Candice Horbacz
The escalating cost of housing stands as a formidable and increasingly significant contributor to the high cost of living across the United States, placing immense financial strain on households nationwide. Addressing this pervasive challenge fundamentally requires a substantial increase in housing supply. In this context, federal policymakers are exploring a range of legislative and tax-oriented solutions, with a notable focus on reforming the tax treatment of residential structures to stimulate new construction. While recent legislative efforts, such as the Senate’s passage of the ROAD to Housing Act, signal an intent to tackle supply issues, some provisions within it have raised questions regarding its ultimate efficacy in genuinely incentivizing investment in rental housing.
The Genesis of the Housing Affordability Crisis
The current housing affordability crisis is multifaceted, stemming from decades of underbuilding, restrictive zoning laws, escalating material and labor costs, and a complex interplay of economic factors. Data from the National Association of Realtors consistently shows median home prices reaching unprecedented highs, with the average national rent also climbing steadily year-over-year. According to a 2021 analysis by Up for Growth, the U.S. had a housing deficit of 3.8 million homes, a figure that continues to grow, exacerbating competition for existing units and driving up costs. This scarcity impacts not only prospective homeowners but also renters, who often face stagnant wages against rapidly rising rental rates. For many, the dream of homeownership has become increasingly unattainable, and even securing stable rental housing presents a formidable financial hurdle.
In response, federal lawmakers have engaged in a vigorous debate over potential solutions. However, many proposed tax policies targeting housing affordability have unfortunately missed the mark. Initiatives like federal tax credits for first-time homebuyers, the creation of new tax-advantaged savings accounts for housing, or capital gains tax exemptions for home sales specifically to first-time homebuyers, while seemingly well-intentioned, primarily serve to inflate demand. By increasing the purchasing power of a segment of buyers without simultaneously expanding the available stock, these policies tend to drive up prices, ultimately benefiting current homeowners through windfall gains rather than resolving the underlying supply shortage.
Expensing for Residential Structures: A Targeted Supply-Side Intervention
Amidst this landscape of largely ineffective demand-side interventions, one particular federal tax policy stands out as a powerful and direct mechanism to vigorously address the housing supply shortage: full expensing for residential structures. This policy would allow developers to immediately deduct the entire cost of building new housing, fundamentally altering the economics of construction and investment.
Understanding the Policy Levers for Housing Supply
Lawmakers possess two primary policy levers to influence and expand housing supply: regulatory reform and financial incentives. In numerous urban and suburban areas across the United States, the dominant constraint on housing development often lies in restrictive zoning ordinances, complex permitting processes, and various land use regulations. These local barriers can significantly increase the time and cost associated with new projects, effectively stifling construction.
However, in many other regions, or as a complementary factor to regulatory burdens, the primary constraint on housing supply is the expected rate of return on new housing construction. This return is dictated by fundamental economic factors, including the fluctuating cost of building materials, the availability and cost of skilled labor, prevailing interest rates for construction loans, and, crucially, the tax treatment of real estate investments. In these areas, federal tax policy can play an indispensable role in making new housing projects more financially viable, thereby stimulating the expansion of the housing stock, which in turn can drive down both rental costs and the overall cost of homeownership.
Under current federal tax law, investments in rental residential housing are not immediately deductible. Instead, deductions for the cost of these investments must be spread out over an extended period of 27.5 years. This protracted depreciation schedule effectively creates a substantial tax penalty on residential investment. By delaying the recovery of capital costs, businesses face a higher effective tax burden, reducing the attractiveness and profitability of new housing developments. To eliminate this disincentive and level the playing field, policymakers could introduce full expensing for residential structures, allowing developers to deduct the full cost of building new housing immediately in the year the asset is placed in service. This immediate deduction would significantly reduce the tax burden on new construction, enhancing cash flow and improving the internal rate of return for projects.
Historical Precedent: The Impact of Past Tax Reforms on Housing
The efficacy of expensing and other improvements to cost recovery rules in stimulating investment is a well-documented economic phenomenon. Empirical evidence from various industries consistently demonstrates that more generous cost recovery provisions lead to increased capital investment. However, the housing sector provides its own specific and compelling historical evidence regarding the direct impact of improved cost recovery for residential structures.
