mixed use developments: building a community

Volume 18, No. 2 Fall 2006

REAL PROPERTY SECTION

R E V I E WLos Angeles County Bar Association

Highlights of this IssueTrends in Real Estate: An Economic Forecast for the Market . . . . . . . . . . . . . . . . . 1

Mixed Use Developments: Building a Community . . . . . . . . . . . . . . . . . . . . . . . . 3

Financing Today’s Deals: Issues Concerning TICs, Defeasance Options and more . 5

Give and Take: The Impact of Condemnation, Redevelopment and . . . . . . . . . . . 8

What Happens When the Lights Go Out . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10

Workouts: The Next Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

Real Estate Joint Ventures and Preferred Equity Investments . . . . . . . . . . . . . . . . 12

Serving Multiple Masters: Can One Attorney Represent All Parties. . . . . . . . . . . . 13continued on page 2

O n April 19, 2006, Stan Ross of the USCLusk Center for Real Estate opened the2006 Crocker Symposium with an

overview of the real estate market. Stan Rossis Chairman and Senior Fellow of the LuskCenter and plays an active role with the UrbanLand Institute. Although not part of the pro-gram, attorneys new to a real estate practice maybe interested in Stan’s new book, The Inside Trackto Careers in Real Estate, which is published byULI.1 Stan has an accounting background, but

he provided a thorough economic forecast forCrocker attendees,based in large part on researchof the Lusk Center. The following is a sum-mary of his economic forecast, as presented inthe Crocker Symposium Introductory Session,Overview of the Real Estate Market: Where WeAre and Where We’ll Be.

L O S A N G E L E S C O U N T Y B A R A S S O C I A T I O N

Benjamin S. Crocker Symposium onReal Estate Law and Business 2006

Economic ForecastNational Economy. In line with the fore-

cast of the Federal Reserve, the Lusk Centerpredicts that the national economy will continuea strong rate of GDP growth throughout 2006and into 2007.2 Similarly, job growth will con-tinue in across sectors and unemployment willremain low. The hourly pay of production work-ers is rising at a particularly fast pace, which,combined with steep oil prices, raises some infla-tionary concerns. A practitioner is well-advisedto monitor consumer spending as a key indica-tor of things to come.

California Economy. The SouthernCalifornia economy is more diversified andemployment rates are recovering at a faster ratethan in the nation overall. Substantial interna-tional trade is a major factor in California’s cur-rent economic climate. Los Angeles County isparticularly well-diversified by industry. Thisis significant because the local economic down-

Message From the EditorThis Fall 2006 issue of the Real Property Section Review includes valuable information presented at the Benjamin S. Crocker Symposium.

We believe the information summarized by the following articles written by our volunteer Reporters is something that should be shared with the entire Real Property Section.

We hope you enjoy reading this month’s Review. —Daniel L. Goodkin, Esq. [email protected]

Trends In Real Estate: An EconomicForecast For The Market

2 3.5 percent GDP growth is expected.

1 The Young Leaders Group of ULI Los Angeles ishosting a related career program on the evening ofMay 31, 2006. Attendees will receive a copy of TheInside Track to Careers in Real Estate and the oppor-tunity to participate in a discussion with Mr. Rossand other industry leaders.

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C an you imagine a Los Angeles in whichyou could walk to your market? Haveyou ever wondered what it would be like

to walk to the neighborhood cafe or the latestnightclub? Do you remember the scene in L.A.Story where Steve Martin gets in his car to driveto his neighbor’s house about twenty feet away?Or the song entitled “Nobody Walks in L.A.?”As Los Angeles tries to steer away from the sub-urban model of development and planning,developers and city officials are embracing higherdensity developments which mix residential,commercial, entertainment and parking. As apart of the USC Gould School of Law/LosAngeles County Bar Association—Benjamin S.Crocker Symposium on Real Estate Law andBusiness 2006, a panel entitled “Density andMixed Use—Walk the Walk and Talk the TalkFrom Entitlements Through Implementation”brought together developers and attorneys todiscuss their current mixed use projects and theissues that arise in these projects.

