The Trials and Tribulations of a San Francisco Property Owner in 2005 by Jeffery P. Woo
The past year contributed a significant chapter to the saga of San Francisco’s landlord-tenant history. Beginning in November 2004, tenant advocates, backed by certain San Francisco Board of Supervisor members, have sought a new way to destroy the TIC market. The new approach has been to attack the right of condo conversion and the use of the Ellis Act. The attacks have taken the form of legislation, litigation and protesting; these efforts have succeeded in some ways and failed in others.
In November 2004, Supervisor Chris Daly passed legislation that coined a new phrase in the lexicon of San Francisco real estate: “dirty evictions.” A “dirty eviction” is defined as the eviction of any person for grounds other than a breach of tenancy who is either (1) 60 years or older and living in the unit for 10 years or more or (2) disabled as defined broadly under a federal statute. Under Daly’s amendment, if a dirty eviction has occurred, a property’s condo-conversion rights are substantially affected in two ways. First, for a two-unit building in which both units are owner-occupied for more than a year, it will no longer qualify for “fast-track” condo conversion. Instead, it will have to go through the normal condominium lottery process. Second, if a building wins the condo lottery, it will be placed in a separate pool of 25 units. If the lottery-winning buildings before you have had a dirty eviction, and the pool of 25 is filled up, you lose your winning lottery spot and have to try again next year.
Not to be outdone, in January 2005, Supervisor Aaron Peskin passed new legislation that sought to radically change the relocation expenses landlords must pay tenants when they are evicted under the Ellis Act. (The Ellis Act is a state law that allows property owners to go out of the residential property-rental business. Among other things, it provides that cities can require relocation expenses of $4,500 per lower-income household.) Peskin’s amendment increases the relocation expenses to $4,500 per person up to three persons per household, regardless of whether or not they are lower income. The effect of this amendment is that, in some cases, it increases relocation expenses from zero to $13,500 per unit. The purpose of the legislation is to discourage the use of the Ellis Act, the primary grounds for eviction used to create TIC opportunities.
In April 2005, in Pieri v. City & County of San Francisco, Judge James L. Warren ruled that the Peskin amendment was unenforceable because it violated the state’s Ellis Act. The city has appealed; pending the appeal, the Peskin amendment remains in effect. The California Appellate Court has granted preference to this case. Hopefully, Judge Warren’s decision will be affirmed by the time this article is published.
In May 2005, a seemingly routine condo-conversion application for a six-unit building that had won the condo lottery came before the Board of Supervisors. During the hearing, testimony was offered that the building had been Ellis Acted and that elderly tenants had been evicted in the process. Citing Subdivision Code Section 1386 (which provides that where disabled or elderly tenants are evicted, or any evictions were done to further condo conversion, the Planning Commission was required to reject a condo-conversion application), the Board of Supervisors rejected the application. It turned out that the building had never been Ellis Acted and that no elderly tenants were evicted. When these facts came to light, the Board of Supervisors rightly reversed itself.
But while this property owner saw a positive result, the use of Section 1386 will be a common citation for defeating all condo conversions of five units or more. In November 2005, Supervisor Daly proposed legislation to make all condo conversions come before the Board of Supervisors so that he can also apply Section 1386 to buildings with four units or less. Mark my words: Section 1386 will spawn litigation because it is a confusing, poorly written statute. Stay tuned.
At the state level, Assemblyman (and former San Francisco Supervisor) Mark Leno proposed an amendment to the Ellis Act, which provided that it could not be used unless the property owner had already owned the building for at least five years. Fortunately, this proposal eventually died in committee. Not to be deterred, Leno amended this proposal to provide that if a tenant had resided at the property for five years or more and was either (1) 62 years or older or (2) disabled, then that tenant would be able to stay at the premises for five years. This proposal also died in committee, but will come back to haunt us again in the 2006 session.