A pivotal moment occurred in 1981 with the enactment of the Economic Recovery Tax Act (ERTA). This landmark legislation dramatically shortened the recovery period for residential structures from an average of 31 years to a mere 15 years. This was a substantial improvement, even after subsequent adjustments in 1982 and 1983 incrementally raised the asset life to 18 and 19 years, respectively. The immediate and measurable effect was a boom in housing construction, particularly evident in the multifamily sector. Developers, faced with a more favorable tax environment that allowed them to recover their capital investments much more quickly, were incentivized to undertake new projects, leading to a significant expansion of the housing stock.
This positive trajectory, however, was abruptly reversed by the Tax Reform Act of 1986 (TRA ’86). Driven by a broader agenda of tax simplification and base broadening, TRA ’86 pulled back many of the improvements previously granted to rental housing. The law raised the asset life for residential structures back to 27.5 years and, critically, mandated straight-line depreciation. This meant that deductions had to be taken in equal installments over the asset’s useful life, eliminating more accelerated options like declining balance or sum-of-years-digits depreciation, which allow for larger deductions in the earlier years of an asset’s life.
The consequences for the housing market were swift and severe. Housing construction, particularly in the multifamily segment, collapsed. Historical data reveals a dramatic decline in housing starts following TRA ’86, a downturn from which the multifamily sector, remarkably, has still not fully recovered. No single year since 1986 has witnessed as many multifamily housing starts as the peak years preceding the reform. The long-run implication of this sustained decline in housing supply has been demonstrably higher rents across the nation, as the market struggles to accommodate growing demand with an insufficient number of new units. This historical episode serves as a powerful cautionary tale and a clear testament to the profound influence of federal tax policy on housing supply and affordability.
Forward-Looking Perspectives: Estimates and Policy Options
Recognizing the critical role of cost recovery, organizations like the Tax Foundation have extensively analyzed the potential impact of various reforms. In 2020, the Tax Foundation estimated that introducing neutral cost recovery for residential structures could lead to the creation of an impressive 2.33 million new housing units in the long run. Neutral cost recovery, while still spreading deductions over time, would adjust them for inflation and the time value of money, making it economically equivalent to full expensing by ensuring that the present value of deductions equals the present value of the investment.
More recently, a report from the Center for American Progress (CAP) delved deeper into a mix of options for improving cost recovery. CAP’s analysis estimated that a policy offering developers a choice between full expensing and a 10 percent investment tax credit could spur the construction of nearly 1 million new housing units within the next decade. While CAP’s 10-year timeline is not strictly comparable to the Tax Foundation’s long-run estimates, both studies underscore the significant potential for supply expansion through these tax reforms.
A compelling aspect of these proposed reforms is their cost-effectiveness. CAP estimates the cost per additional unit of housing stock under these various reform options to be between $200,000 and $250,000. This figure stands in stark contrast to the cost per unit produced by existing programs like the Low-Income Housing Tax Credit (LIHTC), which, while vital for affordable housing, often hovers around $1 million per unit due to its complex financing structures and targeting of extremely low-income populations. This disparity highlights the potential for expensing to generate a much larger volume of market-rate and entry-level housing more efficiently.
Mitigating Implementation Challenges: The "Loss Position" Dilemma
One of the practical challenges associated with implementing full expensing for residential structures is the possibility that allowing immediate, substantial deductions could push some companies, particularly those undertaking large-scale developments, into a loss position for tax purposes. If a company does not have sufficient taxable income to offset the large immediate deduction, it may not be able to fully benefit from the policy, thereby diminishing its incentive effect.
However, several innovative solutions exist to mitigate this "loss position" problem, ensuring that the benefits of improved cost recovery are widely accessible to developers:
- Neutral Cost Recovery: As mentioned, this option keeps deductions spread over 27.5 years but adjusts them for inflation and the time value of money. This approach ensures the economic equivalence of expensing while spreading out the deductions over a longer period, making it less likely for a company to enter a loss position in any single year.
- Investment Tax Credit (ITC): An ITC, either as an optional alternative to expensing or a standalone policy, provides a direct credit against tax liability for a percentage of the investment. For instance, a 10 percent ITC, given the estimated 11 percent tax penalty associated with current depreciation rules for residential structures, could bring investment close to parity with expensing. Credits are generally more valuable to companies in loss positions than deductions, as they directly reduce tax owed.
- Transferability: Drawing inspiration from recent provisions in the Inflation Reduction Act for green energy credits, policymakers could allow entities in a loss position to transfer or sell their expensing deductions to other entities with taxable income. This mechanism effectively allows developers to monetize the tax benefit even if they can’t directly utilize it, thereby preserving the incentive.