Establishing A Framework:Governmental Efforts

While mixed use developments were the-oretically possible in Los Angeles prior to 1999,in reality they were not occurring. Accordingto Jane Blumenfeld, the Principal City Plannerfor the City of Los Angeles, the city began ana-lyzing how it could facilitate mixed use devel-opments and eliminate the barriers which werepreventing the theoretical from becoming real-ity. The catalytic change in the government’sapproach was the 1999 Adaptive ReuseOrdinance. Designed to allow the conversionof old, abandoned downtown office buildingsinto housing, the ordinance waived or relaxedmodern zoning requirements, including park-ing. Once adopted, Ms. Blumenfeld noted thatthe city received a flood of applications for con-versions under the ordinance and the results areevident to anyone who has explored the down-town housing market recently. The success ofthe ordinance has led to its expansion intoHollywood, Koreatown, Chinatown and a mod-ified version which applies citywide.

The next step in the city’s plan to encour-age higher density mixed-use development wasthe Residential Accessory Services zones (or “RAS”for those in the know). Geared toward spurringdevelopment in transportation and commercialcorridors, especially along the metro lines andmajor boulevards, RAS zones primarily allowfor increased floor area (3:1) and height (up to

50 feet) while reducing setbacks for residentialor mixed use projects constructed on commer-cial corridors. A RAS3 zone allows for 54 unitsper acre while a RAS4 permits 108 units peracre. RAS zones allow ground floor retail(euphemistically labeled “neighborhood serv-ices”) and housing (either apartments or con-dominiums). Ms. Blumenfeld noted that retailis currently limited to the first floor of the proj-ect but planners are considering allowing addi-tional floors of retail or other uses. A projectunder RAS can also be 100% residential. Openspace and parking requirements remain the same.

Implementing the Theoretical:Different Concepts of Mixed UseDevelopment

Mixed use developments give rise to a num-ber of issues that are not as straight forward asa more traditional one-use development. Thepanel noted some of the issues and how theydealt with them in their projects. Those issuesinclude how to structure a project, parkingarrangements and how to build a community.

Structuring the Development: ThePhysical and the Legal

The initial question in a mixed use devel-opment is how to structure the project, bothphysically and legally to take into account thedifferent uses. For example, should residentialand retail be part of a single condominium regimeof ownership? Are the residents and the shop-keepers part of the same Home OwnersAssociation (HOA)? Do the tenants and theretail guests park in the same parking garage?Do they enter the project through the sameentrance?

As to whether a mixed use project shouldbe structured as one single condominium,Anthony Canzoneri, the Chairman of Brown,Winfield & Canzoneri and the panel modera-tor, thinks not. For projects encompassing sig-nificant retail, commercial, hotel and parkingcomponents,he notes that a single condominiumin which retail and residential owners are mem-bers of the same HOA may not be the bestframework for long term ownership and financ-ing. Mr. Canzoneri instead suggests that an airspace subdivision that creates conveyable andfinanceable subdivision map fee interest air spacefor each component is usually the betterapproach.

Using an example of a traditional mixeduse development with ground floor retail, upper

level residential and subterranean parking, Mr.Canzoneri noted that retail would typically usethe first level of underground parking. Assumingthat the residents used the second and third levelof parking, the parking could be structured witha separate entrance, or, more likely, an easementthrough a portion of the upper levels.

One option is to create a single block of airspace for the retail level and its parking as partof the air space subdivision map. That air spacecan then be conveyed, financed or leased inexactly the same way and with the same legalstanding as a lot on a traditional horizontal sub-division map. The separate air space lots can allsubscribe to a Reciprocal Easement Agreement.Such an agreement would govern the relation-ship among the different owners with respectto the operation and use of the project. Suchareas typically include maintenance, insurance,support, damage, destruction, rebuilding andany joint pedestrian, vehicular or maintenanceaccess and use areas.

Kenneth Calegari discussed ChampionDevelopment’s Gaslamp City Square in SanDiego, in which 223 condominium housingunits and 65,000 square feet of retail sit atop580 subterranean parking spaces. In this proj-ect, Champion created one retail unit, which itowns along with the parking garage. Mr.Calegari, the Division President in San Diego,noted that the entire structure of the GaslampCity Square project is owned by the HOA,mainlyfor insurance benefits.

