California Real Estate Journal Nov. 9, 2009 : Page 20

DISTRESSED INVESTMENT Increased Distress Prompts Surge in Service Sector Property preservation becomes increasingly important as more loans come due BY GREG KANE CREJ Staff Writer A national facilities services contractor is branching out into one of the fast- est-growing sectors in the commer- cial real estate market: distressed properties. ABM Industries Inc., which provides janito- rial, security, maintenance and other services for facilities across North America, announced in September the creation of a group that will maintain a growing stock of vacant and distressed com- mercial properties. The ABM Property Preservation Group will handle every- thing from changing the locks to landscaping to detailed inspections and maintenance, said Rich- ard J. Hayes, vice president of the fi rm’s facility services division. Billions of dollars of commercial real estate already has fallen into distress and another $1 trillion in troubled loans is expected to come due in the next few years, experts say. That leaves a lot of vacant properties at risk of falling into disrepair and vulnerable to thieves and vandals while the banks and property management fi rms holding the titles decide their future, Hayes said. “They don’t want the properties to degrade any further than they’ve already degraded,” he said. While other real estate and property manage- ment fi rms have created divisions in recent months to manage the renegotiation, transfer or sale of distressed properties, ABM’s group tar- gets just the maintenance slice. The service will GUEST COLUMN Code Enforcement: A Liability for Unwary, Foreclosing Lenders BY MICHAEL KIELY AND ZEIN OBAGI JR. enforcement. Until recently, lenders took little notice of the manner by which their borrowers maintained and operated real property that secured indebtedness. Now, even as they keep a watchful eye, some lenders still overlook an area of the law where their strapped-for-cash borrowers may be cutting corners and exposing them to substantial post-foreclosure costs. The following provides an overview of various California code enforcement mechanisms and the manner by which lenders can avoid their hefty burdens. T The Source of Liability California municipalities possess broad police powers to promulgate and enforce building and housing codes under the State Health and Safety Code. For example, the cities of San Francisco, Los Angeles and San Diego may make lenders liable for building and housing code violations that preexisted their succession to ownership. They impose civil and criminal penalties among other economic penalties discussed here for the mere maintenance of code violations. Although a property owner cited for code violations is notifi ed via certifi ed mail or a posting on the subject property, there exists no systematic method by which a foreclosing lender is notifi ed of the code enforcement liability that it may inherit upon assuming ownership. he rise in foreclosures has lenders astounded at their exposure in an area previously taken for granted: code The Sanctions Municipalities bear powerful tools to cause lenders-turned-owners to cure building and housing code violations. Many use regulations that threaten property owners with fi nes of up to $5,000 or imprisonment for up to six months, or both. The city of San Diego, for example, categorizes some code violations as nuisances and charges daily abatement penalties of up to $2,500 per violation, up to a total of $200,000 in civil penalties per parcel or structure for any re- lated series of violations. The codes in each city provide little guidance as to which individuals would be subject to such penalties in the case of ownership by an entity. Anecdotes shared off the record by city offi cials suggest that, while the individuals with day-to-day control might be targets in the case of a small or locally owned limited liability company or partnership, the city may try to reach management in a large bank or corporation. Offi cials view the sanctions not as a way to punish wrongdoers but rather as a means to induce owners to correct the violations. In addition to fi nes, municipalities have taken diverse approaches to causing properties to comply with the codes. For example, the City of Los Angeles Housing Department (LAHD) is authorized to collect rents directly from tenants in a residential property located in Los Angeles when that property suffers repeated housing code violations. Under its Rent Escrow Ac- count Program, LAHD may collect and retain up to fi fty percent of an owner’s anticipated revenue. A lender that assumes ownership of such a property must decide whether to invest substantial sums to bring the property into compliance or attempt to market the property with a potentially severe economic impediment. Some cities threaten the recordation of adverse history on