Condo conversions transform market

Trend can be salvation for new buyers, but the bane of displaced renters
By Lori Weisberg
UNION-TRIBUNE STAFF WRITER
April 17, 2005

First-time home buyer Kuazine King brags that on a clear day he can actually glimpse the ocean from the Scripps Ranch condominium he and his wife purchased last year for $369,000, a bargain in an area where the median-priced home exceeds $700,000.
No matter that this two-bedroom two-bath condo began life 20 years ago as an apartment. It's now appointed with new cabinetry and flooring, granite countertops and updated light fixtures.

"Maybe you could buy an older condo for the exact same money, but there's no way you could step in and get that same kind of newness you have here," said an ebullient King, who formerly rented in the 62-unit complex and recently started work as a real estate agent. "Tenants just aren't educated enough to know how great a deal this can be for someone just starting out. Anyone can buy."

Tell that to Richard Helwig, a five-year tenant at a South Bay rental complex slated for conversion to condominiums. With limited income and burdened with credit card debt, Helwig said there is no way he could afford a condominium, and neither could most of the tenants at the 188-unit complex where rents are still relatively affordable compared with other parts of the county.

"If they convert, all these families will be out," said Helwig, 63, a computer literacy teacher at a Catholic elementary school who fears that many in the complex will be left without a place to live. "As soon as they take this off the listing of available apartments, where do the people go? People don't like to be uprooted."

Such is the conundrum facing cities throughout San Diego County, which has experienced explosive growth in the number of rental complexes – large and small – being transformed into for-sale condominiums. Catching the cities by surprise, the number of converted condo sales has soared from just 306 in 2001 to 3,492 last year, an increase of 1,041 percent, according to MarketPointe Realty Advisors, which tracks new-home development. The firm reportsan additional 15,000 to 18,000 rental units could be adapted for condominium sales in the next few years.

Nationally, San Diego County has become a magnet for conversions, second only to Miami in percentage of apartments converted, said real estate broker Jon Busse.

To their supporters, condo conversions are a desperately needed antidote to an inflated housing market that has shut most renters out of homeownership. With newly converted condos often selling for as much as $200,000 below the median-priced home, a growing number of households are trading in their rent checks for mortgage payments.

The flip side, critics say, is that the rapid transformation of apartment buildings into for-sale housing is forcing the displacement of thousands of tenants while depleting an already limited supply of rental units. With a vacancy rate below 4 percent, they worry that displaced renters will be left with far fewer choices when they have to find a new place to live. In short, they say, it is a recipe for an even worse housing crisis.

"Conversions are a significant gold mine for the apartment owners or whoever is buying these," said La Mesa Mayor Art Madrid, whose city has opted to sharply limit conversions. "All you're doing is creating a greater population of homeless people when you evict individuals living in these apartments because that's pretty much what they can afford to pay."

La Mesa, a largely built-out city, regulates condo conversions by tying them to the number of apartments built during a two-year period, which has the effect of allowing few, if any, new projects.

Yet in neighboring El Cajon, where renters far exceed homeowners, the city has courted condo converters, believing that the refurbished buildings will boost homeownership while sprucing up declining neighborhoods and yield higher tax revenues.

"What really messed up El Cajon is that in the '70s and '80s we had an overabundance of apartments built, and we're still paying the price for that," Mayor Mark Lewis said.

"Homeownership is the key to everything, and this is about the only thing that people can afford these days. We're not depleting the rental stock. We already have more than our fair share. If you don't want your own home, then go down the street and find a place to rent."

Most elected leaders, however, have found that the concerns surrounding condo conversions are not so easily fixed with a single, surefire remedy. Increasingly, cities such as Imperial Beach, El Cajon and San Diego have been re-examining their regulations in response to the flood of conversion applications.

Some are beefing up development regulations governing reconstruction, while others are expanding relocation benefits for displaced tenants. In San Diego, for example, condo conversion developers must provide tenants who earn less than the median income with the equivalent of three months' rent, while in Imperial Beach the maximum benefit is two months' rent.