While the City of West Hollywood,accord-ing to Jason Bohle Of Combined Development,Inc., is considering a mixed use ordinance, theyhad not yet adopted one when Combined begandeveloping its project. Combined Propertieshopes to use their development as an opportu-nity to show the city what could be accomplishedif the city were to adopt their mixed use ordi-nance. The current plans for the project, at SantaMonica Blvd. and King’s Road, has ground floorretail with 3 floors of single story condominiumunits and one set of two floor townhouses aboveit. The project is a mix of one and two bedroomunits and every unit has balconies facing SantaMonica Blvd or the rear landscaped portion ofthe building. The building will also have a res-idential lobby on Kings Road. As currently envi-sioned, the project will consist of four differentair space condominiums: parking, retail, com-mon area and residential.

Mixed Use Developments: Building A CommunityBy Laine T. Wagenseller, Wagenseller Law Firm

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In the model outlined by Mr. Canzoneri,residential “for sale” would be included in onecondominium. Within this one condominium,the residential air space lots would be dividedinto condominium air space units (which wouldbe depicted on a condominium plan, which Mr.Canzoneri notes should not be confused withthe subdivision map). With the residential por-tion of their project, Combined Properties facedtwo challenges, both arising from the city’saffordable housing requirements. One is recov-ering the costs, which exceeded $500 per squarefoot while the space cannot be sold for morethan approximately $100 per square foot. Heobserved that such a difference was a large lossto absorb for a relatively small project. The sec-ond issue was operational—how to best struc-ture the condominium entity if the affordablehousing is spread throughout the project.

Structuring the project with separate com-ponents can help isolate onerous or restrictiveconditions, such as those arising from afford-able housing mandates or redevelopment agencyrules. For instance, a developer may not wantto have its residential unit subject to commer-cial building code requirements and may notwant to have retail access and Americans withDisabilities Act requirements apply to the res-idential component. Noting that prevailing wagerequirements can add 5 to 25% of the total hardconstruction cost to a project, Mr. Canzoneriagain encouraged separation of the part of theproject receiving public assistance from theremainder of the project. Moreover, with regardto public assistance, it is important to segregateand allocate to the appropriate downstreamowner the burdens, restrictions and benefits ofthe assistance. A developer wants to be surethat the burden applies only to the use and own-ership which received the benefit.

Parking: Sharing Is A VirtueParking presented a challenge to all of the

mixed use projects discussed. Those issuesincluded the separation of residential parkingfrom the retail parking while also optimizingthe parking spaces so that retail parking doesnot sit empty at night while residential parkingsits empty during the day.

Amy Forbes, a partner at Gibson, Dunn &Crutcher, LLP, outlined the competing inter-ests she faced in working on the developmentof Bay Meadows Racetrack in San Mateo,California. The project encompasses over 2 mil-

lion square feet of new development includinga 900,000 square foot office campus, 760 sin-gle-family and multi-family housing units anda mixed use complex including a market, healthclub, retail, live/work and office components.The uses were mixed by zone,meaning the unde-veloped land was divided into an office campus,residential zone and retail area, but none of theactual uses were mixed in with each other. Forexample, while the office building and the retailcomponent were separate buildings, the spacein between comprised surface parking lots. Thecity wanted shared parking while the retail ten-ants and multi-family residents insisted onreserved parking. The developer decided togrant reciprocal easements over the same park-ing lot to neighboring owners to reduce theamount of parking and ensure its optimum uti-lization. All of the parking is commonly man-aged.

The remaining projects, which involvedboth residential and retail components withinone building, all involved parking within thatone building. Because of the parking garage’sbond financing in Champion Development’sCollection at Downtown Burbank, Ken Calegariexplained that Champion entered into two sep-arate construction contracts so that the prevail-ing wage required by the bond financing waslimited to the parking garage. The Collection atDowntown Burbank will include 60 live-worklofts,58 luxury condominiums and 50,000 squarefeet of retail.

In Champion’s Gaslamp City Square proj-ect in San Diego, the project is attached at theparking level and the garage is owned as oneunit. The parking is not a member of the HOAbut the Covenants, Codes & Restrictions(CC&Rs) provide for the recoupment of main-tenance from the HOA for that portion of theparking used by the residents. The residentshave an exclusive use easement for the lowerparking level.

