This week’s radio show is unique in that we are covering an event Aaron recently spoke at with SDCIA. At this event, he spoke with different people on a panel of experts. This will close out our Featured on the panel were Catherine Blakespear, mayor of Encinitas, Greg Nickless, Senior Housing Analyst for the California Department of Housing and Community Development, Geoff Plagemann, planner of Encinitas, Brent Johnson, Collateral Risk for Home Street Bank, Michelle Rodriguez, hard money lender and member of the California Mortgage Association, John Arendsen with Crest Backyard Homes, and Jordan Marks, the taxpayers’ rights advocate for San Diego County.
- Are there many cities that say no to fees, or is Encinitas the only one?
- Do manufactured homes look different today than they did 30 years ago?
- What is the cost comparison between an ADU and manufactured home?
- What is San Diego’s stance on ADUs and manufactured homes?
- When it comes to taxes, how is an ADU built on your property reassessed?
- When looking to buy a property, what are the three main things people want it to be?
- When it comes to manufactured housing, does Encinitas prefer stick-built or manufactured?
Aaron began by asking Mayor Catherine Blakespear how she could have no fees. That’s not normal. With what he’s been seeing out in the market, the fact that he waived the fees would make people think he’s absolutely crazy in this market. He was the first Aaron had seen do this. He asked if she got all the other council members to sign on to that and if they were all for it. She said they were really sending a message about what’s important to them. In the big picture, Encinitas is an affluent community. They still struggle to pay for all the projects they want; but when you look at the amount of money they would be collecting, you would need to see if that is something that they would be willing to forego to make this something that is a real part of the city. Indeed it is. So it’s making a policy decision.
Aaron next asked Greg Nickless about the Center that has a lot of data and a big list of a large amount of cities. Some of them were over $50 grand in fees alone. So when you’re talking about a structure that’s 600 square feet, that’s insane. Aaron asked if he has seen very many cities that say no to fees. He said no. Encinitas is one of the very few, maybe only two others. They’re not tracking it now. , but it’s something that they’re working on. In the study about the mitigation fee in the report to the legislature, we will probably see something come out of that. However, they would need to push a little bit harder because of the time that they might take to look at that. Some of the jurisdictions are just not analyzing that well or at all.
Next up was Jordan Marks, who works for Assessor Ernie Dronenburg at the county assessor-recorder clerk’s office. The county of San Diego did waive building permit fees, parking fees, and transportation fees. So if you are operating in county property, it also will apply there. There are rules for school fees, fire fees, and septic tank.
When Aaron met John Arendsen about eight months ago, they started talking about San Diego County, and there were some cities that he wouldn’t even consider working with. He wondered if this has gotten better or worse. He said that most of the jurisdictions are starting to embrace the new laws, probably because they know it’s coming anyway. Everybody does acknowledge the fact that there is a shortage of housing. As the mayor kind of hit on earlier, it doesn’t impact too extremely dramatically in any one area as far as density is concerned. He would much rather have ADUs on his street than an apartment down at the end of the street.
John’s specialty is manufactured homes, but a lot of people just don’t know what you can build. Aaron asked how long he has been doing manufactured homes, to which he said 35 years. He next asked if they look a little different than they did 30 years ago, to which John said most definitely. They just called them wobbly boxes back in the 70s. In addition, Aaron asked what the turnaround time is, now that the fires and the hurricanes have died down, to get a manufactured compared to a stick built. John said depending on the manufacturer, there’s still a lot of manufacturers that are servicing those disaster-prone areas and probably will be for some time. The companies he represents are basically all local companies and removed from those disaster-prone areas. You’re probably looking at about four to six weeks turnaround time. For a stick built, the time could be anywhere from four months to a year. If you can get through the permit process and all the minutia, the turnaround time on an ADU is usually quicker.
When you look at the cost comparison for a 600 square foot ADU, you’re looking at $50,000. There are added costs including transportation and installation. You still have your permit visa, they’re not waived. You still have your foundation work, your site work, your utility connections, and developmental fees if the cities or jurisdictions are charging you. So the bottom line is, for 600 square foot they could probably do manufactured for under $100,000. That’s a big difference cost-wise.
