Environmental, Housing Issues are Grabbing the “Headlines”
Regulations continue to have a significant impact on what commercial real estate (CRE) professionals can and cannot do — sometimes for good, while other times, not so much. Whatever the local and regional trends, SIORs agree it’s critical for them to be up to speed on what those regulations are, and what may be coming down the pike.
There are "quite a few regulations" relating to land use, protecting the environment, safety, and growth, notes Tim Vi Tran, SIOR, president of the Ivy Group in Fremont, Calif. “One that has been around a long time is CEQA (The California Environmental Quality Act) — all developers must comply with it as part of the review process,” he explains. The legislation was intended to address the environmental impact of proposed developments, “But you get a lot of NIMBY’s (“Not in My Back Yard”) who use it to derail or delay projects, and that drives up costs,” he relays. “Developers hate it, environmental people love it.”
“As a developer in central Iowa, we face regulatory challenges at the local, state, and national level,” adds Adam J. Kaduce, SIOR, senior vice president of R&R Realty Group. “We mostly focus on managing the challenges from local governments on zoning and building code issues.” Their impact on his day-to-day business, he shares, has continued to grow.
Landon Williams, SIOR, senior vice president, capital markets, with Cushman & Wakefield in Memphis, Tenn., chooses to start with the positive. “The 1031 exchange and capital gains tax rate are both government regulations that have significant impact on commercial real estate,” he notes. “The current regulations help incentivize activity, which grows the market overall.” Zoning regulations and land planning initiatives, he adds, also have significant impacts on commercial real estate development.
The developers are being asked to revise their plan, add more affordable housing, and maybe even contribute to city funds for parks and road improvement. A project can literally sit there for years because that’s so hard to do.
MOST IMPACTFUL REGULATIONS
Which regulations are having the greatest impact on CRE markets? “One of the biggest factors for us is stormwater detention,” states Kaduce. “There have been regulations around the capacity of infrastructure and detention ponds. Changing weather patterns have pushed municipalities to update regulations to accommodate for these weather incidents.”
What has the impact been on the market? The regulations, says Kaduce, have been increasing, so developments that were master planned over the years have to be updated when it comes time to develop to ensure they meet the current standards. “This has created challenges around predicting the cost of developments over time,” he explains. On the plus side, he adds, “These regulations are set forth by local municipalities, and fortunately in our market, that means we have the ability to meet with the officials and discuss solutions that meet regulations and don’t overburden or kill development.”
“Some municipalities will not allow any sort of new developments for apartments, but it is interesting because some of those same municipalities will allow apartments, but only if they are included in a mixed-use development,” says Williams. “Additionally, there is certainly a NIMBY attitude toward new industrial developments in some jurisdictions.”
Tax incentives, Williams continues, have been implemented to promote new development for certain asset classes, but on the other hand, zoning and land planning restrictions have been put in place to block certain types of development. “The regulations can vary from jurisdiction to jurisdiction — even in the same metro area,” he notes.
Tran says that weather-related regulations and NIMBY activity have also been impactful in his state. “We have a severe water shortage in the Bay area,” he shares. “On one project we worked on that’s a three-hour drive north, the client bought 104 acres and could not develop on the land because of a water moratorium.”
There are limitations being placed on large-scale development “All across the state,” he continues. For example, he shares, “SB9, enacted in 2021, is a landmark law that allows property owners to split sites into two parcels, building two units on one lot. This is intended to increase house density. Now NIMBYs are using it as a weapon.”
Another key California regulation, Title 24, includes a specific building standard code for construction that includes fire safety, energy efficiency, structural integrity, and affordable housing. “A lot of cities in the Bay area require developments to have a number of available affordable housing units or pay fees in lieu of that,” Tran explains.
All in all, he summarizes, “We have closed projects with clients related to topics on flight to quality, regulations, and future trends.” On one project in which he was not involved, he reports a lot of push-back from locals who did not want to have a large-scale project in their area. “The developers are being asked to revise their plan, add more affordable housing, and maybe even contribute to city funds for parks and road improvement,” he shares. “A project can literally sit there for years because that’s so hard to do.”
CHANGING THE CRE BUSINESS
SIORs agree that the impact of regulations on CRE has also brought changes in the way they do business, and/or advise clients. “We have to be a little more cognizant in the ways we advise clients,” says Tran. “Specifically, we have to address regulatory concerns. Maybe the suggestion is to look at other development sites, or to get engaged with the community sooner rather than later to understand their timing. We look at ways to compromise so as not to give up profit margin but still make a project viable.”
Specifically, for example, when it comes to large-scale developments, his job is to run the numbers and figure out if the developer should, for instance, have 12% of the housing units be affordable or pay the fee. “We spend a lot of time prioritizing what benefits the community gets on these projects, too,” he adds. “All of that combined has an impact on how we advise clients and suggest what to do.” “When we advise clients, we have initial conversations with the local governments to ensure the site will have the proper infrastructure, and the costs of that work are accounted for,” says Kaduce. While he feels fortunate that Iowa remains a very pro-business state, “It is still important that we stay in front of local and state elected officials. We share with them our challenges and want to ensure regulation stays consistent.”
In Iowa, he explains, development incentives are typically done through TIF (Tax Increment Financing) districts that equate to property tax abatements or rebates. Accordingly, “We stay active
with local and state governments, sharing with them the benefits of these programs to keep them available,” he states.
It is important to have a solid understanding of the government regulations that impact our industry, but it is of equal importance that I have close connectivity to the subject matter experts in government and in the private sector who can provide assistance.
“As a commercial real estate investment advisor,” adds Williams, “it is important to have a solid understanding of the government regulations that impact our industry, but it is of equal importance that I have close connectivity to the subject matter experts in government and in the private sector who can provide assistance.”
Williams says he also remains alert for potential regulatory changes in the future. “Any time the 1031 exchange, capital gains tax rate, step-up in basis upon death, or a moratorium on certain types of developments are being considered for revision, I am watching closely because any significant change would likely result in new strategies for real estate investors,” he shares.
“We stay attentive on the wetland regulations for development,” Kaduce stresses. “The wetland mitigation regulations have changed significantly, including a decision from the United States Supreme Court. Since the court has ruled, we haven’t seen the uniformity of guidelines and enforcement that everyone was hoping for.
“We are also watching regulations on commissions with the NAR settlement, and the FCC rules around non-compete agreements,” he continues. “Both of these issues have an impact on our industry, and we are awaiting clarity on the path forward.”
As for Tran, he continues to keep a careful eye on CEQA. “I’m concerned it will increase regulatory burdens, resulting in longer timelines and more litigation,” he explains. “That will always be around.” Another concern, he adds, are recent rent control and tenant protection laws. “They were always local, but now there’s statewide rent control so it’s increasingly hard to raise rent and evict tenants; that limits profitability,” he explains. And SB9, he adds, creates opportunities but also creates challenges related to infrastructure and water shortages.
Finally, he notes, there have been many discussions recently about climate resilience and disasters — i.e., wildfires, rising sea levels. “This may require stricter building codes, and the use of more sustainable material, which will increase construction costs and limit areas that can be developed –— at the same time developers are having a hard time getting funding due to the higher risk of fires,” he warns.
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