By Shantal Malmed
It is no secret that California is one of the most expensive states to live in. The state boasts excellent weather, an expanding tech scene, and a melting pot of diverse cultures and ethnicities. According to the Public Policy Institute of California (PPIC), from 2010 to 2020, “the state added 3.2 times more people than housing units”. There are now 2.93 Californians for every occupied unit. In 2015, the Legislative Analyst’s Office assessed that California should have built at least 70,000 more units per year to avoid extreme cost increases.3 From 1980 to 2010, our state fell short by about 3.5 million units.
During the 2018 election, then-gubernatorial candidate Gavin Newsom pledged that the shortage gap would be closed by 2025. However, the PPIC noted that “construction dropped almost everywhere,” with the largest drops outside expensive coastal counties (Los Angeles, Orange County, San Diego and the Bay Area). Recently, the state’s promise to spend $10 billion to spur housing for low-income families and $7 billion to battle homelessness signals a more pro-housing stance. In 2021, California’s senate and assembly members addressed many issues plaguing California real estate, including the backlog of rental debt accumulated throughout the pandemic, inequality in real estate, and the state’s housing shortage. To remedy the latter issue, the assembly passed various senate bills, including SB 9 and SB 10.
For years, the State Legislature has hesitated in following through with its promise to increase urban density and successfully decrease rent to address California’s affordable housing shortage crisis in fear of angering suburban voters who prefer single-family homes. In addition to the housing shortage crisis that such catering has contributed to, low urban density has significantly increased home prices. The median home price in California rose 27% from 2020 to 2021 and is currently around $800,000. Dun Dunmoyer, President and CEO of the California Building Industry Association, said “most Californians can’t afford a typical single-family home and our state’s desperately limited housing stock has a lot to do with it.”
While the present consensus on the future of California’s real estate still appears largely unknown, these new bills provide some hope that production levels will start to meet the more realistic demands of California’s prodigious population. Specifically, SB 9 has the potential to either dramatically treat the housing crisis in the next few years or be met with strong enough opposition to be outlawed by California localities. Either way, the California rental market and real estate development sector will likely be significantly impacted by this new bill.
SB 9: The Duplex Revolution
This bill aims to encourage homeowners to create more rental units on their property and, in doing so, make a material impact on the demand for housing in urban areas and increase housing. Known as the bill to “end of single-family zoning,” SB 9 attempts to streamline the process by which the owner of a single-family lot can subdivide the lot into two separate parcels then construct up to two units per parcel or build duplexes on the lot. Previously, a single-family lot could only legally bear one single-family home. Now duplexes will be legal. This law attempts to increase density by giving homeowners the option to convert their homes into duplexes/quadplexes or sell them to developers while avoiding restrictive single-family dwellings.
In 2019, Oregon passed a similar bill allowing duplexes, triplexes, and quadplexes. This subtle push into expanding smaller-scaled housing is not unprecedented: previous incremental progress came in the form of accessory dwelling unit (“ADU”) legalization and added more than 20,000 new homes to California’s housing supply. Over 50% of California’s residential land is zoned exclusively for single-family homes. This signals that the changes in the supply of smaller-scaled housing that this law could provide for may significantly expand housing options available to buyers.
Its Limited Effect on the Housing Expansion
While SB 9 is promising because it potentially expands options for future homeowners, its success in altering the real estate market is highly dependent on homeowner reactions to the bill. David Garcia, policy director for the UC Berkeley Terner Center for Housing Innovation, says “the implications for California’s housing supply are significant, but it certainly won’t solve the crisis itself.” Specifically, while a UC Berkeley analysis found the new proposal could yield 700,000 new housing units under ideal market conditions, that number is still below the millions experts say California needs, and those units will not emerge overnight. This is partially because “it takes a lot of time to develop and construct these kinds of units, especially because they’re going to be built by homeowners themselves,” says Garcia. Minnesota also implemented a pro-duplex measure, but after a little over a year, the number of permits pulled for duplexes and triplexes was “very, very small,” said Salim Furth, a senior research fellow at Mercatus Center at George Mason University. While many Northern California communities are over 95% residential single-family detached zoned, few homeowners in towns like Berkeley have utilized the SB 9 option. Still, while the law may spur some movement, it won’t be enough to make a significant change in California’s housing industry. Thus, while 714,000 new housing units could theoretically be created, 1.4 million units are needed to actually treat the housing shortage and lower rent.
An indirect limitation is SB 9’s dependence on high homeownership rates to make a significant impact on the California duplex supply, but about half of San Luis Obispo’s single-family homes are currently rentals, according to city officials. What’s more, SB 9 requires owner-occupancy of a home three years before and three years after the construction of new units. This would limit the single-family homes that can feasibly be converted into duplexes and quadplexes soon. A study by the Terner Center for Housing Innovation at UC Berkeley found this provision has cut the potential total of new units by 40,000, or 6%.
