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What Does California’s New Rent Control Mean?

California lawmakers passed a statewide rent control bill to address a worsening housing crisis in the state where millions of people are paying more than half their monthly income in rent.  The bill is meant to address rising costs in cities like San Francisco, where rent has risen steadily for years and peaked at 6% annual growth in 2015, according to CoStar Analytics.  The bill affects an estimated 8 million renters as it prohibits landlords from hiking rents more than 5% plus the cost of inflation and gives renters more protection from evictions.  The law extends for 10 years, and exempts housing built within the past 15 years, as well as single-family homes and condominiums

History has shown that rent control immediately leads to a shortage of apartments, as potential tenants who would love to move into a new place at the rent-controlled rate can’t find any vacancies. In an unhampered market, the equilibrium rental price occurs where supply equals demand, and the market rate for an apartment perfectly matches tenants with available units.

Rent control reduces the supply of rental units through two different mechanisms. In the short run, where the physical number of apartment units is fixed, the imposition of rent control will reduce the quantity of units offered on the market. The owners will hold back some of the potential units, using them for storage or keeping them available for out of town guests, kids returning from college, and vacation renters. In the long run, a permanent policy of rent control restricts the construction of new apartment buildings, because potential investors realize that their revenues on such projects will be artificially capped. Building other property types (like industrial and retail) now has more profit allure.

Additionally, with a long waiting list of potential tenants eager to move in at the official ceiling price, landlords do not have much incentive to maintain their buildings. Furthermore, if a tenant falls behind on the rent, there is less incentive for the landlord to give him any leeway, because she knows she can immediately replace him after eviction. In other words, rent control encourages the behavior typically associated with the term “slumlord.”

In summary, if the goal is to provide affordable housing to lower-income tenants, rent control has proven to be a counter-productive policy. Rent control makes apartments cheaper for some tenants but impossible for others who can no longer find a unit, even though they could pay the higher, free-market rate. Furthermore, the people who remain in apartments — enjoying the lower rent —receive a lower-quality product.  Now we can expect California’s housing crisis to worsen before it gets better.

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Regal Properties Represents 5 TIC Exchange Buyers of Strong Credit Retail Center in SoCal for 8.37% Cap

Regal Properties represented 5 TICs in multiple 1031 exchanges in the recent purchase of a 54,750 square foot shopping center, predominantly leased by national credit tenants, located within the desired Southern California retail market of Hemet.  The below replacement cost price of $8,600,000 equates to an 8.37% cap rate with a 13% leveraged cash on cash return for a high-performing retail center shadow anchored by Stater Bros Supermarket (NAP), a regionally dominant grocer, and junior anchored by CVS and Dollar Tree. 

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Regal Properties Voted “San Diego’s Favorite” Real Estate Company

Again, in the 2018 “San Diego’s Best” Union Tribune Readers Poll, readers nominated and voted for their favorites in various business categories, selecting Regal Properties as their Favorite in 2 categories this time – Real Estate Brokerage and Commercial Real Estate Company. We are honored and appreciative to receive this recognition, from our clients, colleagues and business partners. Regal Properties proudly “Invests in People and Property” by donating 10% of all fees and commissions to charitable causes, allowing the client to choose a specific non-profit to receive half of that amount.

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Regal Properties Closes $14,900,000 Retail Acquisition at 8.6% Cap

Regal Properties’ Senior VP, Maha Odeh, represented the buyer, Laguna Village Plaza LLC, in the $14,900,000 purchase of a 102,000+ retail shopping center at 5945 W. Ray Road in Chandler, Arizona, for an 8.6% cap rate, with a loan of $9,600,000.  The center is anchored by Walgreens, Natural Grocers, and CCV Church.  Escrow closed on on August 15, 2018.

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Unaffordability Means Fewer Homebuyers

Mortgage applications hit a near 4-year low in July, dropping for the third month in a row.  The causes include: (1) homes are overly expensive now due to tight inventory and rising interest rates, (2) wage growth has remained stagnant while the costs of living (including rent) have continued to climb, such that saving money to buy a home has become increasingly difficult.  Something has to give…

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Starbucks Feels the Heat of Competition

Amid slowing growth in an increasingly crowded market, Starbucks announced it will close 150 under-performing, company-operated U.S stores in 2019. Historically, the Seattle-based chain has closed about 50 stores per year. The upcoming store closings will occur primarily in urban markets saturated with Starbucks locations. However, Starbucks’ sales are also slowing, as the company expects just 1% growth in same-store sales for the third quarter of 2018—the worst performance in about nine years.  One reason is increasing competition from trendy, independent neighborhood coffee shops and artisan roast cafes that offer customers an experience.  In addition to the more upscale, independent coffee shops, competition is heating up from lower-priced fast-food chains, including Dunkin’ Donuts and McDonald’s.

