Summary

Background

We believe that one of the root causes for the departure of this, the child bearing demographic group, is the lack of affordable housing. We believe that while OPAL is doing an excellent job in attending to those with very low incomes, at the same time the regulations and restrictions associated with their funding sources do not allow for participation in these developments by middle-income families. Specifically, those that provide critical services to our community are normally priced out of OPAL programs. Examples include schoolteachers, who are paid in the $27,500 to $54,000 range: professional EMT, police and firefighters, in the $33,000 to $57,000 range, and County and OPALCO service employees. Since housing for residents in this income group precludes the use of public funds, this project seeks to determine if it can be financed with private investment.

In a normal mainland society with a broad housing stock, these salary levels would be sufficient to allow for affordable housing. On Orcas Island, however, the median price a single family detached house is now $355,000. To afford a house at this price, a family would have to possess a minimum of 10% cash equity of $35,500 for down payment. A standard 6% mortgage would then require monthly cash payments of $2,020. Adding insurance at $76 per month, taxes at $195 and mortgage insurance at $81, the total monthly outlay is $2372. Lenders use a yardstick of 45% as an absolute maximum percentage of income that can be allowed for housing cost, assuming no other debt. Using this yardstick, which is completely indebting a family, their combined income would have to be $5271 monthly, or $63,253 to barely afford a median priced house on Orcas Island.

The ORG Initiative

In addition, we established the criteria that these houses must be compatible in appearance and value to similar housing on the mainland. Throughout the evaluation, we questioned ourselves as to whether the housing being developed would be sufficiently attractive to induce a school teacher in Spokane, Washington to accept a position on Orcas Island if the Superintendent of Schools was recruiting them. This meant single family detached residential, in a neighborhood conducive to raising small children, and with a minimum housing size of 1,000 square feet that would include three bedrooms. After reviewing various construction types, we assumed modular housing with a full build out cost of $100 per square foot.

We envisioned a public-private partnership to fund and manage the development. This would consist of OPAL, or OPAL trained employees acting as the General Manager. It would require the ORG to put together an investment package which would allow private investors on the island to receive a yield slightly better than market return for capital in the seven figure investments over a two to three year period for raw land improvements and construction funding. It would allow OPAL to purchase some of the sites for their scattered site program.

Preliminary analysis indicated that it might be possible to use private investment to finance houses meeting these criteria, and we were encouraged to proceed with a specific project to prove feasibility. In looking for candidate property on Orcas Island, we encountered several roadblocks.

1. Most severe, the availability of water is critical to finding a suitable property. Generally, memberships in municipal water companies are either not available in the foreseeable future or are too expensive. Likewise sources of water such as wells, catchment systems, or other alternatives are either high risk or too expensive.
2. The cost of land is a second major problem. Increased density can be utilized to reduce the cost per dwelling, but this is often not possible due to unfavorable zoning.
3. Permitting, especially considering the nature of the project, introduces a major delay with corresponding costs of financing during the early phases of the project.

The Pilot Project

Results of the Task Force Study

Cost issues unique to each house.

The costs specific to each house reflect primarily the size of the house, the cost per square foot of construction, the sales commissions and taxes on each. The project anticipated two to three bedroom homes, fixed in range of 1000 to 1300 square feet, which the Project considered to about the minimum size for the typical target families.

The cost per square foot depends upon the technology and the features and appointments to be included. While many custom single family homes on Orcas reflect costs well in excess of $150 per square feet, the Project determined that the use of quality modular housing could be built near a value of $100 per square foot target with appropriate quality and appointments, but assuming strict cost control by a builder experienced with the this type of construction, our target market, and local conditions. Sales commissions and taxes represent a smaller portion of the house-specific costs, and a relatively invariant percentage of the selling price.

The target selling price for each unit was also relatively fixed by the family income and borrowing limits discussed earlier. By subtracting the house-specific costs from the target-selling price, we were able to determine the value that each unit sold could contribute to covering the common costs of the project. The cumulative value of such contributions determined the total value of all such costs that could be allowed.

Our project assumed that about 30% of the units would be low-income units appropriate to OPAL involvement in the project. OPAL has built quality homes for low income residents that are smaller on average that we assumed and have had build costs per square foot about 10% smaller than our projections, but which do convey the land on which the house is built. The selling prices for such houses is disproportionately lower than the costs for constructing them, so the value of their contributions to covering common costs is also disproportionately less.

The Project investigated a variety in the mix and type of units that might be built on the property, including various proportions of both upper middle income and low-income OPAL units. A simple example of building units with just one size, type, and price is illustrated in the following example.

