Why I intentionally have a bunch of vacant apartments

Right now, I have a bunch of apartments sitting vacant.

That sounds crazy, right? After all, we are in the business of renting apartments. Having vacancies means we’re intentionally not maximizing revenue, which means a lower return to us and our investors.

So what’s going on?

Well, we bought a bunch of buildings a few years ago in an emerging area we like very much.

So far, the rents in this area are not high enough to justify the costs associated with renovating the buildings, so we’re basically running them as-is while we wait for rents to rise.

When you’re running a building and a tenant vacates, obviously your move is to find another tenant.

But we still intend to renovate these buildings in the next few years, and here’s where the problem comes in.

All of the buildings are rent-controlled. That means, once we put a tenant in a unit, there is no way for us to make them leave, even if we want to renovate the whole building.

So, we’re faced with an annoying catch-22: If we want to maximize revenue, we should tenant the vacant units. But, if we do, it’s likely that we’ll end up having to pay those very same tenants a lot of money to move out within the next few years.

Right now, we’re in the process of doing a cost-benefit analysis to determine which of the units we should go ahead and rent. But, for the time being, we’re sitting there with intentional vacancies in a very tight rental market.

Just another one of the insane consequences of rent control…

Santa Monica’s dumb anti-AirBnB legislation

Am traveling right now (to attend my father’s retirement party – 43 years teaching at RPI!) so am going to keep this brief.

Santa Monica is close to passing a law that would effectively ban sh0rt-term rentals where the owner of the property is not present.

So, basically, you can rent out a room in your apartment on AirBnB but not the whole apartment.

I get that Santa Monica is trying to counter the recent trend of owners using the Ellis Act to clear out rent control apartments for use as quasi-hotel rooms.

But that use of the Ellis Act is wrong for the same reason the proposed legislation is wrong. There’s no logical distinction between a six day lease and a six month lease.

So, you shouldn’t be able to kick out a long term tenant in order to rent short term, but neither should you be prevented from renting short-term.

Rent control and slums

Spent a bunch of time recently talking to tenants in a 1920s building.

They told the story of how their building turned into a slum. In a nutshell: The owner 30 years ago used to live in the building. He took a lot of pride in the building and fixed all problems immediately. Then he died and the building started changing hands every few years.

Somewhere along the way, the new owners stopped investing in the building. Graffiti appeared and wasn’t promptly removed. So more graffiti appeared. No one upgraded the electric, even though tenants used more and more of it for big TVs, A/C, etc. So outlets started blowing out (and not being replaced). The old waste lines corroded, leading to more and more sewage back-ups into the units. The hallway lights went out and weren’t replaced. Eventually, no one came to take out the trash and keep up the garden, so the tenants started to do it themselves (with varying results).

Tenants started to turn-over a lot and the new owners filled units with whomever they could find: often undesirable tenants paying low rents. And no one remembered to raise the rents on the tenants who stayed.

Now, the rents are low and no one can raise them because of rent control. There is now a powerful incentive for the tenants who can handle the decay to stay, even as the building some of them grew up in falls apart around them.

When you read in your Econ 101 textbook that rent control creates slums, this is what they’re talking about.

Never Buy a Building with a Non-Conforming Unit

I was once in escrow to buy what I thought was a 16 unit building on Clinton St. in Echo Park, one unit in which was “non-conforming”. The owner had taken a common room and turned it into a studio apartment. The listing broker assured me that this was pretty normal in LA and, indeed, if you look at Loopnet or the MLS, you do see buildings like this all the time. I went ahead and did the deal.

The LA Housing Department (LAHD) has a regular inspection program called SCEP, where they go through every apartment building in the city every three or four years. They check for code violations, safety hazards, etc. And they recently started checking for un-permitted units.

We had our regular inspection and the inspector wrote us up for having this un-permitted unit. We were required to either vacate the unit and return it to its previous use or else get it legalized.

Pause for a second and allow me to thank the Lord that the building was not rent-controlled (having been built in the early 1990s). Had it been rent controlled, we would have had to pay the tenant in the unit the city-mandated relocation fee, which in this instance would have been around $7,000, but which can go as high as $18,300. That would have been in addition to the lost rent, the lost value (because that lost rent would lower the building’s profit and thereby it’s re-sale value), and the cost of legalization (if that were even possible).

Fortunately for us, we were able to convince the tenant to move somewhere else (in part because he wasn’t protected by rent control). Even more fortunately, we were able, through an extremely painful, expensive and time-consuming process, to legalize the unit, turning what had been a 15 unit building into a legal 16 unit building (and thereby adding a lot of value to the asset). In this we were lucky… it turned out to be possible to add the additional parking space necessary. This would not have been possible with almost any other building.

But I will never, ever, ever buy a building with an un-permitted / non-conforming unit again. Not only are you paying for an income stream which is likely to go away the next time the city inspectors come through. You are also putting yourself at risk of having to pay a massive relocation fee to the tenant. Let some other schmuck take that risk.

Why Westlake Won’t Gentrify

Westlake won’t gentrify for three reasons: the housing stock, the density of apartments and rent control.

Regarding the housing stock: Westlake is comprised mostly of apartment buildings built around 1920. Some 1920’s buildings are nice, with great lay-outs, beautiful details, and, in some case, parking.

The buildings in MacArthur Park are not those kinds of 1920’s buildings. Far from it. They are, as a rule, center hallway buildings (where all the tenants access their units through a long, shared, central hallway), full of studios (some without kitchens), with no parking. These are generally not pleasant places to live; they are run-down, smelly (due to neighbors’ cooking smells and leaky garbage bags) and inconvenient (where do you park?). So you’re not going to see organic gentrification, where adventuresome renters seeking cheap / cool places move in on their own.

Now, it’s possible to gentrify a building or neighborhood “by force” by spending a lot of time and money to make bad old buildings good again. But it’s not worth anyone’s time to do this in Westlake, because the density of apartments in the area makes it almost impossible to command the high rents necessary to justify the cost of renovating. After all, prospective tenants will be comparing the units you’re offering to the extremely cheap ones next door. The supply is just too great to have any real pricing power, even with newly renovated units.

Finally, rent control. Face it: There are some criminal elements in this neighborhood. That’s a fact of life in a lot of neighborhoods all over the country. But LA’s rent control ordinance makes it almost impossible to get rid of bad apples in a building. So once you have a concentration of them (and Westlake definitely does!), they wreck the neighborhood and there’s very little that landlords (or anyone else) can do about them.

So if you’re looking for the next Highland Park, look elsewhere. Westlake ain’t it.