The State of California has officially passed AB1482, a new rent control bill that will cap annual apartment rent increases at 5%. With the housing crisis roaring on and rents continuing to increase, few are surprised that the bill passed.
“As soon as New York passed their Housing Stability and Tenant Protection Act in June of this year, I knew it was a foregone conclusion that California would follow through with this bill that was already in motion,” David Harrington, EVP at national director of multifamily at Matthews Real Estate Investment Services, tells GlobeSt.com. “After the sound defeat of Proposition 10 last year, I am disappointed in AB 1482 to say the least. It is my very humble belief that we should live in a free market economy and that supply and demand should dictate pricing. Now, as an industry, we must consider what additional regulations will be on the way and account for future tightening of this new law.”
While few are surprised that California adopted rent control, the question now on everyone’s mind is how will impact investment activity. Southern California is among the most activity and coveted multifamily investment markets in the country, but could rent control change investor appetite? Probably not, according to Harrington, particularly for institutional buyers. “We have heard from our clients in the institutional space that while they would prefer no regulations whatsoever, this law will not have a tremendous impact on their operations given the fact that vacancy decontrol is still a part of the law,” says Harrington. “However, a much greater percentage of the owners of the rental stock throughout California are private, individual investors.”
However, the new regulation will mean a change in ownership and operations as well as underwriting. “We have worked with this ownership profile for many years and know that these owners are much more likely to take a different approach to operations and management,” says Harrington. “Your private investor typically wants to limit vacancy and turnover, which means they generally do not raise rents very often in order to keep their buildings full. This approach has led to properties that were previously not subject to any rent control having average rents that were more than 10% below market rents.”
Because rent control will change the delta between rents, underwriting will also need to be adjusted and investors won’t be able to rely on aggressive rent growth. “Previously, an investor of a non-rent control asset could realistically underwrite a mark to market within a 12 to 24 month period. We have seen many privately held apartment buildings that were non-rent control and have rents as much as 50% or more below market,” explains Harrington. “The long-term owner of that asset could have previously still achieved a relative premium for the property because of a buyer’s ability to implement their own management style and unlock the rent potential of the building in a shorter amount of time. Today, that potential is restricted and thus a buyer’s price point will inevitably go down to account for the longer timeline and increased costs of achieving this rent upside.”