• Sales price $200,000
• Size 1,250 square feet
• Build cost per square foot $100
• Build cost $125,000
• Sales cost and taxes $25,000
• Total unit specific costs $150,000
• Contribution of each unit
  (to cover project common costs) $50,000
• Number of units built 17
• Total contribution by all units $850,000

Cost issues with common costs

The land improvement costs include such basic features as clearing, roads, water, septic, power, engineering, and excavation. These costs depend upon the location, the size of the project, the topography, permit and land use restrictions, and impacts on the community and nearby properties. Land improvement costs are major, but also uncertain, as the extent of what must be done may not be determined without significant up-front investment. For example, water and sewer arrangements are subject to detailed exploratory work, and the overall site plan, including the permissible number of housing units, depends significantly on issues that may arise in county review before permit approval.

Financing costs reflect the amount financed, the loan rate, and the number of months that it takes to complete the project. If money is borrowed to buy the land, significant costs accrue from almost the beginning of the project. We found that this project could incur several hundred thousand dollars of interest expense if it was not possible to quickly verify the costs of installing the utilities, satisfy all regulatory requirements, and complete all land improvements.

The cost of land is a difficult issue to deal with. There are few tracts on Orcas with both appropriate zoning and an appropriate combination of water, sewer, and all other features required to make it worthy of even exploratory consideration of a multi-unit project. When such parcels do become available, the asking price understandably reflects this scarcity. Yet, the Project found that even a very efficient project may not be viable at either the asking price or a price that is discounted significantly. The Project investigated the possibility of owner financing of the land such that no payment would be required until first sales. This helps to defray the financing costs and to reduce the amount of equity needed for the project, but does not address the major financing burden of the construction loans.

The participation of OPAL also assists in the financing of the projects, as OPAL buys the land for the units to be sold to its clients, offsetting a portion of the capital cost of the land. OPAL participation is also helpful in addressing regulatory and planning issues, due both to its leadership and expertise in this arena. This participation must be weighed against the lower contribution of OPAL units to the common costs of the project.

Conclusions

1. No scenario was found that would likely create the desired supply of affordable and attractive middle class homes without incurring a substantial financial loss to the Project.
2. Success is not likely to be found in any similar project by focusing on any one area of significant cost. Rather, success will require the ability to address ALL costs in an exceptional manner without compromising the attractiveness and competitiveness of the end product among the target buyers.
3. Rather, creation of affordable and attractive middle income housing will require, at a minimum, ALL of the following:
   • Availably of land that is suitable in every respect for the intended use:
     • Is available at a price and terms that is exceptionally competitive
     • Is readily approvable by the county
     • Can be readily surveyed and improved to generate all required utilities
     • Does not raise objections by the neighboring community that cannot be readily resolved
   • The ability to complete the project expediously from start to completion, including surveys and all governmental approvals, especially if the Project depends on borrowed funds to finance the purchase of land and construction.
   • The ability to generate all needed land improvements quickly at exceptionally competitive costs.
   • The use of the lowest cost house-building technology consistent with the demands and expectations of the target market.
4. However, interviews with experienced parties in the local real estate industry suggests that it is possible that an experienced developer specializing in this market segment could achieve the result sought by this Project if:
   • It already owned one or more suitable parcels of land,
   • It had sufficient capital as to not require major bank borrowings for the project,
   • It was able to perform many of the land improvement and build tasks with its own equipment and employees, without the need for contracting with numerous outside parties at their normal terms and rates.
   • It uses one of the newest modular housing methods which would enable build costs less that $100 per square foot.

Recommendations

1. That further projects of this nature consider mixed-use developments if some of the land can be zoned light commercial in order to accomplish a second goal of the Orcas Research Group even though it currently represents a very small market. From various discussions with entrepreneurs on the island, the cottage industry zoning variances are not providing the desired opportunities for small businesses because of a combination of legal threats from neighbors and covenant restrictions.
2. That the ORG work with the county to seek a means to streamline the permitting process and reduce the time from inception to completion by at least 50%. A significant amount of the imbedded cost was the carrying cost of invested money while going through a process that was estimated at a minimum of one year and potentially as much as two years before ground breaking.
3. That the ORG consider publishing a guidebook that would list the various assistance programs, financial packages, rules and regulations impacting the following:
   • Procedures, personnel to contact and other useful information relating to residential development
   • Development of a residential business
   • Construction of low impact commercial establishments in residential neighborhoods
   • Opportunities for setting up small non-residence businesses on the island
4. That the ORG consider building some financial assistance programs, such as lower cost second mortgages, that might be funded through private on-island investors. This is the most important short term action that the ORG should consider.