a property’s title to deter the maintenance of code violations. The city of San Francisco, for example, will fi rst issue a Notice of Violation of the city’s building code for non-compliance in any building. The notice generally gives an owner 30 days to cure any code violations. Next, the city will issue a non compliant owner an Order of Abatement which may be recorded on title until all violations are cured. San Diego has implemented two devices that it may record on a property’s title to cause an owner to promptly remedy all violations: Code Enforcement Liens and Nuisance Abatement Liens. A Code Enforcement Lien may be re- corded against any property owned by a person who owes outstanding civil penalties, costs or fees to the city of San Diego. A Nuisance Abate- ment Lien has the same effect as a judgment lien and could permit the city to foreclose on a property if the alleged nuisance is not abated or successfully protested. Although building and housing departments may grant lenders who have recently acquired property ownership some latitude to comply with their requirements, we found no cities that statutorily protect lenders for code violations caused by predecessor-borrowers. Avoiding Liability To avoid surprises, lenders should thor- oughly investigate the physical condition of any property they intend to acquire through fore- closure. In addition to conducting inspections, lenders should engage the municipal agency with jurisdiction over the property. Some agen- cies, like the city of Los Angeles Department of Building and Safety, permit online searches of code enforcement actions at their website. If the subject property is the site of a residen- tial development, it may also be governed by the housing code. Accordingly, the local hous- ing department should be engaged for a report of past and current housing violations. Even if a property is not currently reported to violate any codes, a summary of previous code infractions may indicate the type of violations that could be expected on the property following foreclosure. If violations exist, the acquiring lender needs to plan for the cost of curing these violations. As with property taxes, the obligation to fi x Michael Kiely is a partner with the Los Angeles offi ce of Sheppard Mullin Richter & Hampton LLP.Zein Obagi Jr. is an associate with the Los Angeles offi ce of Allen Matkins Leck Gamble Mallory & Natsis LLP. This piece was written when Kiely was a partner at Allen Matkins. PAGE 20 NOV. 9, 2009 CALIFORNIA REAL ESTATE JOURNAL code violations is an unavoidable burden of ownership. Foreclosing lenders should engage local agencies and attempt to obtain additional time to remedy violations in a cost-effi cient manner.� WWW.CAREALESTATEJOURNAL.COM allow the building’s current owners to maintain value while it awaits a new occupant, Hayes said. “We put the property on ice, so to speak,” he said. The number of commercial buildings expected to enter that state of cryogenics in the next few years is only expected to grow. Carla Gazzolo, an executive vice president for River Rock Real Estate and its REO-specialized Value Maximiza- tion Unit, said the need for managing all aspects of distressed commercial buildings continues to increase as more infl ated loans come due. “It’s increasing by leaps and bounds,” Gazzolo said. “[TheValue Maximization Unit] has enough proposals to double the size of its portfolio.” Hayes describes the work ABM’s Property Preservation Group performs at vacant proper- ties as a triage of sorts: The fi rm’s engineers fi rst inspect the property, assessing its condition and identifying any deferred maintenance that’s required. Once those repairs are completed, the fi rm focuses on the property’s ongoing maintenance, conducting regular inspections and providing janitorial, landscaping and other services, he said. ABM manages a network of 15,000 trades and makes available a 24-hour call center and Web portal for its customers, Hayes said. The one-stop service allows lienholders and property manag- ers to take care of all maintenance concerns with- out having to coordinate with a variety of different trades, he said. “You might otherwise be dealing with 14 dif- ferent mom-and-pop shops,” Hayes said. “We’re looking to consolidate a consistent solution and consistent service.” MaintainingValue It is important to maintain properties after they go vacant to maximize their value, experts say. Tammy Harpster, principal and owner of Profi n- ity Property Management in San Diego, said both nature and vandals quickly can do damage to a building’s perceived value if nobody is paying attention to it — a fact of which banks are begin- ning to pay attention. “It is creating some element of blight in com- munities, whether it’s residential or commercial,” Harpster said. “It’s in their best interest to main- tain them and make sure they’re not vandalized