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I’m (1) from (2) the (3) government (4) and (5) I’m (6) here (7) to (8) help (9)

These are the nine most terrifying words in the English language according to Ronald Reagan. In this post I’m going to discuss the potential negatives to the Tenant Protection Act most commonly known as AB 1482. The goal of politicians is to protect the tenant, but our analysis of this bill reveals their policies put the majority of the burden on the tenant through increased housing costs and a higher barrier to entry.

Guaranteed Rent Increases

The bill allows for a guaranteed rent increase of 5% plus the local consumer price index (CPI) not to exceed 10% once in a twelve-month period. As previously discussed, landlords increase their rents from 2.5-5% each year on occupied units, some don’t raise their rents at all until the unit becomes vacant. This means that a tenant will see their rent increase by 7-10% each year thus increasing the amount they pay by 2-5% more than before AB 1482 was put into law. Currently tenants pay anywhere from 30-50% of their income towards rent, tenants may see this number increase overtime relative to their salaries and other significant utility cost increases.

 

Below Market Rent

AB 1482 benefits those tenants that have resided in a unit for greater than 12-months and at below market rents. From a policy standpoint this is a huge success. From a landlord’s prospective there’s not much incentive to make improvements to the property since they’re limited on the amount that they can increase rents. Tenants in these types of buildings will most likely not move, creating less turnover, but living in dilapidated housing.

Probationary Period

Most of these tenant protective measures don’t apply until the tenant has had 12 – months of continuous residency. One of the goals of rent control policy is to create long-term housing. This creates a probationary period for the tenant under a short – term lease or month-to-month lease and the landlord can opt to give notice to the tenant to vacate within 60 days of them completing their 12-month lease anniversary. A landlord could give notice for many reasons such as unlawful behavior, the tenant not getting along with others in the complex or the owner, not keeping their unit clean, being late on their rent, or if market rents become substantially higher. New tenants will experience higher turnover and landlords will have more turnover costs.

Should cities put in more stringent rules and regulations giving tenants immediate Just-Cause protection or include SFRs/Condos it will cause owners to sell by vacating the property and selling to an owner-occupied buyer which will further exacerbate the housing crisis.

Just-Cause and No-Cause evictions

This is the most controversial part of AB 1482 because it requires that a landlord provide (60) day notice Just-Cause or a reason as to why the tenant is being vacated or evicted. The tenant can then challenge the landlord reason in front of a rent control board which may provide the tenant the opportunity cure said breach of lease agreement (if any).

Just-Cause processes are known to be very time consuming and extremely expensive which means that marginal tenants will not be offered housing. Who is considered a marginal tenant? Tenants that have a story or that barely make the qualifying criteria. Many of these marginal renters make excellent tenants because they’ve had a blimp in their past and want to prove a point that they’re responsible, trustworthy people. Unfortunately, going forward owners will not take the risk on a marginal tenant because they cannot afford to make a costly mistake and go through the Just-Cause process.  Landlords and property management companies will have high credit, income, background, and deposit criteria for renting an available unit.

No-Cause notices to vacate must be given within (120 Days) and is a notice given where the tenant has done nothing wrong. An owner may give a No-Cause notice if they’d like to make significant capital improvements to the unit or have an immediate family member live in that units. A landlord must compensate the renter with one month of rent or forgoing the tenant’s last month of rent. This will hurt the tenant in that it defeats the purpose of the bill as 4 months (120 Days) and one month of rent is not that expensive to vacate a unit which the owner will eventually put at market rent. Plus, the tenant will have paid three (3) months of rent.

Vacant units become much more valuable $$$

Vacant or vacated units are exempt from rent restrictions until they’re leased for the 12-month continuous period discussed above. Once the restrictions take affect there will be less tenant movement especially if they’re locked into a very low rental rate. If there are less available units for rent what will happen with any available units that do become available? The market rental rate of that unit will increase significantly as more people are bidding for it since housing availability will have become scarce. It becomes basic supply and demand. Owners will look for ways to vacate as many below market units as possible in order to increase to market rents. This will decrease affordability and make the barrier to entry much greater.