- Shorter Asset Lives: A simpler incremental improvement would be to retain straight-line depreciation but significantly shorten the residential structures’ asset life, perhaps to 15 or 20 years. While not full expensing, this would still accelerate deductions and improve cash flow for developers.
- Accelerated Depreciation: Moving away from straight-line depreciation to methods that bring more deductions forward, such as double-declining balance depreciation, would also provide a substantial improvement over current law by allowing developers to recover a larger portion of their investment earlier.
- Partial Expensing (Percentage Cap): This option would allow a certain percentage (e.g., 50 percent) of the investment to be deducted immediately, with the remainder spread out over 27.5 years. It offers a balance between immediate incentive and revenue impact.
- Partial Expensing (Per-Unit Cap): This approach would allow full expensing up to a certain dollar amount per unit (e.g., $150,000), with any remaining cost per unit depreciated over 27.5 years. This strategy efficiently targets entry-level, market-rate apartment buildings, providing significant benefits where new housing is most needed, while offering more limited benefits to luxury developments, thereby optimizing the policy’s cost-efficiency.
These options are not mutually exclusive; some could be deployed in combination, such as expensing with a per-unit cap and transferability, to maximize impact while addressing potential revenue concerns and implementation hurdles.
Legislative Momentum and Bipartisan Consensus
The concept of improving the tax treatment of residential structures is not a novel one, and it has garnered attention across the political spectrum, indicating a growing bipartisan recognition of its potential. Senator Lisa Blunt Rochester (D-DE) recently introduced the Rental Housing Investment Act, a notable piece of legislation that proposes allowing expensing up to $150,000 per unit for all new rental units. Crucially, the bill also includes provisions for higher deductions for projects that meet specific affordability requirements, demonstrating a commitment to not only increasing supply but also ensuring access to affordable options.
Beyond Senator Rochester’s bill, which specifically targets residential housing, broader proposals for improved cost recovery have been put forth. In 2025, Senator Ted Cruz (R-TX) and Representative Glenn Grothman (R-WI) introduced the CREATE JOBS Act, which included provisions for neutral cost recovery for both residential and nonresidential structures. Similarly, in 2024, Representative Kevin Hern (R-OK) and former Senator Mike Braun (R-IN) championed the Renewing Investment in American Workers and Supply Chains Act, which sought to reduce the asset lives of residential and nonresidential structures to 20 years and introduce neutral cost recovery. Going back even further to 2016, the House GOP tax reform framework included an ambitious proposal for full expensing for all capital investment, encompassing residential structures. This consistent thread of legislative interest underscores the powerful potential seen in these tax reforms.
Broader Impact and Implications
Implementing some form of improved cost recovery for structures—whether through full expensing, expensing with a per-unit cap, neutral cost recovery, or simply shortening the asset life of residential structures—represents one of the most powerful and direct pro-housing supply options available to federal policymakers. The implications extend far beyond simply increasing the number of units.
Economically, a surge in housing construction would generate substantial job growth in the construction sector and related industries, boosting local economies and increasing tax bases. By alleviating supply constraints, these policies could lead to more stable and potentially lower rents and home prices over time, improving the financial health of millions of American households. Increased affordability could reduce housing instability, decrease homelessness, and foster greater economic mobility by freeing up household income for other essential needs or investments.
However, careful consideration must be given to the design and implementation of such policies. While the revenue cost of full expensing could be significant in the short term, proponents argue that the long-term economic benefits—from increased productivity, job creation, and a more stable housing market—would outweigh these initial costs. Furthermore, the interplay between federal tax incentives and local regulatory reforms is crucial. Federal tax policy can provide the financial impetus, but local governments must also address zoning restrictions and streamline permitting processes to ensure that new construction can actually materialize.
In conclusion, as the nation grapples with an intractable housing affordability crisis, the conversation is shifting from demand-side fixes to fundamental supply-side solutions. Federal tax policy, particularly through the mechanism of improved cost recovery for residential structures, offers a potent, historically proven, and economically efficient tool to unlock the necessary investment in new housing. By learning from past successes and failures, and by thoughtfully designing reforms that address potential challenges, policymakers have a unique opportunity to lay the groundwork for a future where safe, stable, and affordable housing is within reach for more Americans.