Calling parking the “most difficult part ofthe project,” Jason Bohle of CombinedProperties, Inc. explained how the economicswere tight in building subterranean parking inCombined ’s mixed use project in WestHollywood. The developer faced an issue inseparating the retail parking from the residen-tial parking. Similarly, for parking to meetrequirements on such a small lot, Bohle wantedto take advantage of a shared use permit thatwould allow retail spaces to count towards res-idential guest parking requirements. The ideais that residential guests are most likely to needparking when demand for retail spaces is weak-est. The developer also noted that to offerenough spaces many of the spaces for residents

needed to be tandem. Given the tight dimen-sions of many infill lots, Bohle believes that tan-dem parking will be an increasingly commondesign for new urban residential units.

Mr. Canzoneri observed that we havealready seen managed, stacked and valet park-ing for luxury condominiums in Westwood. Mr.Canzoneri also noted that the parking can beincluded with retail, office and/or hotel com-ponents in an air space subdivision of its own.The owner of the retail component asset couldown and manage the parking garage, subject toa Reciprocal Easement Agreement with the res-idential component.

One option with regard to residential park-ing is to sell a contract right to parking, mean-ing that the resident has the right to park in thegarage but does not own a particular parkingspace. Mr. Canzoneri notes that this type ofstructure has several benefits. First, a retail orcommercial owner could theoretically maintainand manage the garage at a lower cost than atypical residential HOA. Second, this arrange-ment would allow for efficiency of stacked andvalet parking. Third, when, for example, leaksoccur, the resident is moved to a different spacewhile the problem is fixed. This minimizes con-struction defect liability damages and lawsuits.

Building a Community: Can’t We AllJust Live Together?

According to Ken Calegari, ChampionDevelopment looks to build communities, notjust buildings. Some of the more intangibledecisions to be made in a mixed use projectinvolve creating the right mix of retail tenantsand restaurants to serve the residential tenants.Champion believes strongly in amenities, includ-ing swimming pools, and quality constructionfor its residential units. They therefore also seekquality retail tenants that their residents are likelyto visit.

Jason Bohle, Combined’s Director ofDevelopment, noted that Combined’s WestHollywood development is a part of the biggerneighborhood. As the 47 unit project is rela-tively small, the mixed use component wouldnot generate enough pedestrian activity to bemeaningful as a stand alone island. However,its proximity to Gelson’s across the street andthe other surrounding amenities provide thebase of retail stores that will allow the projectto thrive as an energizing force of the neighbor-hood.

Moreover, Mr. Calegari of ChampionDevelopment noted that retail tenants want tobe involved in association decisions relating to

Mixed Use Developments: Building A Communitycontinued from page 3

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the property as well. Similarly, the residentialtenants will want to participate to some extentin the decision making process relating to theretail portion of the complex. Part of buildingcommunity in a mixed use project is giving each

constituent a say in the operation and appear-ance of the overall project.

While each of the panelists shared burdensand obstacles which they had faced in their proj-ects, their projects were a testament to their per-sistence and creativity in resolving those obstaclesand serving their constituents. When you arefinally able to walk to your neighborhood mar-ket or store, you will appreciate not only theconvenience but the work that went into mak-

ing what Tony Canzoneri calls our city’s “lostvillages.”

Laine T. Wagenseller is the founder of WagensellerLaw Firm, a full service business and real estate law firmin downtown Los Angeles. The firm represents real estatedevelopers, business and property owners, and investors.For more information visit www.wagensellerlaw.com orcontact Mr. Wagenseller at (213) 996-8338.

Financing Today’s Deals: Issues Concerning TICs,Defeasance Options, Interest Rate Hedging and GroundLeasesBy: James D. Hearn, Esq.1

On April 19, 2006 the USC Gould Schoolof Law, in association with the LosAngeles County Bar Association, pre-

sented the 2006 Benjamin S. CrockerSymposium on Real Estate Law and Businessat the Millennium Biltmore Hotel in down-town Los Angeles. The Symposium openedwith an introductory session providing anoverview of the current real estate market. Thiswas followed by a plenary session discussingretail real estate transactions. Following theintroduction and plenary session, which wereaddressed to all attendees, the presentationswere divided into three topics tracks: Capital,Development and Deal-Making Essentials.

