Setting rent with reference to tenants' affordability: Public housing rent ...

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Abstract. Hong Kong is one of the housing systems in which public tenants' affordability has been incorporated in the rent-setting mechanism in which the ...
Journal of Housing and the Built Environment 17: 409–418, 2002. © 2002 Kluwer Academic Publishers. Printed in the Netherlands.

Policy and practice

Setting rent with reference to tenants’ affordability: Public housing rent policy in Hong Kong NGAI MING YIP and KWOK YU LAU Department of Public and Social Administration, City University of Hong Kong, Tat Chee Avenue, Kowloon, Hong Kong (E-mail: [email protected] and [email protected]) Received September 2001; Accepted April 2002

Abstract. Hong Kong is one of the housing systems in which public tenants’ affordability has been incorporated in the rent-setting mechanism in which the median rent-to-income measurement is employed as an explicit indicator of affordability. However, contravening policies in the public housing sector make such a simple rent-setting formula complicated. A more detailed analysis of the rent-setting mechanism also reveals that the arbitrarily picked up reference ratio is incapable of catering for the wide variety of circumstances among tenants. At the same time, there is also some inconsistency in adopting a unified affordability standard in different aspects of rent setting. Lastly, the endorsement of affordability as an overarching principle in rent setting is prone to introduce contradictions in the system. The level of rent may bear a close relation to the circumstances of the occupants but not to the conditions of the dwelling. Affordability as a market-oriented principle would also weaken the legitimacy of the public rental sector as a basically supply-side oriented regime. Key words: affordability, Hong Kong, public housing, rent setting, rent-to-income ratio

1. Introduction To provide decent housing in the public sector within the reach of people has been a policy objective of many industrial countries. Yet, internationally, the last few decades saw the curbing of public spending on housing as well as a rapid marginalisation and residualisation process in the public rental sector. This raises concern about the affordability of public tenants. In this regard, Hong Kong is a pioneer, having explicitly incorporated tenants’ affordability in its rent setting for over fifteen years. However, changes in housing policy over the last decade have shaken this simple and straightforward principle. Consequently, rent setting in Hong Kong has led to a set of complicated and in fact contradictory policies. The evolution of rent policy in the public sector in Hong Kong provides valuable insights into the contradictions and suitability of employing afford-

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ability in public housing rent policy. This paper argues that while affordability seems to be a simple and appealing principle in rent setting, implementing such a concept is far from straightforward. There are implicit limitations in the concept per se. Inevitably, it will create contradictory policies, especially for big landlords such as the Hong Kong Housing Authority (HKHA). After an overview of the rent policy of the HKHA in section two, we delineate the intervening policies leading up to the normal rent-setting policy. We then discuss the conceptual and policy ambiguity of housing affordability and argue that there are limitations to applying such a concept in policy. Finally, we examine the policy implications of the affordability principle for rent in the public housing sector. 2. Rent policy in Hong Kong: Basic principles With a stock of 666,200 rental units, which accommodate 30% of Hong Kong’s 6.7 million inhabitants (HKHA 2002), the Hong Kong Housing Authority is one of the largest public sector landlords in the world. HKHA employs a formula approach for setting the rent in new housing estates. That approach takes into account tenants’ affordability on the basis of rent-toincome ratios of tenants and space standards. The normal allocation standard is 5.5 square metres per person. Half of the tenants are expected to pay no more than 15% of their household income on rent (i.e. the median rentto-income ratio MRIR at 15%). Yet tenants can opt for a higher allocation standard of seven square metres, and the corresponding MRIR would be 18.5%. The respective MRIR will be referred to as target ratios in this paper. HKHA must ensure that these two parameters are followed when rents for new estates are set. Rent differentials between estates are adjusted by factors like location, transportation links, estate facilities and the general environment of the respective estates. The target ratios only apply to new estates. There is no policy on how subsequent rent reviews (performed every two years) should be conducted. Yet HKHA has been rather restrictive in its rent reviews. Table 1 shows that between 1986 and 2000, the rent-to-income ratios of the entire public rental stock were much lower than the target ratios prescribed in the policy. The HKHA lost part of its power to revise rents in 1998 when the last Legislative Council under colonial rule imposed statutory restrictions on the Authority’s power to vary rents. The Housing (Amendment) Ordinances 1997 and 1998 stipulate that (a) rent can only vary every three years; and (b) the median rent-to-income ratio of all public tenants is to be capped at 10% after any rent variation. Although HKHA can still retain the target ratios in setting rents for new estates, such rents have to be brought down to the statutorily

