History of Multifamily Housing Finance in the United States

History of Multifamily Housing Finance in the United States

FHA mortgage insurance supports multifamily housing finance.

According to the 2023 American Housing Survey, approximately 15 percent of all occupied housing units in the United States are rental units in a multifamily structure. Multifamily housing is cost effective to build and operate, and its efficient use of infrastructure and services lowers municipal fiscal burdens. This article describes how the mechanisms for financing multifamily rental housing in the United States have changed over time.

Multifamily Housing Finance, Late 19th to Early 20th Century

As U.S. cities grew during the 19th century, developers began building structures with multiple housing units. The earliest instances of purpose-built multifamily housing in the United States were urban tenements for housing the poor built in the early 19th century. Financing for tenement construction came primarily from the pooled resources of immigrant communities, wealthy individuals, and banks.

Multifamily housing intentionally built for middle-class professionals and their families emerged in the mid- to late 19th century. Until the early 20th century, banks and insurance companies supplied most of the funding needed to build apartments. These lenders were risk averse and generally did not back speculative or large projects without substantial collateral and personal guarantees; their operations were highly localized and relationship based. Lenders typically required large balloon payments after a short interest-only term, forcing many borrowers to rely on frequent refinancing.

In the 1920s, real estate bond houses emerged as a significant source of financing for multifamily housing developments. Households and small companies invested in the bonds and received high yields. Initially, the capital helped meet a real need for housing in growing cities. By the middle of the decade, however, construction began to exceed actual demand in many cases, and the bond houses invested based on speculation. Multifamily housing construction activity began falling several years before the 1929 stock market crash. By 1930, the real estate bond houses had closed, and new construction had ground to a halt.

Federal Interventions and Multifamily Housing Finance in the Mid-20th Century

The first federal programs supporting multifamily housing finance and construction emerged during the Great Depression. Seeking to both stimulate the construction industry and improve the housing supply, Congress created the Federal Housing Administration (FHA) in 1934. From its inception, FHA has insured commercial mortgages for multifamily housing developments, lowering the default risk for lenders. FHA loans also feature amortizing long-term payment schedules, an innovation for commercial mortgages that facilitates the development and operation of multifamily housing. More than one-fifth of newly constructed multifamily housing units initiated from 1938 through World War II received FHA-insured financing. Immediately following the war, loosened downpayment and underwriting requirements for FHA loans fueled an expansion of multifamily construction; 60 percent of new multifamily units started between 1946 and 1955 received FHA financing.

Multifamily housing construction consistently increased throughout much of the 1960s and early 1970s, a period that included the 4 years with the highest rates of multifamily construction in the country's history to date. Figure 1 shows multifamily housing starts reaching a high of more than 900,000 in 1972.

Figure 1: Annual New Privately-Owned Multifamily Housing Units Started

Sources: U.S. Census Bureau and U.S. Department of Housing and Urban Development (1959-2024) and National Bureau of Economic Research (1920-1958).

FHA-insured financing directly supported a significant portion of multifamily housing development during this period, including through new programs with subsidized interest rates that offered greater affordability for lower-income renters. Tax code changes also helped drive capital into multifamily housing. The Internal Revenue Code of 1954 liberalized tax writeoffs for building depreciation, incentivizing equity investment in real estate. The Revenue and Expenditure Control Act of 1968 established a tax exemption for state and local bonds used to finance housing that was accessible to lower-income renters.

Multifamily construction decreased sharply in the mid-1970s. A global recession lowered demand for housing and the availability of capital for construction, and FHA ended its subsidized interest rate programs. As seen in figure 1, multifamily housing starts declined precipitously to 206,000 in 1975. After the Federal Reserve dramatically hiked the federal funds rate in 1979 to combat persistently high inflation, developers' ability to obtain credit to finance their projects became even more challenging.

Sidebar: Development of the Secondary Market for Multifamily Housing Debt

Multifamily Housing Finance From the 1980s to Today

Several tax code changes substantially affected multifamily housing finance in the 1980s. First, the Economic Recovery Tax Act of 1981 stimulated construction by accelerating the depreciation schedule for real estate, allowing investors in rental housing to shelter more income from taxation. After declining in the 1970s, multifamily starts rose to 577,000 in 1985 (see figure 1). However, the Tax Reform Act of 1986 made multifamily housing less attractive to investors by extending the depreciation schedule nearly to its pre-1981 length and changing rules regarding the deductibility of passive losses. The 1986 tax law also created the low-income housing tax credit (LIHTC), a tax credit that drives equity investments specifically into residential developments affordable to low-income renters. From 1990 to 2022, LIHTC units accounted for approximately one-fifth of all newly constructed multifamily units. Despite the new tax credit, the overall pace of multifamily housing construction fell through the early 1990s to a low of 132,000 starts in 1993.

The pace of multifamily housing construction increased in the late 1990s and remained stable in the 2000s, reaching 313,000 starts in 2005. An expanding economy and improvements in the secondary mortgage market bolstered the industry (see sidebar) such as widely traded commercial mortgage-backed securities. At the same time, the single-family housing market of the early 2000s impeded multifamily housing starts by siphoning demand. The 2008 financial crisis and Great Recession also constrained financing and weakened demand for multifamily housing, further slowing the pace of construction. However, multifamily housing rebounded quickly relative to single-family housing, with annual housing starts beginning to increase again in 2010.

Demand for multifamily housing increased significantly during the 2010s, finally reaching a recent high of 522,000 starts in 2022. The secondary market for multifamily debt supported construction activity to meet the demand, with government-sponsored enterprises purchasing more multifamily mortgages for their portfolios and with the continued growth of multifamily mortgage-backed securities. Equity investment was also favorable and benefited from a large and growing portion of ownership interest in the multifamily stock held by private equity funds and real estate investment trusts. The multifamily industry continued to grow after a brief disruption during the COVID-19 pandemic, fueled by continued high demand and low interest rates. Increasing costs and interest rates since 2022, however, have curtailed expansion.

Conclusion

The financing of multifamily housing in the United States has evolved from ad hoc transactions stemming from local relationships in the late 19th to early 20th centuries to a sophisticated contemporary national marketplace that efficiently moves capital from investors around the world into multifamily housing developments nationwide. At the same time, fluctuations in the availability of financing over time have strongly influenced the pace of construction of new multifamily housing units. The liquidity and stability of the 21st-century finance system for multifamily housing lowers the overall cost of building and helps tie the pace of construction to real demand for housing.

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