 

Decline of Home Ownership

Residents that are protected with below market rents under AB 1482 or other local rent control ordinances have less motivation to move or own a home because doing so would increase their monthly housing costs. Buying a home is the single largest asset that most people will purchase in their lifetime. Owning a home is also the number one way to create equity, wealth, and increase your quality of life. From a policy standpoint, rent control works in decreasing displacement from cities but from an economic perspective it keeps people stuck paying rent instead of growing. Neighborhoods that have higher rates of home ownership typically are more well – maintained, stable, and have less crime than those comprised of primarily apartments. There’s no better way to increase the quality of life in an area than through home ownership and this number is going to diminish as affordability gets worse and the barrier to entry is higher. There are regions such as Sacramento/Roseville that are experiencing a solid amount of new home building that will remain attractive to higher end renters and millennials entering the ownership market.

No Limits on Utility providers such as PG&E

AB 1482 imposes rent caps and stringent eviction procedures for landlords although they are not the cause of the housing shortage. On the other-hand PG&E, SMUD, other utility providers, city water, sewer, garbage, property taxes etc. have no caps on their increases. The capped increases in rent will not be sufficient to cover the increases in expenses which reduces the net operating income to the owner. This will give the owner more incentive to vacate units to improve and increase them to market rent.

Cost to administer the Program

Nothing is for free! To administer AB 1482 which will include a rent control council (board) it will come at a cost to owners. The fee has not been determined but it will be on a per unit basis. Originally, outrageous dollar amounts of $500 per unit annually were discussed, recent narrative has proposed from $100-$190 per unit annually in administration fees due from the owner. One begins to wonder, was this about rent control or about imposing more taxes on property owners. The net affect is that the owner’s net operating income will decrease.

Exemptions

Owner – occupied units and or units rented to immediate family are exempt from AB 1482. Single-Family Homes and condominiums are also exempt (unless owned by a REIT, Corporation, or LLC which has a manager that owns a corporation). Owners may opt to convert their multifamily dwellings or apartments into Condos are Tenant-In-Common (TIC) as they see more profit in selling units off individually than renting them. This would of course, decrease the amount of available housing putting more upward pressure on affordability.

Furthermore, Single-Family owner-occupied and investment homes will increase in value as they’re exempt from rent controls and Just-Cause. If prices increase on SFRs and Condominiums that does not help affordability it further exacerbates it. CA is short 4 million units of housing and in 2018 developers built a meager 177,000 units less < than 2 percent of the available required housing stock.

2x Security Deposits

CA law allows for owners to charge up to 2 times the rent as a security deposit. Customary practice has been 1 times the rent as a security deposit. Renters will now have to come up with a larger security deposit in addition to first months rent in order to move-in, again increasing the cost on the tenant.

Construction in Class A & B Sectors

The majority of the construction will occur in the higher end sectors or in the lowest affordable credit sector. The in between middle-markets are the ones most impacted by the housing crunch. Unfortunately, these tenants will not realize the benefits of new housing stock or supply.

Conclusion

In summary, advocate groups and the voters demanded that the government intervene in the housing crisis by imposing rent limits and stringent eviction procedures on landlords. I believe they missed the mark because they did not address the main issue, supply. The key to creating affordable housing is through the availability of housing not restricting it. Rezoning laws, fixed fees, lower permit and entitlement fees, and less public notice hearings promote more construction and produce more housing supply. The rent caps and restrictions will have little to no impact on affordability and inadvertently cause rents and prices to increase. Housing stock will deteriorate while rents increase putting a heavier burden on the tenant. Sadly, home ownership rates will decline as tenants are less motivated to move if they’ve locked into a below market rental rate which will result in a great income gap.