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Table 1. Median rent-to-income ratio 1st Quarter/Year

Public housing (%)

Private housing (%)

1986 1991 1996 1997 1998 1999 2000 2001

6.9 7.4 8.6 9.0 8.8 9.9 9.9 10.4

19.3 18.5 25.0 26.0 25.8 26.9 26.9 26.5

Source: HKHA (various years) Housing in Figures.

capped level of 10% in the future exercise of rent variation. At the same time HKHA is obliged to set rent on the principle of affordability. The ratio measurement of affordability is the only indicator of affordability that is used. 3. Intervening policies Hong Kong appears to be the only large-scale housing authority in the world that sets rent with explicit reference to the affordability of the tenants. This is a simple and transparent policy of rent setting, despite the administrative burden of frequent information gathering to ascertain the income of its tenants. Exactly how rent relativities are set is not stated openly. Yet empirical evidence shows that size of the rental flats is the most important determining parameter. Other factors such as location, facilities, age etc. contribute trivially (Hui, 1999). However, public housing is also an important social policy instrument. Thus, there are at least two other instances, the higher-rent policy and the rent rebate scheme, in which public housing rent has been used to accomplish other policy objectives. That role threatens the integrity of this simple and seemingly rational rent-setting principle. First, in an effort to boost home ownership, the Long Term Housing Strategy of 1987 set forth a private-sector-led housing policy in which “betteroff” public tenants are “encouraged” to leave the public sector. Higher rent is employed as a larger deterrent margin for well-off public tenants to stay. From 1998 onward, the richest tenants have to pay market rent. They can even be evicted if either their income or asset level still exceeds the prescribed level after one year (Hong Kong Housing Authority, 1986, 1992, 1996, 1999). Second, a rent rebate was introduced in 1992 to supplement the inadequate pension and social assistance system. Such a rebate is packaged as part of

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Table 2. Tenants paying different types of rents Category of tenants

Types of rent

% of tenants*

MRIR**

Normal tenants Poor tenants Better-off tenants Rich tenants “Super” rich tenants All tenants

Normal rent Half normal rent One and a half normal rent Double rent Market rent

96.41 0.44 2.51 0.61 0.03 583,139

9.3%# na 6.4% na na 10.2%##

Source: Information provided by the HKHA to the authors. Note: MRIR (Median Rent-to-income Ratio), *as of March 2001, **as of 2000 third quarter, # excludes social assistance claimants. ## includes social assistance claimants, na: Not available.

the rent policy. Although rent is reimbursed in full for public tenants who are receiving social security benefits (Comprehensive Social Security Assistance), the stigma attached to social assistance deters many poor households from claiming the benefit. It was estimated that 15.5% of households in Hong Kong were left out of the safety net in the mid-1990s (Wong and Chua, 1996). Low-income tenants with a high housing burden who are not on benefits are eligible for the rent assistance scheme. Assistance is rendered in the form of a 50% reduction in rent. Hence, contravening policies over the years have produced a variety of “rents” in the public sector. There are at least five categories of public tenants paying different types of rents. Tenants in each category have very different affordability positions (Table 2). This illustrates the consequence of policies that are based on different interpretations of affordability. The sections that follow will discuss the conceptual ambiguity of affordability and the implications of such ambiguity on rent policy.

4. Affordability ratios: Inconsistency and inadequacy Like similar affordability ratios that have been suggested elsewhere (e.g. in North American countries 20% and 25% were used before the 1980s and 30% recently), such ratios were proposed as a rule of thumb but not founded on a solid theoretical or empirical basis (Hulchanski, 1995; Fallis, 1985; Nelson, 1992). The threshold reference ratio in Hong Kong is also believed to have been adopted just for convenience. Capping the target ratio at 10% can also be perceived as the legislators’ direct response to a policy statement in the Long Term Housing Strategy Review Consultative Document (Housing Branch,