Though concerned about the negative consequences for some renters, cities nevertheless welcome the increasing supply of affordable housing for aspiring homeowners. Although prices of newly renovated condos have crept up over the past two years, they tend to start in the low $200,000 range for a one-bedroom unit and move up to the high $300,000s. By comparison, a new condominium averages nearly $500,000.

Despite the lower prices of converted condos, some affordable-housing advocates have called for a temporary moratorium in order to give cities breathing room to cope with the rapid rate of conversions.

In San Diego, the City Council's Land Use and Housing Committee held a joint workshop last month with the Planning Commission, which routinely was having its weekly agendas dominated by conversion applications, often averaging five to six a week. A number of potential remedies were discussed, but no firm direction was given. The commission will meet again May 26 to consider specific proposals that it will forward to the council.

Councilwoman Donna Frye, who serves on the committee, later said she would not be averse to a temporary moratorium "until we can have a full public hearing and make sure the issues we're hearing about are addressed."

In the meantime, requests to convert continue unabated. From 1999 to January 2004, San Diego received applications to convert 2,275 rental units into condominiums. In just a year since then, the number of units targeted for conversion rocketed to more than 8,000, which doesn't include an unknown number of projects that do not require city approval to be legally marketed as condos. City officials believe there are least 2,600 additional units in that category.

El Cajon has been similarly inundated, having approved projects to convert 1,800 units in the past two years.

"We have two (conversion) projects every Planning Commission meeting. We had been having three every meeting, but we don't have the staff to handle it," said Jim Griffin, El Cajon's community development director. "It seems like all we do is talk to people about condo conversions."

Condominium conversions typically encompass two types of development. Throughout the county, there are many complexes dating to the 1970s and 1980s and earlier that were built as condos but were rented out as apartments because of economic conditions at the time.

Now that condominiums are regarded as a far more lucrative investment than rentals, companies that have carved out a niche as condo converters are snapping up these older buildings, extensively renovating them, updating the interiors with modern amenities such as granite countertops and stainless steel appliances and then selling them as condos. Because the complexes originally were mapped as condominiums, they are not subject to city review.

Meanwhile, apartment owners hoping to capitalize on the rapid run-up in housing prices are rushing to get approvals to turn their rentals into condominiums, a process that can take as long as 18 months. They typically turn around and sell their newly mapped projects to the condo converters. Requirements for structurally converting apartments to condos vary widely from city to city, with some, such as San Diego, having no special conditions relating to structural improvements.

"The increase is attributable to the fear of apartment owners that the (conversion) process will get altered to their detriment," said Paul Kerr, president of Davlyn Investments, a prolific condo converter, with six projects alone in El Cajon. "Even if you have no intention of converting your apartment building, it's probably in your best interest to push through the entitlement process because at the end of the day the price of condos has increased significantly faster than rents."

Despite fears that renters are facing massive displacement, condo converters insist that the vast majority of their buyers are former renters who have never owned a home, meaning their departure will open up a rental vacancy somewhere else. (A recent MarketPointe survey of 550 buyers of converted condos found that 72 percent were first-time buyers.)

Converters also point out that they typically offer discounted prices or other financial incentives to help tenants buy condos and remain in their buildings, though they acknowledge that only a small percentage of the tenants end up buying in the complex where they live.

"I sell condos every day to people who would still be living in a rented apartment if it were not for the availability of a condo conversion," said Ralph Giannella, owner of Premier Coastal Development, which plans to sell 500 converted condos this year. "Remember, the people buying are coming out of a rented apartment somewhere else.

"Let's face it, there are so many positives with conversions. The only negative is that tenants are being displaced, but one of the biggest reasons tenants don't buy is the lack of knowledge that they can buy."