because they ultimately want to dispose of the asset.” Properties can quickly fall into disrepair, Hayes said. A former high-tech campus in New York featuring fi ve buildings and 1 million square feet of space that was recently taken back by a lender and assessed by ABM’s engineers illustrates this, he said. The buildings are powered by a central util- ity plant with three boilers — two of which are broken. Animals began nesting and rooting in the buildings, entering through broken windows. The local power authority won’t restore power to the building until a blown transformer and other problems are fi xed. Mold is beginning to form in some areas. “It’s fallen into a state of disrepair that’s beyond imagination,” Hayes said. In such situations, ABM performs the neces- saryrepairs torestore the building to an operating condition, Hayes said. The group then performs the necessary inspections and maintenance in order to keep it that way. Those services include: changing the locks and keys, removing debris from the property, regular start-up of HVAC and other systems and regulatory services such as testing fi re alarms and sprinklers. These are services that banks must outsource because they are not able to effi ciently handle them in-house, Harpster said. “The banks just don’t have the REO services and asset management services to really handle the properties at that level,” she said. Tim Ballas, managing director of asset ser- vices for CB Richard Ellis in San Francisco, said banks are doing everything they can to avoid assuming responsibility for distressed, vacant commercial properties, pursuing renegotiations and other avenues. But the numbers are growing to the point where property management fi rms are receiving requests for everything from full receivership to more specialized, maintenance- type services. “There’s defi nitely a need for the services,” Bal- las said. “We’re seeing an increase in the number of requests from clients. I wouldn’t say it’s a fl ood of activity, but there has been an increase.” Hayes said ABM’s Property Preservation Group already has heard from many interested parties and expects its appeal to grow as more distressed loans come due. Thousands of com- mercial buildings collectively valued in the hun- dreds of billions have already reached that point, and the end is nowhere to be seen, he said. “They’re just starting to see these properties pop up,” Hayes said. “We’re just starting to see the groundswell.” — E-mail Greg_Kane@DailyJournal.com

Distress Prompts Surge in Service Sector

Greg Kane

Property preservation becomes increasingly important as more loans come due<br /> <br /> ANational facilities services contractor is branching out into one of the fastest- growing sectors in the commercial real estate market: distressed properties.<br /> <br /> ABM Industries Inc., which provides janitorial, security, maintenance and other services for facilities across North America, announced in September the creation of a group that will maintain a growing stock of vacant and distressed commercial properties. The ABM Property Preservation Group will handle everything from changing the locks to landscaping to detailed inspections and maintenance, said Richard<br /> <br /> J. Hayes, vice president of the fi rm’s facility services division.<br /> <br /> Billions of dollars of commercial real estate already has fallen into distress and another $1 trillion in troubled loans is expected to come due in the next few years, experts say. That leaves a lot of vacant properties at risk of falling into disrepair and vulnerable to thieves and vandals while the banks and property management fi rms holding the titles decide their future, Hayes said.<br /> <br /> “They don’t want the properties to degrade any further than they’ve already degraded,” he said.<br /> <br /> While other real estate and property management fi rms have created divisions in recent months to manage the renegotiation, transfer or sale of distressed properties, ABM’s group targets just the maintenance slice. The service will allow the building’s current owners to maintain value while it awaits a new occupant, Hayes said.<br /> <br /> “We put the property on ice, so to speak,” he said.<br /> <br /> The number of commercial buildings expected to enter that state of cryogenics in the next few years is only expected to grow. Carla Gazzolo, an executive vice president for River Rock Real Estate and its REO-specialized Value Maximization Unit, said the need for managing all aspects of distressed commercial buildings continues to increase as more infl ated loans come due.