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1997, p. 32). That document proposes to increase rents for existing estates from the median rent-to-income ratio of 9% in 1997 to the target ratios (15% or 18.5% for the relevant allocation standard) over a ten-year period. Such a measure has pre-empted the possibility of a future rent increase, as the room for such an increase was much reduced. Whilst 10% can be perceived as the target median-to-rent ratio in the setting of normal rent four other reference affordability ratios have been established implicitly under different policy initiatives. First, social assistance claimants have no guarantee of their optimal rent-to-income ratio. This stood at a high median rent-to-income ratio of 17.8% in 2000.1 Second, when the 15% target ratio was still effective, the HKHA allowed the median rent-toincome ratio to fall after a period of residence (HKHA, 1990, pp. 17–18), which stayed at only about half of the target affordability ratio (Table 1). Third, Rent Assistance Scheme recipients whose initial rent-to-income ratio exceeded 25% would only have that ratio reduced to 12.5% after a 50% reduction in rent. Fourth, contrary to the effort to curb subsidies to betteroff tenants, they enjoyed a more favourable median rent-to-income ratio, at only 6.3% in 2000.2 Finally, embedded in the Waiting List Income Limit is a set of implicit affordability ratios taken as tolerable (i.e., households whose income is marginally higher than the income limit are regarded to be able to afford to rent in the private sector). Such ratios can be as high as 40%.3 The ratio measurement, particularly the use of the median value, is not an adequate indicator of housing burden. In theory, half of the tenants would have their rent-to-income ratio above the median target ratio. Thus, regardless of how low the level of target ratio is, there is no guarantee that there are no tenants with an exceedingly high housing burden. Public housing as a safety net would thus be greatly weakened. A more serious drawback to ratio measurement is its inability to determine whether the housing cost is imposing an unreasonable burden on household income. Anomalies would arise in whereby better-off tenants who choose to over-spend on housing may have a higher ratio, whereas poorer tenants who pay lower rent for a worse flat may instead have a lower ratio. Yet measuring affordability by the rent-to-income ratio may have classified the better-off tenants as being in an unaffordable position and the latter as being in an affordable one (Hancock, 1993; Fallis, 1985). An alternate measurement, the residual income measurement, was thus developed to rectify such anomalies. It defines households in unaffordable housing as those households whose income left after paying for housing does not allow them to live a decent life (Hancock et al., 1991). The Rent Assistance Scheme in Hong Kong is also designed, with the residual income approach in mind, to target poorer tenants instead of well-off tenants with a

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Table 3. Residual income of households on rent assistance scheme HK$ Waiting List Income Limit (WLIL) for a four-person household Eligible Income for Rent Assistance (50% of WLIL) Rent before rent reduction (15% of household income) Rent Paid (after rent reduction) Residual Income Average social assistance payment (net of housing) for a 4-person household Residual income as a proportion of social assistance payment

17,700 8,850 1,336 668 8,182 9,450* 87%

Note: WLIL amounts were unchanged for the period April 1998 to March 2001. *Average social security payment from Social Welfare Department (1998) notes to Annex 13 (Exchange Rate: HK$7.8 = US$1).

high rent-to-income ratio. However, the Rent Assistance Scheme still cannot offer poor tenants any assurance of adequate resources for daily necessities. Indeed, the poor tenants who are marginally eligible for the Rent Assistance Scheme would only have a residual income at a level that is 87% of a similar household who is on benefits under the comprehensive social assistance scheme (Table 3). The aforementioned discussions illustrate the difficulties in employing a simple principle of affordability in setting rent across the board. As the theoretical basis of the ratio measurement of affordability is weak, and there is no scientific way to determine the target ratio, it is not surprising to find the policy for fixing the target affordability ratio unmethodical as well as arbitrary in different policy contexts.

5. Contradictory policies and their implications Despite its rhetorical appeal as a simple principle in setting public sector rent, affordability is in fact theoretically ambiguous as well as inadequate in representing the housing burden of tenants. In addition, an affordability-based rent policy also creates a number of contradictions in rent policy. First, as rent is traditionally perceived as a proxy for a bundle of housing services the occupant can enjoy, it is still difficult for tenants to accept a level of rent which only links to the affordability (and thus income level) of the individual occupant but bears no relation to the quantity and quality of housing services that are consumed. The best the housing authority can do is to make reference to the affordability of the average tenants. It thus only addresses the issue of horizontal but not vertical equity (Whitehead,

