Court Talk

How Courts View Property Improvements

by Clifford E. Fried

Ocean Park Associates v. Santa Monica Rent Control Board
Cases in one rent-control jurisdiction can have an impact on what happens in other such jurisdictions. For this reason, landlords in Northern California must be aware of what occurs in other places like Santa Monica and West Hollywood. Lots of law is being created down south.

In the case of Ocean Park Associates v. Santa Monica Rent Control Board, the Court of Appeal considered the correctness of a trial court’s judgment in favor of the Santa Monica Rent Board and against the landlord. Several tenants had filed petitions for rent reductions due to lengthy construction activity in their apartment complex. In addition, the Santa Monica Rent Board had also filed petitions on behalf of several tenants in the building who had not even complained. For over two years, the landlord had undertaken an extensive remodeling of unit balconies, the recreation room and the sauna as well as outdoor landscaping, roofing and exterior painting. Both the Santa Monica Rent Board and the trial court subsequently ordered rent reductions.

On appeal, the court ruled that Santa Monica’s rent law does not permit its Rent Board to initiate petitions on behalf of tenants and then rule on these petitions. Based on a plain reading of the Santa Monica law, only landlords and tenants can initiate rent adjustment proceedings. In its zealous protection of tenants, the Santa Monica Rent Board lacked authority and went too far when it filed petitions on behalf of tenants who did not complain.

The court feared that claims for rent decreases initiated by the Santa Monica Rent Board “perpetuate a confrontational atmosphere in rent-controlled buildings.” In addition, the court noted that there could be cases in which tenants, who cannot be bothered to submit a formal petition, fail to appear and testify at a hearing in support of the Rent Board’s petition. The process involves administrative actions that would not likely go forward, and it also wastes city resources.

Landlords in the Bay Area should be aware of situations where local rent boards initiate petitions or claims against landlords. Such actions might run contrary to the authority granted by the applicable rent laws. Rent board decisions that are based on actions initiated by the rent board could be void.

Also significant was the Court of Appeal’s decision to uphold the rent reductions due to construction activity. Not too long ago, San Francisco landlords won a victory in the case of Golden Gateway Center v. San Francisco Rent Board where another court had struck down rent reductions due to construction activity. Why was there a difference in the Santa Monica case?

The Court of Appeal in the Ocean Park Associates case examined the earlier Golden Gateway Center case and noted that the landlord had only taken four months to repair, waterproof and paint the concrete exterior of the buildings and decks, replace all deck railings and install new flooring on all deck surfaces. On the contrary, in the Ocean Park Associates case, the court noted that the landlord’s project resulted in the closure for years of once-available facilities, not because repairs and construction were on-going but because they were initially begun and then indefinitely interrupted. The court also noted that this could be a disguised attempt by the landlord to deprive tenants of services.

If you are going to undertake major construction projects, you should take note that your tenants have a right to petition the Rent Board for a rent reduction due to a decrease in housing services. Based upon the holding in Ocean Park Associates, you are advised to keep the project moving along quickly and without interruptions. Any delays could lead to a loss in rental income.

Robert Miner, M.D. v. Tustin Avenue Investors, LLC
Sometimes decisions in commercial landlord-tenant cases can have an effect on residential disputes. Residential landlords should pay attention to commercial cases that apply to residential disputes.

In Robert Miner, M.D. v. Tustin Avenue Investors, LLC, a tenant sued his landlord, claiming the option to renew the commercial lease was properly exercised by the tenant. The landlord cross-complained for an unlawful detainer.

The medical office lease had expired in August 2002 but contained an option enabling the tenant to renew the lease no later than June 2002. In November 2001, and in connection with the sale of the property to Tustin Avenue Investors, LLC, the tenant signed an estoppel certificate that stated the lease was then in full force and effect. The estoppel certificate also contained a clause that stated the tenant had no options “except as follows.” This statement was followed by blank lines that were not filled in.

A controversy arose, and the litigation began. The landlord contended that the estoppel certificate eliminated the option contained in the lease and that, based on the state’s evidence code and existing case law, there was a conclusive presumption that Dr. Miner lost his option rights. Neither the landlord nor the tenant submitted evidence to explain the meaning of the estoppel certificate.