<br /> <br /> “It’s increasing by leaps and bounds,” Gazzolo said. “[The Value Maximization Unit] has enough proposals to double the size of its portfolio.” Hayes describes the work ABM’s Property Preservation Group performs at vacant properties as a triage of sorts: The fi rm’s engineers fi rst inspect the property, assessing its condition and identifying any deferred maintenance that’s required. Once those repairs are completed, the fi rm focuses on the property’s ongoing maintenance, conducting regular inspections and providing janitorial, landscaping and other services, he said.<br /> <br /> ABM manages a network of 15,000 trades and makes available a 24-hour call center and Web portal for its customers, Hayes said. The one-stop service allows lienholders and property managers to take care of all maintenance concerns without having to coordinate with a variety of different trades, he said.<br /> <br /> “You might otherwise be dealing with 14 different mom-and-pop shops,” Hayes said. “We’re looking to consolidate a consistent solution and consistent service.” Maintaining Value It is important to maintain properties after they go vacant to maximize their value, experts say.<br /> <br /> Tammy Harpster, principal and owner of Profi nity Property Management in San Diego, said both nature and vandals quickly can do damage to a building’s perceived value if nobody is paying attention to it — a fact of which banks are beginning to pay attention.<br /> <br /> “It is creating some element of blight in communities, whether it’s residential or commercial,” Harpster said. “It’s in their best interest to maintain them and make sure they’re not vandalized because they ultimately want to dispose of the asset.” Properties can quickly fall into disrepair, Hayes said. A former high-tech campus in New York featuring fi ve buildings and 1 million square feet of space that was recently taken back by a lender and assessed by ABM’s engineers illustrates this, he said.<br /> <br /> The buildings are powered by a central utility plant with three boilers — two of which are broken. Animals began nesting and rooting in the buildings, entering through broken windows.<br /> <br /> The local power authority won’t restore power to the building until a blown transformer and other problems are fi xed. Mold is beginning to form in some areas.<br /> <br /> “It’s fallen into a state of disrepair that’s beyond imagination,” Hayes said.<br /> <br /> In such situations, ABM performs the necessary repairs to restore the building to an operating condition, Hayes said. The group then performs the necessary inspections and maintenance in order to keep it that way. Those services include: changing the locks and keys, removing debris from the property, regular start-up of HVAC and other systems and regulatory services such as testing fi re alarms and sprinklers.<br /> <br /> These are services that banks must outsource because they are not able to effi ciently handle them in-house, Harpster said.<br /> <br /> “The banks just don’t have the REO services and asset management services to really handle the properties at that level,” she said.<br /> <br /> Tim Ballas, managing director of asset services for CB Richard Ellis in San Francisco, said banks are doing everything they can to avoid assuming responsibility for distressed, vacant commercial properties, pursuing renegotiations and other avenues. But the numbers are growing to the point where property management fi rms are receiving requests for everything from full receivership to more specialized, maintenancetype services.<br /> <br /> “There’s defi nitely a need for the services,” Ballas said. “We’re seeing an increase in the number of requests from clients. I wouldn’t say it’s a fl ood of activity, but there has been an increase.” Hayes said ABM’s Property Preservation Group already has heard from many interested parties and expects its appeal to grow as more distressed loans come due. Thousands of commercial buildings collectively valued in the hundreds of billions have already reached that point, and the end is nowhere to be seen, he said.<br /> <br /> “They’re just starting to see these properties pop up,” Hayes said. “We’re just starting to see the groundswell.”<br /> <br />

Liability for Unwary

Michael Kiely

The rise in foreclosures has lenders astounded at their exposure in an area previously taken for granted: code enforcement. Until recently, lenders took little notice of the manner by which their borrowers maintained and operated real property that secured indebtedness. Now, even as they keep a watchful eye, some lenders still overlook an area of the law where their strapped-for-cash borrowers may be cutting corners and exposing them to substantial post-foreclosure costs. The following provides an overview of various California code enforcement mechanisms and the manner by which lenders can avoid their hefty burdens.<br /> <br /> The Source of Liability California municipalities possess broad police powers to promulgate and enforce building and housing codes under the State Health and Safety Code. For example, the cities of San Francisco, Los Angeles and San Diego may make lenders liable for building and housing code violations that preexisted their succession to ownership.