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Expect Chinese Investor Sell-Off to Impact CRE Values

Chinese investors are dumping their commercial real estate investments, under pressure from the Chinese government as a result of the escalating trade war between the U.S. and China.  According to an article in the Wall Street Journal, Chinese investors sold $1.29 billion of U.S. CRE in the second quarter of 2018, while purchasing less than 1/10th of that amount. This is the first time the Chinese have been net sellers in 10 years.  Just as heavy Chinese investment activity previously boosted prices for U.S. commercial properties, a massive sell-off will likely put downward pressure on them.

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San Diego Economy Shows Signs of Slowing

The University of San Diego‘s latest economic forecast showed the second monthly decline in a row, raising concerns about a slowdown in the local economy.  The Burnham-Moores Center for Real Estate’s Index of Leading Economic Indicators for San Diego County, released last week, fell 0.2 percent in May following a decline of equal magnitude in April.  A decrease in help-wanted advertising, higher initial claims for unemployment insurance and a decline in residential building permits pushed the index down.  “Economists usually look for three moves in the same direction for a leading index to indicate a turning point in the economy,” wrote Professor Alan Gin in his report Thursday. “This hasn’t happened yet, so the outlook for the local economy remains positive for now,” he noted. However, he added, any number of things could adversely affect San Diego’s economy, “including rising gas prices, rising interest rates, high housing prices making it difficult for companies to attract and retain workers, a trade war leading to barriers against San Diego companies, local government budget problems, increased taxes on some San Diegans due to the 2017 tax reforms, and turmoil in the health care markets as elements of the Affordable Care Act are eliminated.”  The San Diego Regional Chamber of Commerce earlier reported that business optimism in the region had declined to a five-month low.

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Tax Free Real Estate Investments in Opportunity Zones

Under new tax laws, investors can defer tax on any prior real estate gains until December 31, 2026, so long as the gain is reinvested in a Qualified Opportunity Fund, an investment vehicle organized to make investments in Qualified Opportunity Zones.  In addition, if the investor holds the investment in the Opportunity Fund for at least ten years, the investor would be eligible for a step up in basis equal to the fair market value of the investment on the date it is sold.

The Opportunity Zones program offers three tax benefits for investing in low-income communities:

  1. A temporary deferral of inclusion in taxable income for capital gains reinvested in an Opportunity Fund, until the earlier of the date on which the opportunity zone investment is sold or December 31, 2026.
  2. A step up in basis for capital gains reinvested in an Opportunity Fund, in the amount of 10% if the investment in the Opportunity Fund is held by the taxpayer for at least 5 years, and by an additional 5% if held for at least 7 years — thereby excluding up to 15% of the original gain from taxation.
  3. A permanent exclusion from taxable income of capital gains from the sale or exchange of an investment in an Opportunity Fund if the investment is held for at least 10 years. (This exclusion applies to gains accrued after an investment in an Opportunity Fund.)

Treasury and the IRS still plan to address the certification of Opportunity Funds, which are required to have at least 90 percent of fund assets invested in Opportunity Zones.  For more information or a map of Qualified Opportunity Zones, contact Regal Properties and consult your tax adviser.

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Marijuana Law Update

Of the 29 states having approved medical marijuana sales, only 3 have approved sales for recreational use.  State and federal laws still clash, because all marijuana sales are still illegal under federal law.  Hence, marijuana is still an all-cash business because credit cards and bank accounts are federally controlled.  Given cash caps on real estate transactions, commercial property owners and managers risk running afoul of federal money-laundering laws by accepting cash rents. Although Trump and Congress have shown support for relaxation of laws, and federal legalization seems inevitable, Attorney General Jeff Sessions remains vehemently opposed to legalization; so property owners and managers should understand the risks involved in the interim.

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