October 11, 2019 Comments Off on Newly-Enacted Rent Cap Not Expected to Tarnish Golden State’s Apartment Sector Views: 1065 California News, Top California

Newly-Enacted Rent Cap Not Expected to Tarnish Golden State’s Apartment Sector

By Dennis Kaiser

Rent control took center stage this week in California, with the passing of AB 1482. With that monumental action serving as a backdrop, Marcus & Millichap convened a panel of experts for a Webinar designed to deliver an update on the rent control bill and some of its expected impacts both in California and nationwide.

Perhaps the biggest takeaway from the discussion was that the Golden State’s newly-enacted rent cap is not expected to have much of an impact on the apartment sector over the long term. The new law likely will create some concern and confusion in the short-term, until owners, investors and their advisors become more educated about what the bill contains, and adjust their strategies.

Marcus & Millichap’s John Chang pointed out the bill’s main provisions that the CRE sector should know is the fact that: starting next year, rents at most multifamily properties can’t rise more than 5% plus the cost of inflation with a hard cap at 10%. It is also worth noting that local restrictions will supersede statewide provisions, depending on whichever is more restrictive.

Federation of California Builders Exchange’s Damon Conklin added that the new law will affect properties 15 years or older, starting with assets that were issued a Certificate of Occupancy in 2005, and it rolls forward each year. It will remain in effect until 2030 unless reauthorized. It also affects properties with two plus rental units and any rentals owned by REITs, LLCs or corporations. A retroactive provision in the bill means if a landlord raised the rent after March 15, 2019 by more than the new law allowed, then at the start of 2020 they would need to reset the rent back to within the range of the bill’s provisions.

He also noted, AB 1482 includes just-cause provisions that will restrict tenant evictions based on how long they had rented. For a unit with a single tenant, they could do so only after the first year, and are only allowed to do so with cause in units with two or more renters after two years.

Conklin said, California policymakers “checked the box” [with AB 1482] so they could point to that as having addressed the housing issue. Thus, they created policies to prevent rent gouging, which were isolated issues that bill proponents pointed to, and passed AB 1482. It was an issue that “needed to be dealt with,” and the best way legislators felt to accomplish that was to pass this rent stabilization legislation.

One reason the bill is expected to have minimal impact on the owner/investor side is because typically rents don’t increase above the level of the new law’s cap. Since savvy landlords generally closely monitor market fundamentals, which have been on the rise this economic cycle, they’ve likely not fallen behind in keeping pace with rent increases at their properties. Those who haven’t raised rents as the market dictated, may find themselves in a more precarious position, noted Chang.

There will also be some adjustments needed in the investment strategies for the multifamily product class, as buyers consider the long-term ramifications of future rent increases to bring assets up to market rate rents or when contemplating renovations and repositioning plays. Value-add plays have been a popular investment strategy in recent years, said Marcus & Millichap’s John Sebree.

He said there could be a temporary move to the sidelines, but as the industry becomes more educated about the new law, the market will resume because market fundamentals are strong. And even under AB 1482, those conditions add up to an allowance for continued rent growth that is supported by job growth.

Sebree agrees an investors approach is affected, as the timeframe for repositioning projects may be extended because of the new law and owners will need to adjust the calculations for rehabs. But, he believes transactions will still take place under a new set of rules that will take a little time to understand and see how they affect industry, business plans and strategies. “I believe that we’ll look back in a couple of years and we’ll realize that things have been adjusted a little bit but it has not changed an enormous amount,” said Sebree.

Chang said, over the longer term, looking three to five years down the road, the effects will be “relatively minimal” simply because rents are not rising by more than 5% plus inflation generally. Future revenues will not be restricted much, and pricing will be affected relatively minimally on a long-term basis, predicted Chang, despite the “new hoops” owners must jump through to move rents to market.

In the short-term, into 2020, owners and investors must continue “adjusting and recalibrating their perspectives,” as well as financial modeling on assets, noted Chang. He expects there will be more “uncertainty and turbulence in the market,” but from a fundamental, and revenue and income producing aspect, the new law generally won’t have a “huge effect on the majority of assets.” There will be some, if a property was “way under market” and needed to move to market rates with upgrades. It “will be more of a challenge to get to the new numbers, but it will not be huge impact over short term,” said Chang.

There will likely be some “pricing recalibration,” added Chang since buyers need to figure out how to discount what their future income will be when they follow the new set of rules. Likewise, sellers will need to “recalibrate” their expectations of what the market is telling them. “I think it will create a little bit of a challenge getting to the right price over the very short term. That’s going to be the market adjusting to the new normal,” said Chang, though he notes the market should “snap back relatively quickly” as buyers’ and sellers learn about rules and how it affects their bottom lines.

Chang doesn’t think there will be a huge amount of discounting on properties as a result of the new law, either. He noted that investors won’t likely look at California and now say they need to get out of the market now. He noted, there’s no pressure to do so, and they have the ability to operate in this climate is not that bad.

California’s AB 1482 was a blend of several bills, and now that the Governor has pushed to enact tenant protections, panelists say the agenda is likely to shift to the production side to get more units built. Among other things, that will involve speeding up the approval process and reworking CEQA.

Conklin says, now that AB 1482 is passed, it is likely policymakers will wait to “see how it plays out before making adjustments to that policy.” Though more restrictive rent caps could be a possibility, he is not hearing of any movement to do so within California’s halls of government and it will be tough to get any new policy through the legislature next year, said Conklin.

To be fair, AB 1482 wasn’t meant to add inventory to California’s housing stock, it was intended to “address more of [the] stabilization issues for tenants,” noted Conklin. “Policymakers are going to be more homed in and refined on their approach in the next legislative session” looking at faster approvals, CEQA reform, and restrictions on local government’s ability to prevent upward zoning or upward building and construction, he added. The Governor has laid out an ambitious goal to produce 3.5 million units by 2025. By any measure, that’s going to be challenging to hit, pointed out Conklin.

That said, panelists agreed other states will likely monitor and follow California’s efforts to control rents and produce needed housing.

National Multifamily Housing Council’s Jim Lapides says, the “sad news” is the fact that rent control has become a national movement. He noted that in 2017, 14 states and Washington, D.C. made “serious” attempts to expand rent control, which would have impacted more than half of the national housing stock. Beyond California, two other states have enacted rent control measures, Oregon and New York City and state.

He says, many legislators are pushing for it, and rent controls have been endorsed by three of the top four presidential candidates. “Unfortunately, I think we’re going to continue seeing it around the country for the foreseeable future,” says Lapides, noting they hope with the passing of California’s 1482 it has “taken some of wind out of the sails” and a new direction will be charted.

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