California Proposition 10: What Can Real Estate Investors Expect?

Regulatory conditions may be changing with a proposition on the upcoming midterm ballot, and 1031Gateway is keeping an eye on an initiative in California that could have a significant impact on real estate investors: California Proposition 10 (Local Rent Control Initiative).

A “Yes” vote would reinstate the authority of local cities and counties to adopt rent control on any rental housing within their jurisdictions, by repealing the Costa-Hawkins Rental Housing Act. It requires rent controls to provide a fair rate of return for the landlord.

A "No" vote would keep the Costa-Hawkins Rental Housing Act in place, preventing municipalities from enacting rent controls. 

Here’s a brief breakdown of what Costa-Hawkins legislates:¹

1. Cities and counties cannot enact rent control on:
   1. Housing first occupied on or after February 1st, 1995.
   2. Housing determined exempt from local ordinance before February 1st, 1995.
   3. Housing where the title of connected units are each separate (free-standing houses, condominiums, and townhouses.)
2. Landlords are entitled to set rents to market rates when their properties are transitioning from one tenant to the next

If Proposition 10 Passes, What Should Investors in California Real Estate Expect?

Analysts have offered three predictions on how the housing market will adjust wherever rent control is legislated:

1. The housing shortage in California may be exacerbated as developers think-twice about whether building new housing in a city with rent control will offer sufficient returns.
2. Removing Costa-Hawkins will open the ability to place rent control on previously exempt housing, such as standalone houses and condos, which is expected to decrease the value of these properties.
3. According to a 2017 Stanford study on rent control², expect a decrease in the rental housing supply as multi-family owners convert their investment into a property exempt from rent control, such as short-term vacation rentals. Alternatively, properties might be sold to developers who demolish and rebuild on the land.

Ultimately, the effect of Proposition 10 and rent control will be decided by each city. 15 cities³ in California had rent control before Costa-Hawkins, and investors in those markets can likely expect a renewal of rent control laws.

If an investor chooses to sell an income-producing property in a city that legislates rent control, they should consider the advantages of using a 1031 Exchange. If they would prefer to move their investment out of California completely, they should know about “California Clawback Provision” and understand the risk of potentially paying capital gains taxes twice.

¹https://leginfo.legislature.ca.gov/faces/codes_displayText.xhtml?lawCode=CIV&division=3.&title=5.&part=4.&chapter=2.7.&article
²https://web.stanford.edu/~diamondr/DMQ.pdf
³According to the Department of Consumer Affairs: Berkeley, Beverly Hills, Campbell, East Palo Alto, Fremont, Hayward, Los Angeles, Los Gatos, Oakland, Palm Springs, San Francisco, San Jose, Santa Monica, Thousand Oaks, and West Hollywood.