John added how they had furnished models. Not too many people have furnished ADUs. They really have come a long way. Warren Buffett, being part owner of the Clayton Homes, is involved. Also, Amazon just invested in a company called Plant Prefab. Leading up to the event, the Norris Group did five radio shows. They had Senator Wieckowksi on for two shows. We then had John on for another two. These were a little bit more investor focused, so they got super nerdy. The last two weeks they spoke with Steve Glenn of Plant Prefab. He’s been in the modular space for a long time, and Amazon just made a big investment in them this year.
Aaron next spoke with Geoff. He told him how he had a few planners in his life, and they’re not at all happy that the state is coming in and forcing their hand. His response to them was if they would have gotten serious about the affordable housing, the state wouldn’t have to do this. Since Geoff is in the circles and goes to all the conferences, Aaron asked him how they are feeling about life. He said it depends on the planner and the municipality that they work for. He is fortunate enough to work for one that was very proactive and was trying to find a way to increase housing. It really is dependent upon local variables.
Aaron asked if other cities in San Diego are looking at them and saying they are going to wait to see how it goes, or are they saying they need to play catch-up. Geoff said they’re waiting to see what happens. They definitely push the envelope a little bit with both their ordinance and with the permit ready program. There are municipalities around that are waiting to see how it’s going. He has talked to many of them, and they have had meetings with different municipalities to see what worked what didn’t. They also definitely referred to it as a perfect storm. They had the political will and the population that wanted to see this happen. They are a little bit smaller sized city, which was a benefit for them. They don’t have as many variables to deal with as someone as large as San Diego. There are a lot of things in their favor to push through what they’ve done so far.
Aaron next went on to ask about taxes. If somebody builds an accessory dwelling unit on their property, how is the property reassessed? How are they handling this? First of all, your property doesn’t get reassessed. This is the good news, and this is statewide. Proposition 13 basically sets a value for your land and the improvements on the property when you purchase it. If you change anything, then that’s an addition to it. A reassessment means that they would go back and raise the values of the entire property to today’s value.
Let’s say you bought a property for $100,000 home and land. They wouldn’t reassess any of that, and the land would maintain the value at the time you purchased it. If you added a new addition, they would add the improved value to your current assessed value. It would be a blend. This refers to the market value of that structure. They had a very nice builder who had a lot of good contacts in the industry, and they built $1 million home for very cheap. They got the inside deal and the best contractors. They charge you an assessed value based on the market value of all the homes in the community. Let’s say Crest Homes decided to throw one in your backyard because they got it free because you sold 10 of them; even though you didn’t pay anything for it, they would charge you the market rate value. That’s the replacement cost new value of the improvement.
Whatever a three bedroom, three bath in the community would go for; of that size of equal comps, that’s what they would do. The Board of Equalization, which is the guiding agency at the state, actually provides a handbook. Depending on the quality of the improvement and some various other factors, that’s how they would arrive at that value. If you retrofit a garage, it would be the same thing like retrofitting a kitchen or whatever the improvement would be. They wouldn’t reassess your external structure, but the improved value to that structure is the improvement cost. They would then blend that with your current assessed value. If you paid $100,00 with the garage and you added $40,000 worth of market value to it, they wouldn’t add it as a new structure. They would add $40,000 of assessed value.
The Norris Group has funded a few of these via different hard money loan routes. On the flip side, if an investor buys a resident’s three bedroom, two bathroom, and while they’re renovating the front they’re doing the back, that makes a really nice flip. The appraisal hasn’t been the issue, it’s been the lending world, especially in the flip scenario because there’s not enough comps. The appraisal hasn’t been the issue when it comes to the lender. One of the most recent examples was a real estate investor did a 3-2 primary that did a beautiful job on the rehab, and the back was a 2-2. The people who wanted to buy it was a mom and dad in the front and their daughter and granddaughter who were going to live in the back.