The first breakout session on the Deal-Making Essentials Track was entitled FinancingToday’s Deals: Issues and Strategies ConcerningTICs, Defeasance Options, Interest Rate Hedgingand Ground Leases. This session was moder-ated by Greg J. Loubier, Esq., a real estate part-ner in the Los Angeles office of Allen MatkinsLeck Gamble & Mallory LLP. Joining Mr.Loubier were three panelists: Douglas E.Lahammer, Esq., a partner in the real estatedepartment of Pircher, Nichols & Meeks, LosAngeles; Dawn M. Reinhardt, Esq., a DealManager with Commercial Defeasance, LLPbased in Charlotte, North Carolina; and, JasonM. Hoffnagle, a Client Relations Manager withChatham Financial Corporation located inDenver, Colorado.

1. Financing Tenancies in Common:This topic was discussed by Mr. Lahammer.He explained that lenders are responding tomarket demands for the financing of real

property held by multiple owners as tenants-in-common.2 Although this method ofholding title to real property has existed forcenturies, it has not, until recently, been usedwith any frequency in connection withcommercial finance transactions. The currentupsurge in demand for such financing is, forthe most part, tax driven. Specifically,tenancies-in-common are now being used inconnection with so called “ like-kind”exchanges under Section 1031 of the InternalRevenue Code (the “Code”).3

Section 1031 permits a taxpayer to deferthe recognition of gain upon the exchange ofproperty held for productive use inconnection with a trade or business or forinvestment to the extent that it is exchangedsolely for property of a “like-kind” which isalso held either for productive use in a tradeor business or for investment. Section 1031 ismost commonly associated with real estateexchanges. Real property with multipleowners is generally held in entity form (i.e.,partnerships, limited liability companies orcorporations). This ownership structure canpresent a barrier to exchange treatment. Thisis due to the fact that even if the sole asset ofthe entity is real estate, the interest holders,for the purposes of Section 1031, are deemedto hold interests in the entity and not in the

underlying asset of the entity (i.e., the realestate). Thus, entity interests do not qualifyfor exchange treatment. For a successfulexchange there must exist direct ownership ofthe acquired real estate by the exchangingparty following the exchange. Unlikepartnership and other entity interests,tenancy-in-common interests represent aform of direct ownership in real property and,as such, may qualify for exchange treatment.

A TIC is not an entity. Rather, it is amethod of holding title to real propertywherein multiple parties each own a direct,undivided interest (generally expressed as apercentage) in the underlying property. Assuch, a TIC may be used by parties comingout of an exchange transaction. It permits thetaxpayer to take title (i.e., direct ownership) inthe same manner as they held the propertyrelinquished in the exchange transaction.Over the past several years TIC “sponsors”have acquired large commercial propertiesand offered TIC interests to multiple partiescompleting exchange transactions.

As stated, indirect interests in realproperty are not eligible for exchangetreatment. For instance, interests in apartnership will not qualify as like-kindproperty. Until 2002, even interests held inreal property as a tenant-in-common werepotentially subject to attack by the InternalRevenue Service (‘IRS”) as constituting a defacto partnership. The uncertainty wascompounded by the fact that in 2000 the IRSexplicitly prohibited the issuance of advancerulings on the tax treatment of TICs.4

1 James D. Hearn, Esq., M.A., J.D., LL.M. is apartner at Corleto, Ackerman & Hearn LLP inEncino, California, with a practice focusing on realestate, finance and taxation.

2 The terms TIC and/or TICs are usedinterchangeably to refer to the manner of holdingtitle, tenancy-in-common, and to the interestholders, tenants-in-common.

3 Included in the program materials provided by Mr.Lahammer is Jon S. Robins’ article entitledFinancing Tenants in Common Property in CapitalMarkets, The Real Estate Finance Journal,Summer 2002, which provides a valuable outlineon this topic. Also provided was, CMBS: Tenants-in-Common Becoming More Common, Moody’sInvestors Service, August 18, 2003.

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Mixed Use Developments: Building A Communitycontinued from page 4

4 Revenue Procedure 2000-46, 2000-2 CB 438.