Week in Review

The reasons why new houses cost so much

Inflated land prices and high council infrastructure levies are the real reason new houses cost so much in New Zealand - not building materials and labour costs. Bernard Hickey analyses a new report.

It's the dirty little secret of the debate over new house building costs that few in the real estate and construction industries want to talk about publicly.

That's because fixing the real problem would force a fundamental reset lower of household and small business wealth and force either council rates or Government debt much, much higher.

Now a detailed new report from Deloitte Access Economics has busted the myths that building materials costs are much higher in New Zealand than Australia, and that higher construction wage rates are to blame for expensive new houses.

Instead, it found land prices are insanely high in most of New Zealand's big cities and are the real reason why new houses cost so much to build. Council infrastructure levies for pipes, roads and footpaths, which are called development contributions, are the other major cost that few talk about.

Building materials and labour costs have not risen nearly as fast as land costs over the last decade and are actually cheaper for most house building types than in Australia.

Those are the conclusions of the 128 page report led by Deloitte Partner Linda Meade. The report was commissioned by Fletcher Building. It found land and infrastructure costs were the most significant portion of the total cost at up to 35 percent, while building materials were up to 24 percent, and GST and government taxes and charges contributed up to 21 percent.

The broad assumption in the housing debate until now is that the dominance of Fletcher Building and Carter Holt in building materials production and Government building standards set by the industry that favour local products were responsible for a large chunk of New Zealand's inflated new house building costs.

Even Meade was surprised that New Zealand building materials costs were mostly cheaper than in Australia. The study looked at the cost of materials, land, labour, development contributions, GST and developer profit margins across Auckland, Wellington, Christchurch, Sydney and Melbourne.

It also broke down the costs by different types of new dwelling units or typologies, ranging from double storey house and land packages to townhouses, low rise apartment units and high rise apartment units.

"Interestingly, building materials in New Zealand overall, on a like-for-like comparison, were slightly cheaper across most typologies compared to Australia, and I know that is not what most people expected," Meade said.

"In fact probably not what we were expecting, either, because we went into it hearing all of the discussion that you can buy things for half the price in Australia. Now, that might be true if you go into your Bunnings. But actually if you took a look at a whole house lot of building materials and you get a specification of all the building materials that you need to build this type of house in New Zealand in Auckland, Wellington, Christchurch; versus the exact same house in Australia, the pricing was not that different, and in most cases actually slightly cheaper at an overall level in New Zealand."

This chart below from the report shows that land and development contribution costs make up more than 30 percent of the cost of building a double storey house in Auckland, making it more expensive than Wellington, Christchurch and Melbourne, but cheaper than Sydney.

It's not the tradies

Labour costs were also a factor, but, surprisingly, were cheaper than Australia despite anecdotal evidence of an explosion in tradie wage rates. Developer profit margins were, however, more expensive than in Australia.

"Factor labour rates in, and salary rates in Australia do tend to be higher than New Zealand, so it's not necessarily a surprise to find that but, the underlying cost of labour in New Zealand is a bit cheaper than it is in Australia," Meade said.

"And again, people though sort of say: 'oh, but I know my electrician's charging me 50 percent more now than he or she was 10 years ago or five years ago', or whatever number they might quote. And, yes, some of those trade rates have increased quite steeply in New Zealand. We looked at that as well. But the underlying labour cost isn't necessarily rising quite as steeply as that might suggest," she said.

Two factors also rarely mentioned are tax and development profit margins. New Zealand's GST rate on building materials of 15 percent compares to Australia on eight percent. Contractor margins were found to be 12 percent in New Zealand, versus eight percent in Australia.

"If you stripped out GST from our analysis, you would find that all types of building in New Zealand were cheaper than they were in Australia," said Meade.

It's the land stupid

The report cited the 50 percent rise in land prices over the last 10 years. The only exception over the last year was Auckland, where section prices have fallen as much as 30 percent for some sizes.

Housing Minister Phil Twyford has even talked openly about flooding the market with new land development opportunities to help drive up the supply of land able to be built on and therefore drive down costs.

"Our aim is to bring down urban land prices by flooding the market with development opportunities," Twyford said in a recent speech.

"We want to break the current land market model which sees the planning system and infrastructure financing logjam create an artificial scarcity of land," he said.

"Incremental relaxation of the Urban Growth Boundary and zoning changes simply drip feed small amounts of new land, and new subdivisions, into a highly speculative market."

It may already be having an effect, as this chart shows.

A more rational debate?

The report did not specifically recommend solutions for the problem, but Fletcher Building CEO Ross Taylor said the report made the costs of new housing development very transparent.

"We want to help move the discussion forward with facts that lead to meaningful solutions to improve housing affordability," he said.

Potential solutions

The report does, however, provide evidence in support of a variety of solutions suggested by some. The core of the issue is funding infrastructure for new suburbs and 'brownfield' sites already within city limits. That includes tens of billions of dollars for buying and consolidating land for Urban Development Authorities and paying for new pipes, roads, parks and footpaths.

The current problem is that growth councils such as Auckland, Hamilton, Tauranga, Wellington and Queenstown are at or near their debt limits for their existing credit ratings. Borrowing more would either breach central Government rules for credit ratings or force existing ratepayers to pay higher rates for higher interest bills. Neither are politically acceptable for ratepayers who vote, who are overwhelmingly property owners.

These possible solutions include:

1. Dedicating GST from building materials and rates to servicing central Government debt used to pay for housing infrastructure

2. Using US-style MUDs or Metropolitan Utility District vehicles to raise debt and pay for infrastructure with targeted rates or contributions from home owners.

3. Using congestion pricing on roads and motorways to pay for interest on extra debt to boost public transport and road infrastructure.

The Government is working on legislation for infrastructure bonds that could approximate the second solution, but it is still over a year away. The other option is for the Government to borrow directly using its own balance sheet, but that has been ruled out because it would breach its Budget Responsibility rules.