The lender was triggering a duplex rule where they wanted 25% down. They didn’t see this as a single-family home with an ADU. Aaron asked how he has seen this shake out as far as the lending world is concerned and if this on their radar. It goes back to the highest and best use to what the market’s going to perceive that property to be. For the realtors in the room, they know where that goes. The question is what the market perceives that property to be. Is it a single-family dwelling with a junior or a smaller ADU, if in fact that’s what the market perceives it to be? That is what the lender and typically the conventional type investor will perceive that to be. If both those units were somewhat similar, then we may have a multifamily type property. But in the case that Aaron just described, if that’s a primary dwelling and there is a junior subservient structure somewhere on the property or within the property, that is a single family.
The Norris Group funded another thing under a long term program that they had where they had a free and clear rental. They did a refinance on the primary, so they built a similar structure. The primary was a 2-1. It was 777 square feet, and they decided to convert a garage to a similar 777 square foot secondary structure. Aaron asked if that would trigger a problem because you don’t have necessarily a subservient structure because they’re both the same size right.
It comes down to the two most famous words in real estate: it depends. That’s a gray area, and there’s a number of different criteria that are going to have to be looked at analyzed by the appraiser and then onto the underwriter. The underwriter has their opinions and criteria just as the appraiser does. So when we get to that kind of a scenario, it is more gray. So we get to zoning, we get to the metered system and whether they both have meters and addresses, etc. In terms of the overall lending function, though, speaking for a conventional type mortgage purpose, the Fannie Mae and Freddie Mac’s will do either. But, it is up to the value or the appraiser to determine the highest and best uses that a duplex or a single-family ADU.
In this case with the appraisal, the value came in, and it was the lenders who said no. And they even knew the family was co-qualifying together. Aaron asked if lending community will take a couple of years to catch up or if it will it catch on faster than we think. He said he doesn’t represent Fannie Mae, but he does hear from them routinely. They are also proactive to try to encourage more housing. They are keenly aware of these issues, and they are in the process of their seminars. They are trying to educate both the lenders on the retail side, underwriting, and appraisers so we can get through that appropriately and determine what that collateral really is. Multifamily, single-family, and an ADU.
John Arendsen’s wife has been in the lending business a long time on the manufactured housing side. There’s a lot of problems when you decide you’re going to mix stick built and manufactured ADUs the back as in lenders are not going to touch it, pretend it’s not there, or maybe make you take out the kitchen. There’s no doubt it’s been a challenge, although it’s starting to come around. There are more appraisers out there that are recognizing manufactured homes on a site built property as an ADU. However, there’s a lot of appraisers out there that don’t recognize an ADU on a resident-owned parcel.
Aaron said on the lending side, they fund mixed inventory. In terms of the conventional mortgage process, most lenders will look at that because Fannie and Freddie are both also in the business of trying to encourage more housing units. They’re seeing a trend that is recognizing, both on the geopolitical kind of side and the market side, that they have to respond to both. One of the big issues as, again, most of the realtors in the room will know, is whether it is permitted or unpermitted. How do we value that, and what do Fannie Mae and Freddie Mac want in those cases. There’s a lot of misperception out there that it’s not permitted and they can’t include it. That’s not true. The GSEs want these properties reported in value to the marketplace. In most of their cities now, the market doesn’t care as much about permitting. Fannie has gotten a lot easier to deal with for the most part.
What they tell the lenders and the appraisers is they want it valued to the marketplace. In most of the towns in San Diego County, a typical buyer often does not care if it’s permitted or not. They do care if it is the three S’s: safe, sound, and secure. It also has to be workmanlike, compatible, conforming. If you want to add another S, it should be sanitary. Those are the issues that are out there today that need to be front and center, and they are. They are a big deal every day in the eyes of a lender because we have so many uncommitted improvements now. On the mortgage lending side it’s getting better.
People just really need to know the risks going in. Aaron said he is almost afraid because they came on so strong that he’s afraid they’re going to be so disappointed when they go back to their different cities because it’s been so rough. One thing very important for the realtors in the room is communication. Don’t try to run from an unpermitted ADU or improvement. Get it out there, get all the information that is available so the appraiser can look at that, report it accordingly, and let the lender know what it is or what needs to be corrected. That way, we can move forward and get to the finish line and to closing.