"Baloney," said Catherine Rodman, an attorney with Advocates for Social Justice, which assists local low-income households. "The losers are the tenants who cannot afford to buy. And it doesn't matter how much homeownership counseling they get, if there's not the financial and political support to help the tenants participate, there's massive displacement of these tenants."

The nonprofit organization Community Housing Works is holding workshops to educate tenants in San Diego about loan programs and subsidies that can help renters purchase lower-cost condos. With good credit and little or no debt, households earning as little as $36,000 a year could afford a $265,000 home, as long as they can qualify for the special home-buying assistance programs, said Gabe del Rio, director of the nonprofit's homeownership center.

Although Community Housing Works has not been tracking buyers of converted condos, last year it helped 50 first-time buyers purchase homes costing $325,000 or less, del Rio said.

A year ago, the city of San Diego set aside nearly $1.9 million to assist tenants whose complexes are being converted to condos, but so far no one has taken advantage of any of these first-time buyer loans. Some tenants simply are not interested in buying their units while others don't think they could afford the purchase price, according to housing officials.

Ultimately, many first-time buyers, who do not have ready cash for a down payment, opt to go with financing packages that require little or no money down.

Beauty college instructor Paul Ancho recently purchased a two-bedroom, two-bath condo in El Cajon for $279,000. His monthly payment, with 8 percent down and two mortgages, is $1,500, not including taxes, insurance and homeowner fees.

"I feel fantastic," said Ancho, 39, who noted that he spent the past five years living with his parents to save money. "I feel a lot more responsible and have a better outlook on life."

Purchasing a condo is not an option for Tamar Booth, 75, a retiree who can barely afford the $1,067 monthly rent she pays for her University City apartment. Notified that the complex will be converted to condos, she is desperately scouring ads to find a rental she can afford in a neighborhood offering the amenities she now enjoys in University City.

"I thought I was really set here, so it's very upsetting, and it's causing tremendous expense for me to move," said Booth, who does not qualify for San Diego's three months of relocation assistance because her complex was originally mapped as a condominium development. "It's giving up a whole lifestyle. It's very depressing."

Concerned about the proliferation of condo conversions, Rep. Bob Filner, D-San Diego, has joined ACORN, an advocacy group for low-income households, in calling for a citywide moratorium on conversions. He is especially troubled by the planned conversion of the 188-unit Southgate Village apartments, a particularly large complex in Otay Mesa, located in Filner's district. The complex still requires City Council approval before reconstruction and condo sales can move forward.

"Unless you can provide the renter with both down payment and closing costs, they'll never be able to afford to buy these," Filner said. "I would have a conversion ordinance that would put the burden on the city and the developer to find a program suitable for that to happen."

Condo converter Matthew Maisel of Maisel Presley Inc. worries that excessive efforts to regulate condominium conversions could have the effect of making such housing unaffordable. The result, he said, would be to eliminate the one source of entry-level housing that remains in San Diego.

"San Diego has a housing crisis, but not in the rental stock," Maisel said. "It's in the for-sale stock. If you cut the legs off that by modifying the condo conversion ordinance, you'll eliminate the affordable housing stock, thus driving up prices in a fashion heretofore never seen in San Diego."

Some Experts Question Whether Downtown Condo Boom Will Continue

By PATRICK HEALD
Contributing Writer
Published April 7, 2005

With more than 7,400 new downtown San Diego condominiums scheduled to come on line for sale by 2008, concerns are rising that the rapid price increases of the last few years could be coming to an end.

In June of 2004, the average sale price for condominiums downtown was $1,005,161, according to figures from the San Diego Multiple Listing Service. As of the last week of March, the average sale amount was $854,039. The average sale price actually fell to $774,300 during the first week of November 2004, the week of the November general election. Since then the average sale price each week has floated between $790,415 and $854,039. The average price is due both to market conditions and to the type of units (size and location) that are available for sale.

The 7,400 units represent almost double the number completed between 2000 and 2003, according to San Diego real estate consultant Gary London who supplied these numbers to Voice of San Diego.

