Understanding the funding gap for social housing and different ways to fund it

What is a funding gap and what are the ways to fund it?

Last updated 19 Feb 2019

Providing social housing to households in need requires government to fill the ‘funding gap’—but what is a funding gap and what are the ways to fund it?

What is the funding gap?

AHURI research consistently shows that regardless of which funding or financing model is used to provide social housing, its supply is dependent on some form of government subsidy. This subsidy is required to cover the difference (i.e. the funding gap) between what it costs to supply, build, maintain and manage social housing and the amount low income tenants can afford to pay (including using any Commonwealth Rent Assistance (CRA) or other government entitlements).

Across Australia on average each social housing dwelling needs around $13,000 each year as a government subsidy to address this funding gap.

Historically in Australia, government built, owned and managed public housing, which was seen as the way to increase affordable housing supply (with some properties being sold to lower income tenants over time). However this view is changing, with many governments seeing their role less as an active manager of tenants or properties, but rather as a regulator of housing supply and management, and is a source of subsidy to cover the funding gap. Instead not-for-profit community housing providers (CHPs) are increasingly being engaged to manage and grow the supply of affordable rental housing.

What are some different ways to fund the required subsidy?

Different financial models of supply and subsidy require different levels of government involvement in ownership and management of social housing. Finding the most effective way to deliver social housing means taking into account ‘the cost of capital, the cost to tenants, related subsidies required and assistance to households, the impact on taxation revenue due to displaced and additional investment, and broader economic impacts (ABS multipliers to production, consumption and employment), as well as the number of households assisted in new and improved housing situations.

AHURI research modelled five options whereby government pays the funding gap for new social housing supplied by CHPs. These options included:

  • private debt finance: CHPs borrowed the entire amount to build housing from the private finance market and relied on government to pay the difference between tenants’ rents and ongoing debt repayment and management costs.
  • up-front capital grant: where government gives money to CHPs to buy capital assets, in this case land and/or housing. A government grant is for a sharply defined activity and usually is not expected to be repaid (as would be the case for a low- or no- interest loan). By paying for capital assets up front, rather than through providing a loan, government reduces the ongoing financing costs (i.e. interest payments, capital repayments and any future refinancing costs) that CHPs need to cover into the future as they supply the housing to low income households
  • up-front capital grant combined with private capital raised through the National Housing Finance and Investment Corporation (NHFIC) bond aggregator, and both with and without ongoing funding using CRA.

Table 1: Investment scenarios modelled by AHURI research

1. Operating subsidy Base case, funding gap is supported by an annual operational subsidy payment that supports paying for finance (where all the required debt is taken out by the provider in the expectation of future subsidy support).
2. Operating subsidy + National Housing Finance Investment Corporation (NHFIC) bond aggregator Builds on Scenario 1 but applies an interest rate deduction on private finance of 1.5% which is consistent with estimated impacts of a bond aggregator on the cost of private finance
3. Up-front capital grant A capital fund invests in developments which reduces the level of required subsidy because it eliminates financing costs
4. Up-front capital grant + NHFIC bond aggregator Introduces an interest rate deduction on the capital grant model similar to that of Scenario 2. This reduces the interest rate of finance from assumed market rate of 5% p.a. to 3.5% p.a.
5. Up-front capital grant + NHFIC bond aggregator, but with NO CRA Models the impact of excluding CRA payments from a capital grant model.

Source: Lawson, J., Pawson, H., Troy, L., van den Nouwelant, R. and Hamilton, C. (2018) Social housing as infrastructure: an investment pathway, AHURI Final Report No. 306

AHURI research found that over a twenty year period a funding model where government provides most of the capital to build/acquire social housing and doesn’t pay CRA to tenants, while the CHPs only have to borrow a very small amount of capital at lower interest rates (using the NHFIC bond aggregator) has the lowest overall costs to government. As government pays a greater capital subsidy when the dwelling is acquired/built it doesn’t need to pay CRA over the long term, thereby reducing the overall costs to government.

This model equates to an annual government subsidy of $9 billion (to build, maintain and manage 727,300 additional social dwellings over 20 years), while a model relying on CHPs raising debt from the market (Scenario 1) would cost government $11.8 billion in annual subsidies.