Aaron asked Geoff if a real estate investor or a realtor were to call him, would he be willing to give them the data from the map that shows ADUs throughout the city to show as comps. He said they do it every day. They have realtors stop in their front counter every single day asking questions about units that are currently existing or the possibilities of what can be done with a piece of property.
Aaron has been telling those in real estate very specific things. Greg mentioned that on the state Web site, they have a list. When they originally did research back in September, they create a list of every economic development agency for a seminar we put on with the number and the email that they should call. A lot of them didn’t have an ordinance in place. He tells real estate investors to go straight to the planning department and ask for the current ordinance. They’ll also ask the Planning Department and the local city council person if there’s something in the works. When he was on the phone with Senator Wieckowski, there was an investor on the call who said Hawaiian Gardens had just declared a moratorium so they can study parking. He laughed and said that ended last year and was not allowed anymore.
Aaron asked from the planning perspective if he would start at the Planning Department and then possibly checking with the council member to be extra safe. Geoff said absolutely. You always want to do your due diligence. While you’re at the City Council, if somebody like the NIMBYs complains, the “not in my backyarders,” Aaron wondered how this effects how people are receiving the ADU. Geoff said they had a lot of public support for them. they have a housing situation in Encinitas that they are trying to solve, and a lot of people recognize that this is a really good tool in the toolbox that they can take advantage of.
What’s really interesting is how they did not get much pushback. Aaron had never heard it pitched that way. An ADA every five houses or so is pretty brilliant. Aaron asked Catherine Blakespear about her time as city council member and mayor. She said it was five years total. Two were as a city council member, and 2 1/2 were as mayor. She has seen plenty of her share of NIMBYs over the years. She said the bottom line is there’s no magic bullet if you’re going to add more housing. Certainly people do complain and say they don’t want someone to park in front of their house. At some point, something’s gotta give, so what is it gonna be?
For her, it seems like the least objectionable path forward is to have more ADUs. She is always expressing it in the most optimistic of terms. They’re not permitting fifty thousand of them. It’s still just ramping itself up. They did go through 500 plans in the first month where people were taking them off the shelf. She thinks people are really motivated by money. They want to be able to rent it, make money, and support themselves. That’s good because they’re harnessing their interest.
Geoff said the number one concern was always parking. Like the mayor said, it’s something they just have to deal with. He also thinks it’s going to change, just like with autonomous vehicles and ride sharing. Younger generations aren’t even getting their license anymore. That part of society is just changing in general; so it’ll be slow to catch up, but it will be happening to where that situation doesn’t happen as often.
Aaron commented how everyone had been really nice. Nobody brought up the boomerang generation and people living at home until they’re thirty seven. They weren’t saying things like, “It’s for seniors who want to stay in play” or “for the kids. You can’t see them you just want them in the backyard because you don’t want to deal anymore.” They did say that when people came to the planning commission meetings and even to the city council, it was people who were in support and for the most part of the planning commission they were pushing for the larger sizes. Encinitaes formerly had a 750 square foot limit, so the planning commission was working around that number, maybe going up a little bit. People would come to every meeting saying they needed 1,200 square feet. They have theirr family and children, and they want to bring their parents back.
Aaron next asked about the manufactured housing. He wondered if the city of Encinitas cares if it’s stick built or manufactured housing. The answer was no and to bring them. Aaron next went on to Michelle. She and Aaron had been part of the California Mortgage Association, and she has been involved fifteen years. She’s his go to because she is an attorney. He wondered if she reads the code and if she likes these kinds of things. She said she has read some of the ADU bills, but she wouldn’t call herself an ADU expert.
There was a lawsuit that just went around the Department of Real Estate where the primary residence owner occupant took out a business loan to build an ADU because they wanted to get financing for business purposes since they were going to rent it out. And then the Department of Real Estate stepped in. She said she didn’t know if this was for an ADU, but this could happen on an ADU and for anybody who is thinking of building an ADU. A broker was audited by the Department of Real Estate, and he had made a loan to a borrower. It was an owner-occupied property, but it was for a business purpose. She didn’t know what the purpose was, but nobody disputed it. Not even the DRE disputed that it was business purpose.