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1991). In addition, the shift of rhetoric in public sector housing towards affordability inevitably draws the attention of the public to the vertical equity issue of “better-off” tenants in a low rent regime (Whitehead, 1991; Lau, 1997). Setting different levels of rent for tenants at different positions of the income spectrum is therefore a rational reaction to the political pressure on the vertically inequitable rent policy (see Table 2). Second, the absence of a scientifically established or socially agreed level of affordability would provide grounds for a political demand for a lower reference affordability ratio, in the name of relieving poor tenants of their high housing burden. This is particularly appealing to politicians whose electoral base is in public housing. In Hong Kong, this is exemplified by the passage of the legislative amendments of the Housing Ordinance in 1997, which is estimated to cost the HKHA a total revenue loss of HK$6.9b (US$884.6m) by 2006 because of the lowering of the target affordability ratio (Housing Bureau, 1997). Hence, the effort of providing more affordable housing to tenants has weakened the long-term financial viability of the HKHA as well as the sustainability of an affordable public housing sector. Third, whilst the perceived traditional solution in meeting housing need is the rationing of public housing in the form of a waiting list, private tenants who have to pay higher rent viz-à-viz their counterparts in the public sector are simply being asked to wait for their turn. Shifting of policy rhetoric towards affordability, which emphasises the ability of individual households to pay, indicates a shift of rhetoric away from the concern about housing need (Whitehead, 1991) and weakens the moral justifications of such an inequitable distribution of resources between public and private tenants. Private tenants would be provoked into demanding immediate financial help to relieve their affordability burden. Such a demand would be intensified if more emphasis is placed on affordability. Fourthly, as pointed out by Bramley (1994), policies that try to rectify housing affordability have to determine whether affordability is a housing problem or an income problem. The rent assistance scheme of the HKHA is in fact caught in such a dilemma. Seen as a “cheaper” solution to the housing affordability problem without the need to reduce rent across the board, rent assistance is also being perceived as a kind of income supplement which should not be borne by a housing authority. The effort to limit assistance in Hong Kong to two years may reflect such thinking. Yet it is disappointing that there seems to be no co-ordination between the social security and housing systems to bridge this gap.

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6. Conclusion Setting rent in the public sector with reference to the affordability of the tenants seems to be a perfect way to operationalise the principle of providing housing within the reach of people. Yet, as experience in the rent-setting policy in Hong Kong demonstrates such a seemingly simple principle can yield complicated and self-contradictory policies. Sixteen years ago, the HKHA started a rent policy that put the median rent-to-income ratio of prospective tenants below the 15% level. Such a simple policy cannot, on the one hand, protect poor tenants from a high housing burden whilst, on the other hand, being unable to curb the advantage that “better-off” tenants enjoyed under the low rent policy. Subsequently, five different ratios have been applied to different aspects of the rent policy as a consequence of employing rent policy in different policy context. Such complications also reveal the inconsistency of employing the affordability concept as well as the weaknesses of using affordability as a guiding principle for rent setting. Notwithstanding the popularity of affordability in housing policy discourse, the concept is not well formulated. Nor is there a consensus on what the threshold indicator of affordability (unaffordability) should be. Thus, it is not surprising – and in fact it was inevitable – that the HKHA uses different approaches and employs different threshold affordability levels for different aspects of the rent policy. It jeopardises the original intention of using a simple and well-understood principle in rent setting. It is even worse that the intervening policies create an inconsistent use of the affordability principle, an inconsistency that has never been explicitly reviewed or justified. Setting rent with reference to affordability also exposes several inevitable contradictions in rent-setting policy in the public sector. When rent in the public sector is perceived as related to the user cost of the dwellings, tenants’ affordability, which links to the circumstances of the household, is incomparable to such a notion. Setting rent with reference to affordability would likely imply an increased injection of resources into the public housing sector at a time when the public housing sector is becoming residualised and marginalised in order to make rent more affordable to poorer tenants. This runs contrary to the underlying policy thrust of a concern for efficiency that drives the adoption of affordability as the rent-setting principle. Supply-side subsidy and direct provision of housing have long been regarded as inefficient. In addition, if more emphasis is put on affordability, the more probable it is to lead to repercussions among private tenants in comparable financial situations in asking for an equitable treatment in term of subsidy on housing. This is particularly conceivable against the backdrop of an increase in the use of cash incentives to encourage home ownership in the private housing sector.

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Such contradictions in fact reflect the incompatibility of a rent policy, which is based on the principle of affordability and targeted at the need of the demand side (burden of individual tenants), with a regime which is basically supply-side driven (the direct provision of public rental housing). Such contradictions would, in the short run, provoke a rethink of the subsidy mode in public sector housing (contemplation of a cash-based housing allowance for rented housing is already underway). In the long run, the legitimacy and, subsequently, the existence of public housing would be under threat.

Acknowledgements The work described in this paper has been financially supported by the Research Grants Council of Hong Kong (CERG Project: 9040243/CityU 897/96H).

Notes 1 Information supplied by the Hong Kong Housing Authority to the authors. 2 Information supplied by the Hong Kong Housing Authority to the authors. 3 A four-person household was considered not eligible for public rental housing in April

1998 if such household earned a monthly income exceeding HK$17,700. This household was considered able to afford a small flat of 34.5 square metres (Internal Floor Area) and paid HK$7,176 rent and rate (government tax) (that was 40.5% of household’s income) per month.

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