The Unintended Consequences of NY’s New Rent Laws

Posted on Jun 24 2019 - 3:10am by Lance Edwards
While the package signed into law by Governor Cuomo will surely help tenants, it is a critical game changer for landlords, according to JLJ Capital’s Jonathan Lewis.

 

 

By Johnathon Lewis (MultiHousingNews.com Article —  The law of unintended consequences is that actions of people, and governments, have results that were never considered. It’s a law that was never passed by any legislative body but instead reflects what those bodies do, as exemplified by recent revision of the laws affecting apartment rentals throughout New York state.

The package of bills signed into law by Governor Cuomo will certainly achieve its goal of controlling rents by limiting the ability of landlords to raise them. But the unintended consequences will result in several other things the lawmakers were either unaware of or chose not to consider.

First of all, it changes the rules midway through the game for many landlords in a way that in retailing would be called “bait and switch.” The state’s 421-a tax exemption, which gave real estate developers and landlords an incentive to provide affordable housing in New York City, is moot. Under the original regulation, if a building owner made between 20–30 percent of apartments rent-controlled/rent stabilized, then he could charge free market rents for the remainder of the building. Under the new regs, the maximum annual increase allowed on rent in any apartment in such a building, including “free market” ones, is only 0.5 percent. In effect, this change in the law means that whatever the rent is set at in the first year is now the stabilized rate.

Increased Pressure on Affordable Supply

That means that individuals who took out loans to purchase multi-unit dwellings based on business plans and formulas that would allow them to adequately maintain the buildings, service their debt and hopefully make a small profit are likely to be unable to meet all their obligations—to their lenders, their tenants and themselves.

It’s been estimated that the values of affected properties dropped by between 20–30 percent as soon as the law was enacted. That’s just the immediate knee-jerk reaction. But over time, I believe it’s going to get worse. The drastic change in the rules is going to put a lot more pressure on landlords who suddenly find that their free market rights have disappeared.

Over time, this is likely to lead to further deterioration of buildings because landlords won’t be able to afford to keep them up. That’s a tradeoff in the new law that doesn’t seem to have occurred to legislators who chose to shut landlords and developers out of the deliberations.

There’s no longer an incentive to upgrade apartments—by modernizing kitchens and bathrooms, for example—because the owner will no longer be able to recoup those investments through higher rents. Some landlords will ultimately be forced to either sell their properties at a loss, probably to a REIT, or let the lenders take them over. I don’t expect this to occur overnight, but it will happen. And when it does it’s likely to be pretty ugly in many ways, much like what we saw in the New York City in the 1970s.

And while the laws may control how much rent can be charged on existing apartments, they won’t help meet the demand for a greater number of affordable apartments. New construction that is free from rent control-related tax incentives and abatements will be unaffected, but few if any of those buildings will have “affordable” apartments. It’s too early to gauge the effect of these laws on new construction, but some major developers I’ve spoken with are considering putting projects on hold until they see how any challenges to the new laws fare in the courts.

Changes in Lender Underwriting

In the face of this new environment, it’s also going to be more difficult for developers and potential real estate investors to obtain financing. Banks and private lenders will be forced to be much more cautious when it comes to lending money for ventures in New York City, with some choosing to avoid doing business there at all.

Ultimately the unforeseen consequences of this change to the laws will result in fewer properties being built, less money put into existing properties and a gradual deterioration of the existing housing stock. Rents will be controlled, but the quality of life for those renters is likely to continually diminish. To our knowledge no changes have been made to the revised laws at the time of this article, but there is a bill pending that may correct the 421-a issue. We’ve also been told that several large New York law firms are preparing lawsuits against the state based on the violation of fundamental property ownership rights.

Jonathan Lewis is the founder of JLJ Capital.