Friday, July 29, 2016

An FAR sales model

In an earlier post, I had blogged about adopting higher Floor Area Ratio (FAR) and establishing a trading platform and enabling regulatory framework in trading it. 

Since 2004, the Brazilian city of Sao Paulo has been selling Certificate of Additional Construction Potential Bonds (CEPACs) through periodic electronic auctions in the Sao Paulo Stock Exchange (Bovespa). It gives the buyer additional building rights to be used within the notified area. Taking a cue from Sao Paulo, but with several variations, here are the broad contours of a plan for Indian cities. 

To start with, the revised Master Plan with higher and graded FAR should be notified. But property rights should be restricted to the existing FAR. And, construction to realize the higher FAR should be permitted only on purchase of FAR. The FAR would be sold as Transferable Development Right (TDR) through calibrated auctions done on a digital platform.  

Given the vast variation in land prices across a city, it may not be advisable to have a single TDR market for the whole city. Instead, the Master Plan itself should divide the city into TDR zones. This could be done based on a combination of prevailing property prices (guidance value register), economic growth and development synergies, and other parameters that are used in demarcating Business Improvement District (BID) or Tax Increment Financing (TIF) areas. A notified slum or a residential colony could be notified as a zone. The TDR would initially be transferable only within the zone. 

It may also not be prudent to initiate TDR sales across the entire city from the beginning. Instead, it can be operationalized in a few zones identified (and approved by the Council) based on immediate development imperatives (say, a new metro or impending large road widening) or to promote urban renewal (in old town or blighted areas) or to encourage affordable housing (in certain areas close to industrial locations) or to facilitate transit-oriented development (the highest density transit corridors and around major transit stations). 

In the notified area, a small proportion, say 5%, of the total original FAR of the zone can be released into the market once every three years. The extent of releases can also be determined based on assessments of population growth or in pursuit of the realization of some pre-defined targeted average per capita floor space over a period of time. The sale can be done through well-publicized auctions conducted on an easily accessible electronic platform following the prevailing capital market regulations. The entire auction process should be outsourced and the bonds traded on the National Stock Exchange.   

In order to curb hoarding and speculation, the validity of a TDR should be restricted to 5 years. The owner would have to utilize the TDR and get the property tax assessment completed within this period. In exceptional cases, where the buyer was unable to develop the property due to delays in municipal and other government building approvals, the City can buy back the TDR at the same price with interest calculated at prevailing rates. In other words, no buyer, under any circumstance would be able to retain an un-utilized right beyond five years.

Further, since all transactions are done on an electronic trading platform, buyers should register with their Aadhaar numbers or corporate PANs (including the Aadhaar numbers of its Directors). Purchases by any individual or entity should be capped at 10% of the total TDR being sold so as to prevent hoarding. The trading platform should incorporate analytics that filter deviations. 

The implementation of this initiative should necessarily follow a strictly iterative approach. The implementation should be closely monitored and assessed, and its elements should be reviewed after a period of three or five years. The City government should enlist a reputed evaluation agency as a partner to study and offer insights about the interventions' successes and failings. 

The expansion of notified zones should be done only after the first round of review. If the system stabilizes, after a few rounds of reviews, it should be possible to merge zones, have auctions with increased periodicity, and so on.

The legal framework necessary for this would not involve any legislative amendments. The City's building regulations should be amended to reflect the distinction between FAR that comes with property rights and that which have to be purchased. The City would also have to register the TDR issuance in each zone with the Securities Exchange Board of India to use their platform to transact the auctions. However, it will have to be examined as to whether the TDR is a "security" under the SEBI Act 1992 or any other relevant legislation.

Such TDRs can be powerful instruments to achieve urban development priorities. For example, TDRs can be sold at a discount to encourage the construction of smaller affordable housing units. It can be sold through a reverse auction on the condition that the developer should sell 25% as affordable housing units. As the affordable housing stock so added increases, it would put downward pressure on property prices.

Further, the phased, market-driven, and potentially self-financing approach to densification and infrastructure augmentation is more likely to address the practical challenges associated with such efforts.

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