The Department of Real Estate held that it was a consumer loan. The brokers have been making loans on the assumption that if it was business purpose, even if it was owner-occupied, they wouldn’t have to follow all the consumer lending laws. If a broker or a lender would have to follow all of the consumer lending laws for business purpose loans, they likely would not make business purpose loans. That would mean less places for people to go and find a loan to build an ADU that they were actually going to rent out to some unrelated member of the public, not to family member, for instance. That would probably be a consumer loan.
The fallout is that the California Mortgage Association is trying to get things resolved with the Department of Real Estate and introduce a bill to clarify the law so that it’s more clear that a business purpose means business purpose and not consumer. Aaron said she is one of the only hard money lenders he knows that will work with consumers. For hard money, the Norris Group will refer them to her because it does come with so many more rules and regs, even a decade later after the meltdown.
What it’s going to mean is that there’s going to be a lot of private mortgage lenders like herself and Aaron who are maybe doing business purpose loans on owner-occupied properties who are going to pull back. Or, they’re going to require that you as the borrower show an ability to repay your loan just like you would have to do for conventional loans that you would just take out to refinance your regular mortgage. The Norris Group had the webinar with Senator Wieckowski about a month ago, and Aaron got a call immediately after from somebody from SDCIA who was on the phone that her idea was to build the ADU, and for the seniors wanting to retire in place it just gets harder to qualify for loans successfully because their income is less. When you start restricting the lending market, it’s just going to make it more difficult.
Aaron asked if there is anything else coming down the pipeline on the legislative side. She said no, not on the legislative side, but she did see something she thought might be helpful for people who weren’t seasoned investors. One of the things you want to do is make sure that when you go into your project that you have a real good handle on your construction cost estimate. Also, build in contingencies. That’s number one. Number two: figure out if you are going to need financing. If you’re going to need financing, you need to get it right away before you start construction. You’re going to have big problems if you start thinking you are going to do this all cash. If you run out of cash, are already halfway done with your project, and then you go try to get a mortgage loan, you’re going to have a real hard time.
The reason for this is Mechanics Liens. These are a major fear of lenders, but more importantly, of title companies. When you start a project, the material men and the subcontractors for the whole project can put a lien on your property, and that lien will relate back to the first day that work was started on the project. No matter when in the process that subcontractor or material man came in, even if it was at the very end, their lien would be related all the way back to the beginning. This matters because if you start your project and didn’t pay one of the subcontractors when you try to go get a mortgage. And then maybe some other subcontractors come on and you don’t pay them either, all your liens go back and take priority over your mortgage lender. If you’re the borrower and you think that doesn’t matter to you anymore, it really matters to the title company. That’s why you’re going to have a big problem if you start your project and then you try to get a loan afterward.
Aaron asked her how she would solve this. She said what some title companies will let you do is if you have kept very good records about who your subcontractors and material men are and that you have invoices to show that they’ve been paid you’ve as well as lien releases showing when you did the paying, you may be able to find a title company that will give you insurance even though you’ve already started your project. Another thing that title companies often will do is they will require that you sign an indemnity, and they will look at your financials. If your financials look good, they require you to indemnify them if something happens and a subcontractor needs to be paid later on. Otherwise, they will put a lien on it. So the stronger your financials look going into the project, the better.
Because we’re regulated by the Department of Real Estate, we have to use funds control for rehabs over $100,000. The Norris Group uses a company called BuildZig. Basically, all the money for construction or rehab goes into a third party escrow. When the draw request happens for money for the repairs, there’s lien releases that have to be monitored, and they’re monitoring all the liens to make sure by the end of the project you’ve got a lien-free project. For the realtors out there that are working with owner-occupants who think they want to take this on their own, maybe suggest something like a funds control. BuildZig has done a really good job, but that’s a way to protect them. That was SB 978 in 2014. Dodd-Frank wasn’t enough, so California wanted to do one more.
The Norris Group originates and services loans in California and Florida under California DRE License 01219911, Florida Mortgage Lender License 1577, and NMLS License 1623669. For more information on hard money lending, go www.thenorrisgroup.com and click the Hard Money tab.
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