The Barriers of Real Estate Development From The Perspective of Homeowners and Developers
While the law potentially provides more opportunity for both buyers and sellers to choose duplexes and quadplexes over single-family homes, the cost-benefit analysis of such a conversion for current homeowners is a significant factor in its effectiveness. Other barriers to new housing must also be taken into account: limits on building heights and on-site parking requirements may further discourage multiple unit development. Salim Furth, a senior research fellow at Mercatus Center at George Mason University, says “waiting for approvals, going through the environmental quality reviews-all of those things are major barriers to housing development.” On the one hand, it may not make much financial sense for homeowners to split their lots and build, given the cost of building and the uncertain return on their investment. A study by The Turner Center at UC Berkeley found that when making more than one unit, the proposed investment will be feasible in only about 5% of the existing single-family parcels—about 410,000 lots—out of the more than 7.5 million single-family lots throughout all of California.” On the other hand, house-rich but cash-poor homeowners may reap a significant benefit by developing their property. Nearly 40% Los Angeles residents own homes worth more than $1 million but earn less than $99,000. Parents looking to increase their intergenerational wealth will consider whether taking advantage of the law will eventually lead to a worthwhile return for their children. Elizabeth Olson, a single mother living in a duplex, recently inherited her grandmother’s home in Land Park, one of Sacramento’s wealthiest, mostly white neighborhoods. She is considering renovating the property into a duplex with enough space for her son, dog, aunt, and partner. Once her aunt passes, she plans to rent the second unit. She says landlords “have always been the boogeyman for me,” but that it’s the only way she sees to afford her son’s college tuition eventually. Her words echo the mentality of many like-minded house-rich but cash-poor homeowners on the issue of intergenerational wealth. “When I die,” she says, “my kid will have wealth. That was never afforded to me. And it’s a game-changer.”
Developers would also be excited to be part of the action: Homestead, a Los Angeles-based developer, focuses on building ADUs in wealthy enclaves. Without the need for a flood of public hearings and neighborhood rebukes, developers save time and energy while profiting from new units. When new construction is sold, Homestead recoups its costs, plus a solid 20% of the homeowner’s profits from rental income.
Homeowners v. Developers
However, depending on where homeowners are located, they may encounter several technical problems associated with the law that will make it more difficult to reap the benefits of developing their land. Capitola Village in Santa Cruz has only around a dozen vacant lots that can currently be split. And one requirement of splitting lots under SB 9 is that each parcel be divided so that neither new lot is smaller than 40% of the original lot. Subdividing a lot in such a manner to meet this requirement can be incredibly challenging for homeowners who do not have as much time apart from their actual jobs, unlike developers whose careers are committed to activities like lot subdivision. Moreover, even if full-time developers can satisfy the 40% requirement, this would mean that homeowners who retain their services will need to share the profits of the rental income obtained from new units with them, which many homeowners may not want to do. There are also similar economic issues with regard to the sale and splitting of land for California residents who want to start investing in real estate. With construction costs for such projects averaging around $300 per square foot, critics of the law like United Neighbors argue that many families don’t have the resources to develop their lots. This predicament can lead to major developers and real estate investment trusts like Blackrock, Invitation Homes, and Invesco Real Estate outbidding California families and taking over the California real estate market.
By law, a homeowner must first pay off their existing mortgage to take advantage of SB 9 and split their lot. This includes in refinancing loans, meaning that only owners who own the land free and clear can split their lots under SB 9. The average mortgage debt in California is about $371,000, well over what most of the 6.8 million Californian homeowners can afford. A construction loan for an average-priced lot under an SB 9 project estimated to be as high as $1 million. These loans, coupled with significant building costs, make it very unlikely that the average homeowner will be able to afford to split their property.24 The effect of the California legislature not accounting for this significant economic obstacle is that the law may primarily advantage rental giants, pension funds, and large investors like Blackrock.24
Homeowners will have to weigh obstacles to development against their current financial situation. Only those in a financial and social state to spend the time, money, and effort to reap the law’s possible benefits will do so. In addition to these factors, homeowners who rent their property for the first time will have to confront the new components of the rental market established by this law.
Tenant Protections Limit SB 9’s Appeal
One of the main goals of this law is to protect tenants in the rental market, which may limit the appeal for landlords to produce more housing. For example, any unit created pursuant to SB 9 must be rented for a term longer than 30 days. So homeowners who split their properties will be limited to a smaller pool of tenants. Further, SB 9 projects must not result in the demolition or alteration of affordable or rent-controlled housing. Single-family homes in Los Angeles are generally not subject to rent control ordinances, so SB 9 developers are limited to such homes in their SB 9 development projects. While the law itself will increase the supply of rental units, the restrictions it imposes on landlords and the protections for current tenants will affect how easily developers can legally proceed with SB 9 lot subdivisions.
Pushback From Wealthy NIMBY Cities
The state Department of Housing and Community Development declared that the quota for the six-county Los Angeles region, is 1.3 million units. One likely reaction to SB 9 by wealthy towns looking to preserve their suburban exclusivity and high home prices is to apply it’s loopholes against the law. While the law does not obligate homeowners but, rather, only gives permission to homeowners to split up their properties into multiple units, individual towns can greatly impact the amount of split-lot units in their districts by blocking the development of such lots entirely through local ordinances as well as lawsuits. Voters in such counties are pressuring their counties to sue the state of California to avoid the new unit quota of 1.3 million units.
