1989, this was done on a rather large scale. That flurry of activity reflected the prevailing mood of uncertainty about the recently introduced changes in the loan guarantee program (Arnoldussen, 1989). This new program for mortgage insurance and loan guarantees is elaborated below. The financing of home ownership is entirely different from financing in the rental sector. In principle, the purchaser of an owner-occupancy dwelling can select the type of financing that suits his or her situation and needs. In doing so, the buyer takes out a mortgage with a bank, a pension fund, or an insurance company.

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Without any kind of guarantee, a purchaser will not be able to finance more than 70% of the repossessed value. Only with a municipal mortgage insurance is it possible to obtain 100% financing. This guarantee is tied to a maximum purchase price.

It is standard practice to contract a mortgage for a term of 30 years. Current market interest rates are charged. In the Netherlands, most mortgages have renegotiable interest rates, of which the terms can vary from year to year and from one lending institution to another. At present, the standard fIXed interest periods are five to 12 years.

Up to a few years ago, the repayment schedule of annuities was the predominant type of mortgage in the Netherlands. However, since 1988, an improved version of a mortgage based on a life insurance policy has become highly successful. The 'savings mortgage' takes full advantage of tax deductions on interest paid. Over the entire term, no payments are made on the principal of this type of mortgage. In tbis way, the owner-occupant derives optimal benefit from tax deductions during the whole term of the mortgage. Mter 30 years, the mortgage is paid off with the benefits of the life insurance policy.

Mortgage insurance scheme

The mortgage insurance scheme guarantees loans taken out by the operators of social rental housing on the capital market and by owner-occupants on the mortgage market in order to acquire and/or rehabilitate a dwelling. The mortgage insurance can take one of several forms. It may be extended directly or the insurance issued by another party may be underwritten. Of course, mortgage insurance claims are only paid out when the borrower (an accredited institution or owner-occupant) is no longer able to meet his/her obligations toward the lender. Mortgage insurance provided by the state includes government guarantees on capital market loans extended to accredited institutions. It also includes a participation in the losses incurred from municipal guarantees on mortgages taken out by owner-occupants. Since 1989, the state no longer provides guarantees on new capital market loans contracted by accredited institutiOns. Instead, the state performs a back-up function, supporting a mutual fund for social housing construction (Waarborgfonds Sociale Woningbouw). This fund was set up to expand the coverage of the guarantee institution that was established in 1984 to promote housing rehabilitation. The new institution guarantees the annual payments on interest and principal in the event that the owner of social rental housing is unable to meet the obligations towards the lender. The mutual fund operates on its own capital, which consists of premiums paid into it by the operators of social housing; the premiums were related to the value of the property of the participants. In the event that the mutual fund would be overwhelmed by claims on the mortgage insurance and thus be threatened with insolvency, then the state wiIl assume the obligations, thus fulfilling its back-up function.

Local authorities also play an important roie in the provision of mortgage insurance. In many cases, they extend a first guarantee, primarily to

Housing systems in Europe. Part II: A comparative study of housing finance

HOUSING SYSTEMS IN EUROPE: PART 11

11111 11111111

HOUSING AND URBAN POLICY STUDIES

2

HOUSING SYSTEMS IN EUROPE: PART 11

n: A comparative study of housing flnance / Oscar

CONTENTS

l

I

FOREWORD

1

INTRODUCTION

'i_ft '.

_

'

2

ANALYTICAL FRAMEWORK

-

3

FINANCIAL INSTRUMENTS IN THE

NETHERLANDS

1

ij

hi

M_<.______

i

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can

can