In July 2005, Judge Charlene Mitchell ruled on a remarkable trial case involving a San Francisco landlord who evoked the Ellis Act to evict the tenants of a six-unit building. Apparently, the property owners intended to sell the units as TICs and, in fact, had informally offered one or more tenants the opportunity to purchase their units. The tenants, represented by the Tenderloin Housing Clinic, sued the property owners. They alleged that the act of offering them the opportunity to purchase their units was a violation of the Unfair Business Practices Act because the property owners had not yet obtained a public report from the California Department of Real Estate. In finding that the property owners had violated the Unfair Business Practices Act, Judge Mitchell also ruled that the Ellis Act notices served on the tenants were invalid. The judgment has been appealed. Property owners have experienced much more rational thinking before the California Court of Appeal, and we can only hope sanity will prevail in this case as well.
If this wasn’t enough of an assault on property owners, Ted Gullickson and the San Francisco Tenants Union announced that on July 31, 2005, they would picket every TIC open house in San Francisco where an Ellis Act had occurred. Their success was very limited, but they continue to picket selected TIC open houses once a month.
Why have tenant advocates chosen the Ellis Act and condo conversion to attack? It goes back to a gross miscalculation they made in 1998 when they put Proposition G on the ballot. Among other things, Prop. G limited property owners to just one owner move-in (OMI), and once a tenant was evicted for an OMI, that unit was designated as the owner’s unit for all time, into the future. Tenant advocates believed that they would be preventing a building from being purchased by multiple families who sought to live at the property as their home. What tenant advocates miscalculated was the powerful, innate desires people have for home ownership. That desire for home ownership led property owners to use the Ellis Act to create TIC opportunities.
Tenant advocates feel that if they can stop the use of the Ellis Act, they will stop the creation of TIC opportunities. While this logic cannot be faulted, local efforts to destroy the Ellis Act will ultimately be unsuccessful because it is a state law; the Court of Appeal will undoubtedly overturn any victories tenant advocates celebrate this year. Any effective changes to the Ellis Act will have to come from Sacramento. Property owners will have to be vigilant.
Tenant advocates have not placed all their eggs in one basket. Their attacks on condo conversions are well calculated. While TICs are affordable opportunities for home ownership, they have two substantial problems created by the fact that there is traditionally only one mortgage that TIC co-owners share. The first problem is that because you share a mortgage with your co-TIC owners, you are at risk that they may default on their portion of the mortgage. If one co-TIC owner defaults and the other co-TIC owners cannot cure the default, the entire property can be lost.
The second problem is almost worst. This problem arises when one of the TIC owners wishes to sell his unit. For example, if a four-unit building was purchased for $1 million with an $800,000 fully assumable mortgage, each TIC interest was purchased for $250,000 with a $200,000 share of the mortgage. After ten years, the building is now worth $2 million and the owner of Unit A wants to sell her TIC interest for $500,000. If the owner finds a buyer, that buyer is not going to be able to simply pay a down payment and get a loan for the rest (like a normal real-estate purchase) unless the other three existing TIC partners all agree. If they don’t agree, the selling TIC partner is faced with either not selling his unit or allowing the buyer to assume his share of the existing mortgage and self-finance the balance. If the buyer is putting $100,000 down and is assuming the seller’s $200,000 share of the existing mortgage, the seller will have to finance the balance of $200,000. While this allows the seller to complete the transaction, it does not allow him to get appreciation out of the property until the second loan is paid off.
Condo conversion solves both of these problems. By making it tougher to condo convert a building, tenant advocates are seeking to dissuade buyers of TICs by destroying the dream of condo conversion. It’s a sound strategy, but 2005 saw the free market enter the debate.
In August 2005, Circle Bank and Bank of Marin publicly announced the availability of individual TIC loans (see A Quiet Revolution, San Francisco Apartment Magazine, August 2005). These banks are willing to loan money individually to TIC owners without the TIC owner’s individual interest in the property being encumbered by a mortgage on the whole building. If that TIC owner were to default on the loan, the interests of the other TIC owners would not be affected. The effect of this loan program is to solve the most common problems of TICs without the need for condo conversion.
Tenant advocates displayed a number of clever and bold moves in 2005. But 2006 promises to reveal whether these bold moves will succeed or simply turn out to be a missed play as the Court of Appeal issues its rulings. Also, 2006 will give us more indication as to whether individual TIC loans will tap into the innate desire for homeownership and further fuel the growth of TIC sales. Again, stay tuned.