Affluent Woodside in the San Francisco Bay Area has done just this by claiming new development would endanger the habitat of the town’s endangered mountain lions. The town manager argued that since mountain lions are a protected species and a candidate for the California Endangered Species Act, homeowners cannot build a split-lot home in a mansion-heavy community like Woodside, where the median household income is more than $250,000. This is just one of an arsenal of creative methods NIMBY cities will use protect their property.
New state laws forcing local governments to plan for more housing is sending local leaders scrambling to find legal means to resist state preemption. Because of opposition to the law from more affluent towns, local governments formally oppose SB 9. On January 6, 2022, the Southern California Association of Governments (“SCAG”), a regional organization, voted to support a ballot initiative that would repeal SB 9 and give local governments a final choice regarding land-use decisions. Many local governments view the law as an overreach of state government authority, especially because it would alter the deeply suburban personality that characterizes wealthier communities. According to Los Angeles’ planning department, 76% of the residential land in the city’s wealthiest neighborhoods is currently zoned for single-family use. The initiative is being considered by a handful of wealthy localities, including Saratoga, Woodside, and Brentwood.30 Other localities are not waiting for the industry to limit the scope of SB 9. Cupertino’s City Council passed an emergency ordinance in December limiting SB 9 homes to no larger than 2,000 square feet.
Developers like San Jose civil engineer Terry Szewcyzk find that local pushback is “frustrating” especially because projects will be much faster and cheaper under SB 9, benefitting both developers and low-income California residents. Szewczyk has already lined up about a dozen clients, ranging from homeowners in Redwood City to Fremont to Concord looking to split their properties and build new homes as well as ADUs. He estimates up to 95% of his future contracts could come through SB 9 proposals. Limited discretionary decisions by local planners and a lack of public hearings has helped developers and homeowners invest less time and money in these new projects. For example, whereas a scheme to split a large property into two homes used to take two years and $200,000, homeowners and developers can now complete the same project in about six months for just $60,000.
However, local agencies are allowed to deny or limit SB 9 projects SB 9 in limited circumstances. For example, a locality can deny a project if it finds “the proposed development project or lot-split would have a specific, adverse impact upon the health and safety of the physical environment and there is not a feasible method to satisfactorily mitigate or avoid the specific, adverse impact.” When Szewcyzk started planning new split-lot developments and ADU additions, a few localities immediately questioned his applications. While SB 9 does attempt to accept new development proposals, it’s inadvertently encouraging more creative forms of resistance to new split-lot projects.
Predictions and Recommendations
Legislators wrote SB 9 to advantage large investors over the average homeowner. Moreover, the economic disadvantages of SB 9 projects, coupled with creative arguments and legislative opposition to the law by wealthy localities, ensure SB 9 projects will be built almost exclusively by affluent developers in poorer areas. Large investors are likely to buy out homeowners in these areas. This will result in a starker difference between already single-family home-rich areas like Brentwood and Calabasas and areas in the North Bay and areas with an already wide variety of housing types, like Buena Park, Santa Ana, and Garden Grove.
Wealthy towns will do everything in their power to avoid integrating SB 9 into their ordinances. This opposition may include taking advantage of federal laws opposing multi-unit construction, such as the California Endangered Species Act, used by the town of Woodside previously discussed. On the other hand, we may see more local opposition to the law. San Jose City Council woman Dev Davis noted that allowing developments in established neighborhoods with limited public input is “a recipe for disaster.” While opposition to the law has increased to 71% by July of 2021, there are still not enough signatures for the proposal to get on the November ballot. What is more likely to happen on the political end is that cities will continue trying to persuade SCAG to sue the state rather than implement the regional housing quota of 1.3 million units. When SCAG refused to spearhead such a lawsuit, the Orange County Council of Governments filed its own lawsuit, contending the 1.3 million figure is twice what it should be. Counties and cities individually, such as Pasadena, Costa Mesa, and Irvine, will continue attempting to appeal these mandates to lower their required number of units to appease their constituents. Moreover, localities will likely continue to avoid the impacts of the law by either passing emergency ordinances limiting SB 9 projects, as the Cupertino City Council has done, or denying the development project altogether if it finds the project would harm the health and safety of the surrounding environment. If ballot initiatives like SCAG’s succeed, citizens, not planners, will increasingly set the policy parameters that shape the build environment of the future. Overall, however, there are many ways, both direct and indirect, localities may continue to oppose the law even without the SCAG initiative.
Gary Painter, a USC professor and chair of the school’s Department of Public Policy, doubts SB 9 will significantly change California communities. “It’s only going to move from single-family to multi-family if there’s demand from the marketplace to do so,” Painter said. “We’re going to see additional housing units built, but it’s not going to be a wholesale change in the character of communities as some might fear.” Unless the market for multi-family housing increases, especially in areas most opposed to SB 9, fewer homeowners and developers will take advantage of the law. Without a natural increase in the market for duplexes, quadplexes and other multi-unit housing, the California build environment will be unlikely to respond to SB 9.
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