This week, LA Mayor Eric Garcetti formally proposed a plan to improve the City’s seismic safety and resilience by strengthening vulnerable buildings and infrastructure most at risk during a major earthquake. The proposal mandates retrofits of all buildings that the City has identified to be structurally weak, and also includes a recommendation to reinforce vulnerable telecommunications and water supply systems.
The plan, known as Resilience by Design, is LA’s most ambitious step yet toward protecting the city against major losses in case of the next major earthquake. The plan targets two structurally weak building types: requiring retrofitting within 5 years for wood-framed, soft-story multifamily buildings built prior to 1980, and within 25 years for vulnerable non-ductile reinforced concrete buildings built before that date.
The City performed a comprehensive inventory of LA’s soft-story buildings that identified close to 15,000 buildings that fall under the proposed ordinance. Upon approval of LA’s Resilience by Design plan, owners of such buildings will be notified and required to engage an engineer to determine retrofit needs to improve structural safety in the applicable timeframe.
Thinking about Financing Options
In many ways LA’s proposed plan mirrors the mandatory soft-story retrofit ordinance of San Francisco that went into effect last year, but LA’s rule is magnified in scale and the kinds of buildings it applies to (no other city has introduced compulsory retrofits of concrete buildings before). In San Francisco, my team has been working with many property owners and lenders on retrofit programs under the ordinance. It is apparent that financing is proving to be the biggest hurdle in implementing retrofits on a broad scale.
While property owners generally recognize the benefits and urgency of retrofitting their property, many private lenders are reluctant to finance these projects (an issue exacerbated in the case of rent-controlled properties with limited revenue). Although there’s an opportunity for lenders to increase the loan at origination or issue a second loan to cover the cost of retrofitting, the increased expense may leave the borrower with insufficient funds and increase the chance of loan default or foreclosure.
Retrofits are expensive – many are upwards of tens or even hundreds of thousands of dollars – and finding creative financing solutions will be critical to the success of LA’s seismic resilience program. Ultimately, retrofitting is likely to be cheaper than obtaining earthquake insurance, and certainly cheaper than dealing with losses caused by damage. In announcing the plan on Monday, Garcetti and his team highlighted the plan’s role in “preventing the catastrophic collapse of LA’s economy” in case of a major earthquake. Garcetti outlined some suggestions for financing options, such as business tax breaks and incentives for businesses to move into newly-retrofitted buildings, as well as a promise to help owners of wood-frame multifamily apartment buildings get approved for loans through private lenders.
One such way is the newly expanded Property Assessed Clean Energy (PACE) program. PACE is a government incentive that provides capital for seismic retrofits in addition to energy efficiency upgrades with loan repayment terms of up to 30 year. PACE loans are tied to the value of a property – not the credit of the borrower – with loan repayments made through the property’s tax bills. PACE is one of the most cost-effective, low-risk financing options available for retrofit projects.
Market Forces Offsetting Cost Of Retrofit
Even before this announcement, we’ve retrofitted more than 50 buildings in the LA area and are currently working on a 160-building portfolio. These early adopters are property owners who are taking a proactive, staged approach to ensure preparedness and compliance when the law does come in to play, or who are driven by lenders that are starting to require retrofits to provide financing for soft-story buildings.
Market drivers will help alleviate some of the financial burden of LA’s retrofit mandate. Retrofitted, compliant buildings are a more attractive and secure investment to lenders and property buyers alike. As we are seeing in SF, many lenders are demanding or favoring lowered Probable Maximum Loss (PML) ratings achieved through retrofits. A reduced PML may also lead to either reduced insurance premiums or elimination of the need for earthquake insurance, which helps offset the cost of seismic hazard through mitigation (retrofit).
Resilience by Design includes a recommendation for the use of a rating system to improve the evaluation and standardization of seismic performance in buildings, which is something the US Resiliency Council (USRC) has been working to develop. Such a rating system will help give buyers, lenders and tenants a reliable and consistent understanding of a building’s earthquake performance, and serve as an additional draw that secures more qualified buyers and loan approvals for retrofitted buildings.
Based on the lag time between the announcement of SF’s ordinance and its implementation, we expect LA’s mandate to become effective during the first half of 2015. This leaves some time for lenders to fine tune their provisions for loans issued for retrofit projects, and for property owners to understand the financing options available to ensure compliance at the lowest cost possible.