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ii) At
It will be seen that the absence of debt repayment dramatically reduces financing costs.
Improved Affordability and Sustainability
Affordability
The problem in most urban areas is not the affordability of housing but rather the affordability of land, since construction costs are relatively uniform. In essence the issue relates to land rental values, since a land purchase price is simply the capitalized net present value of future land rentals. The issue of supply relates primarily to planning, land use and an absence of incentives to bring land into use. The use of a land rental will tend to incentivize occupiers to bring land into productive use.
The use of the EP allows land-owners to invest the value of their land and to receive an agreed share of the rental value of the developed land. Similarly, local authorities’ participation in EPs allows them to invest the value of planning consents, and to use their resulting share of the rental value of developed land to cross-subsidize affordable property rentals. If local authorities were to specify that development could only take place within an EP framework, then the result could be a major increase in development of affordable housing. This might require legislation. In fact, the structure is similar to the use of statutory Development Corporations in the UK, except that land-value capture is addressed consensually within the EP framework, rather than adversarially within a statutory framework.
In the UK, the statutory “right to buy” in the public sector has seen a transfer of housing from the public to the private sector. The EP gives occupiers both an indefinite “right to rent” and a “right to invest” in the co-owned property in which they live.
They may not only buy equity shares conventionally, but also acquire them as “sweat equity” through:
• self-build or partial self-build;
• carrying out maintenance to agreed standards, to be monitored by the EP operator member.
As occupiers acquire equity, then their net capital rental obligation gradually falls so when their investment reaches a level at which the notional capital rental income equals their capital rental obligation they are, in economic terms, the owner, although the land remains in custody. Moreover an investor/occupier may flexibly release equity at any time simply by selling equity shares.
Governments that give rental subsidies, grants or subsidized loans for property merely increase rents or the price of land. The EP model takes landownership out of the equation by putting the land into the ownership of a custodian, and the land price therefore cannot become inflated because it is never sold again.
Where landowners are reluctant to give up ownership, it is possible for them to retain ownership as the custodian member. In that case, the EP agreement essentially operates as an evergreen lease of indefinite duration — that is, the occupier is entitled to use of the land for as long as he pays the rental. The measure of control, such as restrictions on use, retained by the owner would affect the amount and nature of the return they could expect through the EP, in their other stakeholder role as an investor of the value of the land.
An EP improves affordability by drastically cutting long-term financing costs because:
• there is no return of capital, as there would be with debt, since the capital value is unitized into tradable equity shares in the EP, just like the units in a unit trust;
• the return on capital bears no relationship to interest rates. It gives an index-linked return reflecting the risk of property-based investment.
Stakeholders’ participation means that the need for development finance is minimized. For example, the land is not bought with loan finance but invested in return for equity shares.
Sustainability
In the EP model the developer/operator is a service provider, rather than an intermediary, and need neither risk equity capital nor put his business at risk by obtaining secured loan finance. His interests lie in minimizing the total cost of occupation over time, because this will maximize the rental revenues and therefore the value of the units that he gets in return for his services, expertise and time committed.
Similarly, any contractors responsible for design and construction can be given the option of being paid in equity shares instead of money. Even if they chose money, they would be expected to take their profit in units so that their stake in the outcome was aligned with the interests of the other stakeholders. As a result, it is in the interests of all stakeholders that the buildings are constructed to high standards of quality and energy efficiency, since to do so minimizes the total cost of ownership over time. The result is a genuinely sustainable development.
Implementation
There are three key areas to which attention must be given in order to set up an equity partnership: the availability of the necessary legal form; the taxation regime; and the regulatory regime.
The Legal Form
The enabling legislation is the recognition of an “open corporate” enterprise. This is a new type of legal entity, which is a corporate body with no stipulations about what its governing agreement should be, and only simple default provisions based upon partnership principles about its governance. In the UK this was achieved in two pages of legislation and one page of default provisions. The other (relatively few) provisions in the UK legislation dealt with technical matters relating to taxation and limitation of liability. Anyone wishing to set up an EP in the Republic of Ireland could do so in Northern Ireland under the British legislation until equivalent legislation is passed by the Dail.
If open corporates are permitted, then limitation of liability could be available subject to payment of a bond (as in Jersey); an insurance premium; or a provision into a default fund. However, since an EP is a framework agreement linking all stakeholders and the EP doesn’t actually do anything, there is no need for limitation of liability because no one outside the EP can be adversely affected by it.
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