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by Kim Boyd Bermingham

It was long thought that an operating and maintenance petition could not be based primarily on increases in variable-rate mortgage rates, but some recent San Francisco Rent Board decisions have raised questions about those old assumptions.

One large qualification: this is an evolving area of law for the Rent Board, and Rent Board decisions and precedents set by the Rent Board Commission are always subject to change and clarification. If you are thinking about filing a passthrough based on an increase in variable rate mortgage interest, do so with the knowledge that there are no guarantees.

Background on O & M Petitions
O & M petition increases were built into the original San Francisco Rent Ordinance to provide relief to landlords whose expenses greatly increased over a relatively short period of time. This situation most commonly occurs when there is a change in ownership of a building, although it can also be caused by large increases in insurance expenses, acquisition of increased insurance coverage, change in management fees, and other factors. The petition requires that you compare the building’s expenses for any two consecutive 12-month periods, most commonly either the two most recent calendar years or, in the case of a new purchase, 12 months before and 12 months after the purchase of the building. Capital improvements, legal fees, unit turnover expenses and PG&E costs are all expenses that may not be included in this petition.

Insider Tips When purchasing a building, be sure to get all of the prior owner’s expense documentation and cancelled checks for two years prior to the purchase before escrow closes, as well as an authorization to obtain their records from vendors. It’s a good idea to have some sense of how long the prior owner owned the building and how much their overall expenses were before deciding to pursue filing an O & M. For instance, if the prior owner had a management company and you are planning on managing it yourself, you might consider paying yourself a salary so that the new management expenses can be documented. Know that if you put a great deal of cash down on a building, it may negate your ability to do an O & M increase because the prior owner’s debt expenses might be higher than yours.

The O & M petition increase can be up to a 7% base rent increase depending on: the difference in expenses from Year 1 to Year 2, the number of units in the building and the annual allowed increase for the current year. If the differential is big enough, you will be entitled to both the 7% increase and the annual increase due for that year.

Once a petition is filed, the increases must go into effect on the tenants’ respective anniversary dates. The petition requires a great deal of documentation to itemize the building’s expenses, including invoices and cancelled checks. For buildings over six units, an O & M petition cannot be imposed more often than every five years.

Can Mortgage Payments Support an O & M Petition?
If you have a variable rate interest loan and the minimum monthly payment for that loan has increased significantly over a 24-month period, you may be able to qualify for an O & M petition increase.

The Rent Board’s Rules and Regulations section 6.10(e) provides that, “If a building is refinanced or there is a change in ownership resulting in increased debt service and/or property taxes, only the landlord who incurred such expenses may file a petition under this Section, and only one rent increase per unit based upon increases in debt service and/or property taxes shall be allowed for each such refinance or transfer, except in extraordinary circumstances or in the interest of justice.”

While this section seems to indicate that a petition could be filed for each refinance, in general, the Rent Board’s policy is that a landlord can only be allowed one O & M petition increase attributable to an increase in debt service. This means that if you were granted an O & M petition when you first purchased a building based on increased debt service, you would not be granted another O & M petition based on increased debt service, even if your expenses have increased.
If you refinance your building and take additional cash out to buy another building, pay for your child to go to college, or other personal uses, those increased costs cannot support an O & M petition, even if your interest rate increased. While it would seem reasonable for some calculation to be made that could take this additional principal out of the calculations, the Rent Board does not offer any procedure for “backing out” these additional expenses attributable to the additional principal.

If the prior owner did not own the building for more than two years prior to your purchase, you may be disqualified from obtaining an O & M increase. Known as the “Anti-Spec clause,” section 6.10(f) states, “When the unit is purchased after June 13, 1979, and this purchase occurs within two (2) years of the date of purchase of the unit by the seller of the unit to the landlord, consideration shall not be given to the portion of increased debt service which results from a selling price which exceeds the seller’s purchase price by more than the percentage increase in the CPI between the date of previous purchase and the date of current sale plus the cost of capital improvements, rehabilitation and/or energy conservation work made or performed by the seller.” If this is the case, a complicated calculation of the expenses is required and an O & M increase is not guaranteed.
The following common changes in your building’s expenses may also qualify you for an O & M increase: increased property taxes based on a buyout of a partner or inheritance of a building, new or increased management fees if you (or a parent) managed the property and then decide to hire a property management firm to manage the property, or purchase of earthquake or other increased insurance coverage.

Owners often ask about incremental but significant increases in expenses over several years, such as water, garbage and other utilities. Unfortunately, the O & M petition looks at a snapshot of a 24-month period, and often these types of expenses don’t go up enough during a 24-month period to justify an increase.

 

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The opinions expressed in this article are those of the author, and do not necessarily reflect the viewpoint of the SFAA or the SF Apartment Magazine. Kim Boyd Bermingham has been a consultant and owner of Rent Board Passthroughs for ten years, specializing in Rent Board petitions and other services for landlords, including rent increase letters and security deposit accounting. She can be contacted at 415-333-8005 or boydberm@earthlink.net. Copyright © 2008 by Black Point Press. All rights reserved.