London, president of the real estate consulting firm The London Group, said the number of people who have already bought downtown condos and are now trying to sell them has also increased.

"We have (more than) triple the inventory of resale units on the market now from this time last year," London said. He says 253 downtown condominium units are on the market now, compared to 57 at this time last year.

Investors waiting to sell
Real estate professionals say some investors are now biding their time before selling, speculating that the precipitous rise in real estate prices here will continue, and that they will see the kind of profits investors usually only dream about.

"I would say [the rate of speculators] is about 30 to 40 percent," said real estate broker Lew Breeze who handles properties in Little Italy. He says many buyers don't move into the units, and aren't even bothering to rent them out.

"I'm seeing a lot of people buying second and third homes," Breeze said. "And then [they are] leaving them vacant, paying $700 a month homeowner's fees … It wasn't like that two or three years ago."

London said downtown has historically attracted real estate speculators, but he noted that many of the approximately 1,500 units coming on line this year are in the East Village, which has more affordable housing that will attract investors.

"If history is our guide, [the rate of speculators] will be about 30 percent, but it could be lower because the units are in East Village," said London. "But there are people there who are obviously going to live there and flip."

Flipping is the practice of buying property for the sole purpose of selling it quickly after it has appreciated over a short period of time.

Breeze says the practice is a lot more common now than it used to be. "People are looking to flip," Breeze said. "People were coming in 2003, buying it and flipping it in 2005 and making $200,000."

Shiller says downward price adjustment could happen
The man who correctly predicted the stock market's decline in 2000 says the speculation in downtown San Diego condominiums reminds him of 1929 just before the stock market crashed.

"People can't imagine that this is a bubble, but it is," said Yale University economics professor Robert Shiller. Shiller is the author of "Irrational Exuberance," in which he predicted the collapse of technology stocks in 2000. Shiller says the frenzy of buying in San Diego real estate over the last four years mirrors what happened in 1929, and he says conditions are right for a major downward adjustment in overpriced real estate markets like San Diego.

"It's happening now like in the '20s," Shiller said of housing prices in San Diego. "People then thought that the market can only go up, and they were trading stories about how much money people made. And you had economists saying it was fundamentally sound, that prices would never go down."

Shiller has authored a second edition of "Irrational Exuberance," in which he looks at the dramatic increase in housing prices throughout the country, and the perception that real estate investment is risk-proof. He says even in light of the real estate collapse of the early 1990s, when housing prices in Southern California dropped by as much as 20 percent, many buyers today still think there is no downside to real estate investment.

"It used to be that you had people who said home prices had never fallen," said Shiller. "But the '90s changed that. Now they say [prices] may drop, but they will come back stronger that ever."

Disagreement with Shiller's view
Not everyone agrees with Shiller's gloomy view of real estate futures.

"Downtown has been a strong investment for quite a while," said Mark Riedy, executive director of the Burnham-Moores Center for Real Estate at the University of San Diego. "All the stars are aligned to make downtown San Diego a good place to live and work. I don't see any indication that downtown housing is going to be a money-losing proposition."

Riedy says he believes there is enough insulation against downward pressures on the market to protect buyers who invest in real estate in downtown San Diego. He cites the growth of the restaurant and entertainment industries downtown, the ballpark redevelopment project, and the city's commitment to promote development through the Centre City Development Corp. Riedy also believes that even if the number of buyers who are speculating on downtown real estate approaches 30 percent, the vast majority can handle the risk.

"Eighty or 90 percent of that 30 percent have staying power to last for the long haul," Riedy said. But even though Riedy is optimistic about the investment potential of downtown condominiums, he agrees that a correction is taking place.

"I think it's probably a healthy correction," Riedy said. "Two months of reduced sales does not surprise me. It may cause some people to drop prices, maybe. Is it going to cause the bubble to burst? No. But I think we are past the peak."