<br /> <br /> They impose civil and criminal penalties among other economic penalties discussed here for the mere maintenance of code violations. Although a property owner cited for code violations is notifi ed via certifi ed mail or a posting on the subject property, there exists no systematic method by which a foreclosing lender is notifi ed of the code enforcement liability that it may inherit upon assuming ownership.<br /> <br /> The Sanctions Municipalities bear powerful tools to cause lenders-turned-owners to cure building and housing code violations. Many use regulations that threaten property owners with fi nes of up to $5,000 or imprisonment for up to six months, or both. The city of San Diego, for example, categorizes some code violations as nuisances and charges daily abatement penalties of up to $2,500 per violation, up to a total of $200,000 in civil penalties per parcel or structure for any related series of violations. The codes in each city provide little guidance as to which individuals would be subject to such penalties in the case of ownership by an entity. Anecdotes shared off the record by city offi cials suggest that, while the individuals with day-to-day control might be targets in the case of a small or locally owned limited liability company or partnership, the city may try to reach management in a large bank or corporation. Offi cials view the sanctions not as a way to punish wrongdoers but rather as a means to induce owners to correct the violations.<br /> <br /> In addition to fi nes, municipalities have taken diverse approaches to causing properties to comply with the codes. For example, the City of Los Angeles Housing Department (LAHD) is authorized to collect rents directly from tenants in a residential property located in Los Angeles when that property suffers repeated housing code violations. Under its Rent Escrow Account Program, LAHD may collect and retain up to fi fty percent of an owner’s anticipated revenue. A lender that assumes ownership of such a property must decide whether to invest substantial sums to bring the property into compliance or attempt to market the property with a potentially severe economic impediment.<br /> <br /> Some cities threaten the recordation of adverse history on a property’s title to deter the maintenance of code violations. The city of San Francisco, for example, will fi rst issue a Notice of Violation of the city’s building code for non-compliance in any building. The notice generally gives an owner 30 days to cure any code violations. Next, the city will issue a non compliant owner an Order of Abatement which may be recorded on title until all violations are cured.<br /> <br /> San Diego has implemented two devices that it may record on a property’s title to cause an owner to promptly remedy all violations: Code Enforcement Liens and Nuisance Abatement Liens. A Code Enforcement Lien may be recorded against any property owned by a person who owes outstanding civil penalties, costs or fees to the city of San Diego. A Nuisance Abatement Lien has the same effect as a judgment lien and could permit the city to foreclose on a property if the alleged nuisance is not abated or successfully protested.<br /> <br /> Although building and housing departments may grant lenders who have recently acquired property ownership some latitude to comply with their requirements, we found no cities that statutorily protect lenders for code violations caused by predecessor-borrowers.<br /> <br /> Avoiding Liability To avoid surprises, lenders should thoroughly investigate the physical condition of any property they intend to acquire through foreclosure.<br /> <br /> In addition to conducting inspections, lenders should engage the municipal agency with jurisdiction over the property. Some agencies, like the city of Los Angeles Department of Building and Safety, permit online searches of code enforcement actions at their website.<br /> <br /> If the subject property is the site of a residential development, it may also be governed by the housing code. Accordingly, the local housing department should be engaged for a report of past and current housing violations. Even if a property is not currently reported to violate any codes, a summary of previous code infractions may indicate the type of violations that could be expected on the property following foreclosure.<br /> <br /> If violations exist, the acquiring lender needs to plan for the cost of curing these violations.<br /> <br /> As with property taxes, the obligation to fi x code violations is an unavoidable burden of ownership. Foreclosing lenders should engage local agencies and attempt to obtain additional time to remedy violations in a cost-effi cient manner.<br /> <br />

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