Applying basic principles of contract law, the Court of Appeal held that the lease and the estoppel together formed the contract between the parties. The court found the lease and the estoppel certificate were in conflict. The lease contained the option rights. The estoppel certificate said there were no option rights. This contradiction meant the contract was ambiguous.

When a contract is ambiguous, the court must determine the intent of the parties. First, the court examines the writing itself to determine the intentions of the landlord and tenant. When this is not helpful, the court then interprets the language of the contract most strongly against the party that caused the ambiguity to exist.

In this case, the court decided to interpret the lease and estoppel certificate against the landlord. The landlord had drafted both documents and, arguably, could have written documents in order to avoid the uncertainty.

What the court ignored was the fact that the tenant completed the estoppel certificate and failed to fill in the blank space with information concerning the option to renew. The tenant actually created the ambiguity. The landlord relied on the statements in the estoppel certificate when it purchased the property. The landlord believed that after the close of escrow and upon the expiration of the lease term, it could negotiate a new lease and obtain a greater rent from Dr. Miner.

One lesson learned from this case is that judges tend to favor the tenant in close cases. This is especially true with residential tenancies. When leases are involved, residential landlords must use a good lease form such as the PPMA Residential Tenancy Agreement. The PPMA Agreement contains no options to renew and includes strong language requiring the tenant to complete and return estoppel certificates.

The second lesson from this decision is that all blanks on a form must be completed and not left empty. Empty spaces create ambiguities. Ambiguities will be construed against the landlord. If it makes sense, write “none” or “not applicable” in the blank space. Estoppel certificates can be extremely useful to landlords, but they must be drafted and filled in correctly.

Beverly C. Morgan v. City of Chino
Just as court decisions that involve commercial leases are important to residential landlords, so too are decisions that involve rent control and mobile homes. At issue in Beverly C. Morgan v. City of Chino was whether or not due process and a local rent-control ordinance required a rent increase sufficient to allow a landlord to both recoup the cost
of and earn a fair return on capital improvements. This issue frequently arises in the residential rent-control arena.

Landlord Morgan petitioned her local rent board for a temporary rent increase to recover the cost of road repairs and improvements within her mobile home park. The rent board eventually ruled that the landlord failed to demonstrate that the cost of the road improvements prevented her from receiving a fair rate of return on the mobile home park and, thus, denied the rent increase.

In general, a rent-control law is not confiscatory and will be upheld if the property owner is not deprived of a fair rate of return on her investment. The issue on appeal in Morgan was whether a landlord is entitled to a fair return on a particular capital investment, separate and apart from her return on the property as a whole. A fairly recent California Supreme Court case (Kavanau v. Santa Monica Rent Control Board) seemed to say that landlords are entitled to a fair rate of return on necessary capital improvements.

The court in the Morgan case held that the Kavanau case merely stood for the proposition that capital improvements must be taken into account as part of the overall investment when calculating a fair return on the business as a whole. According to the court, due process only requires a fair return on the mobile home park as a whole, not a fair return on each discrete aspect of the park such as road improvements.

The court provided an example of a landlord who spends $1,000 on sidewalk improvements. This investment is likely such a minuscule portion of the landlord’s overall investment in the property that it will have no effect whatsoever on the ability to earn a fair return under existing rents.
Thus, this case stands for the proposition that in order for rent boards to ensure due process, they must merely take capital improvements into account when evaluating whether an owner is receiving a fair return on the property as a whole. If existing rents are sufficient to provide the owner with a fair return on the entire investment, even after the capital improvements, then due process is satisfied.

This case is bad news for landlords in jurisdictions with rent boards that have a pro-tenant bias. Hearing officers may deny capital improvement passthroughs on the basis that the landlord is still receiving adequate rents. The determination of reasonable rents is within the discretion of the rent board hearing officer as long as all relevant factors are considered in the process. Do you trust that your rent board will honestly weigh all factors when balancing the interests of investors against those of renters? I don’t.

The opinions expressed in this article are those of the author and do not necessarily reflect the viewpoint of the SFAA or the San Francisco Apartment Magazine. The information within this article is general in nature. Consult an attorney for any specific problem. Clifford E. Fried, Esq. is with Wiegel & Fried, LLP 415-552-8230. Copyright © 2004 by Wiegel & Fried, LLP.