By 2025, States Allow More Housing—but Sticky Tax Policies Still Hurt Builders and Consumers.

Since the outbreak of the COVID-19 pandemic, the housing reform conversation has been dominated by one big idea: legalizing homes.

In response, cities and states have passed about 225 housing bills through 2023, according to a Mercatus Center study, rewriting zoning maps, loosening density regulations, and trying to clear legal brush that slows construction.

The idea was simple: If you allow more housing, supply will follow.

But that promise hit a wall. New construction reached its slowest pace since 2020 in October, underscoring the fact that while legality may have been the first hurdle to building new homes, it was far from the last. What remains is a difficult calculation to determine which projects are financially viable.

That’s the missing link in today’s pro-housing playbook. Zoning can open the door, but tax policy determines whether anyone enters it. And until tax systems stop penalizing housing production, many of the country’s largest land uses risk winning on paper.

How tax policy shapes the construct: ‘Legal’ is not the same as ‘possible’

While cities and counties are taking a hard look at their zoning laws, few have examined whether their tax systems support or discourage new housing construction.

That disconnect looks like the future of sustainable housing is starting.

“I tend to think of land use as saying what is legal, then tax policy determines what is possible,” he explained. Solomon Greenesenior director of land and communities at the Lincoln Institute of Land Policy.

“Tax policy is always in line with zoning and land use in terms of housing,” explained Greene. “How much tax is collected and when it is collected on the land and its development really determines what gets built and whether deals can come out.”

That number affects all stages of development. If taxes are paid in advance before construction begins—it ties up more money for a longer period of time, increasing risk. That risk is shared equally. Some tax structures transfer much of the uncertainty to the developer; others make long-term projects work better. Ultimately, the system affects which projects move forward, which types of housing are built, and who is willing to finance them.

Greene puts it plainly: “I would argue that while we’ve seen a lot of momentum in loosening land use laws, fixing the processes that allow more housing to be built, we’ve seen little attention to meaningful tax policy reform and evidence-based tax policy reform that will make those deals come out.”

These forces not only shape the decisions made by senior engineers; they come from small landlords and landlords, too. Whether you’re trying to build, remodel, or just live in your home, the rules of what is taxable and when can make a difference.

Tax policies that create more housing

To understand those ripple effects, it’s helpful to first understand the major tax incentives that local, state, and local governments can draw on to help make the math more forgiving in construction.

At the federal level, Greene points to the Low Income Housing Tax Credit (LIHTC) as the most effective tool for generating new affordable housing. The program allocates approximately $10.5 billion in annual tax credits to support the acquisition, renovation, or construction of rental housing for low-income households.

It is a clear example of how tax policy can make real estate work by reducing long-term tax liability and improving the return profile for investors. Today, LIHTC finances nearly 90 percent of all income-restricted rental housing built in the United States.

But some government incentives are less targeted.

The mortgage interest deduction—which allows mortgage holders to deduct the interest from their taxable income—is the single largest real estate tax benefit, but it doesn’t help low-income households or renters. And while it reduces the cost of home ownership for those who qualify, it does little to increase housing supply.

At the federal level, many contribute to their LIHTC programs or support affordable housing through trust funds. But the real power lies in how they control local governments, especially with regard to property taxes.

High property taxes present a number of problems in the housing market. In fact, sudden increases in assessed value can make home ownership unaffordable, especially for those on fixed incomes. They may also discourage homeowners from upgrading, as upgrades often result in higher reassessments.

And while changes at the state level such as assessment rates or limits on annual tax increases are intended to help residents stay afloat, they can inadvertently distort the broader tax base—undermining both fairness and local revenue in the long run.

When help hurts the supply

To understand how these good intentions can go awry, look no further than two states that tried to protect homeowners by capping low property taxes—to prevent better land use.

California’s Proposition 13 is a very clear case. Passed in 1978, it included property tax assessments and set limits on how much they could increase each year. While it succeeded in stabilizing the tax liabilities of long-time owners, it also discouraged them from selling.

Over time, that stopped the supply.

“Prop 13 really shows what happens when land is not taxed,” Greene explained. “Housing supply is tightening, as demand is exploding.”

And today, California is paying the price: The state received an F on its affordability report card from Realtor.com®, both for its high housing prices and lack of new construction.

Florida’s “Save Our Homes” law follows a similar concept, including increased annual inspections to protect long-term homeowners. But it contains a big catch: A major renovation (what housing advocates often view as a win) may trigger a full home appraisal at current market value, just like brand new construction.

That’s what happened to a Florida couple whose property tax bill jumped from $15,000 to more than $91,000 after they renovated their home. In effect, they are penalized to improve their land use.

However, there is another way. Some cities have tried to change the equation—focusing the tax burden on the land itself, not the homes built on it.

Pittsburgh is a shining example. From 1913 to 2001, the city instituted a zoning system, taxing land at a higher rate than development. It encouraged landowners to develop land rather than speculating on it, resulting in fewer vacant lots and more infill development.

And today, the Steel City ranks as the most affordable city in America—a sign that, if thoughtfully designed, tax policy at the local level can support housing growth rather than crowding it out.

A new way forward: Tax reforms that stop penalizing productivity

If cities and counties want to turn pro-housing rhetoric into real results, they can’t stop at zoning. They also need to fix tax systems that quietly prevent new construction.

But instead of putting incentives into an already broken system, fixing it might be as simple as removing the barriers that already exist.

“There’s no tax benefit that’s going to overcome things like zoning or partial approval,” Greene explained. That’s why he and other real estate experts emphasize the need to coordinate tax policy and permits and land use reform.

Too often, cities say they support new housing while taxing it as a problem. From front-loading infrastructure costs to the misuse of waste, local policies often penalize the very thing they are trying to promote. But instead of adding carrots, just remove the stick.

“I don’t think they need more incentives,” Greene said. “They need tax plans that stop penalizing housing.”