How-To’s of Passthroughs
by J. J. Panzer
Have you made an improvement to your property in the past five years? Maybe you painted the outside of your building, replaced your roof, or completed a seismic retrofit. If so, Rent Board capital improvement petitions allow you to legally increase your tenants’ rents to recoup some or all of the cost of these projects over time.
You can recoup between 50 and 100 percent of your investment going up to five years back through your records. For seismic projects mandated by the Soft Story Retrofit Ordinance, you can recoup 100 percent of the costs necessary to complete the project. In this article, we’ll talk about how to prepare and submit your petition yourself, as well as the advantages of using a service to prepare your documentation for you. It typically takes between six and 18 months to prepare and submit your petition and sit for a hearing to have your petition certified.
First Things First
Before you even begin your project, follow these steps to ensure a smooth passthrough approval.
Keep your future petition in mind before hiring a contractor. Be clear on the scope of work, and obtain competitive bids to minimize the number of change orders. Get at least two competitive bids for the work and make sure you keep copies of your cancelled checks, including the image of the back of the check as documentation that you made the payments. Keep copies of invoices for progress payments.
Know that petitions for less than $25,000 don’t require multiple bids. However, don’t be tempted to try to break your petition into multiple chunks of $25,000. The fees are fairly reasonable and the time saved is better than having to keep track of multiple petitions. You can also provide detailed time-and-materials proposals or invoicing instead of multiple bids.
You don’t have to pick the lowest bid, as long as you don’t pick a drastically higher bid. For example, if your general contractor is your brother-in-law and he’s properly licensed and insured, it’s understandable that you’d prefer to work with him. If you get a competitive bid that’s reasonably close to the lowest bid, say within 10 percent, you can pick the higher bid with the explanation that you preferred to work with your brother-in-law.
Work completed with insurance proceeds is not eligible for a petition. If you put additional money into the project, those costs can be passed through to the tenants but you have to be very careful to separate your documentation so your proposals for the insurance replacement work and the improvements as well as the payments for these items are clearly delineated from one another.
You can choose when to impose rent increases for eligible tenants. If you have eligible tenants in your building whose rents are at market rate, you can delay imposing the rent increases until a later time, even years in the future. Start by including them in the petition and getting it approved by the Rent Board. You can wait several years to begin collecting your petition income by simply waiting to serve rent increases later.
The DIY Approach
To submit your petition to the Rent Board, first gather all of your paperwork. This includes your proposals; copies of cancelled checks, including the front and the back; and a full detailed rent roll. Next, download all of the Rent Board’s forms and complete them carefully. You may prepare and serve all the rent increase notices after you submit your petition.
Let’s walk through the process using an example. Mrs. Smith, an imaginary owner of a 10-unit building, is replacing her roof. Because her building has more than five units, she gets a 50 percent passthrough for this project. To ensure that her passthrough is approved more easily, she gets two bids, one for $55,000 and another for $50,000; she picks the lower bid. She signs the contract and delivers a check for the deposit to the contractor. She gets a copy of the cancelled check to prove that the job was started and that the money was paid. When the project is complete, she inspects the job, pays the balance, and gets a copy of that second cancelled check.
Mrs. Smith downloads and fills out the Rent Board’s forms. In this circumstance, her allowable petition amount is $25,000, half of the overall project cost of $50,000. Remember, buildings with five units and over can only receive rent increases for half of the cost of the work completed. Buildings with four or fewer units are eligible to receive rent increases for 100 percent of the cost of the work. She uses cash, so she applies an imputed interest rate, specified in the Rent Board’s forms. In this example, the allowable passthrough amount is $25,000 and the imputed interest rate number is .00947. She multiplies that by 120 months to figure out the total passthrough allowed is $28,410.
Mrs. Smith divides the total allowable petition amount, $28,410, by the number of units in the building to determine each unit’s share. $28,410 divided by 10 units is $2,841 per unit, applied over the course of the ten-year life of the roof. Next you must determine how many of the tenants are eligible for the petition based on their move-in date. Tenants are eligible for a capital improvement petition if they have resided in the building for at least six months prior to the commencement of construction as evidenced by the first check written to begin work. In this simplified example, let’s say all of the tenants are eligible. The next step is to figure out the annual increase amount by dividing the unit share, $2,841, by the number of months over which the petition is to be amortized. For a roof the amortization period is 10 years (120 months): $2,841 divided by 120 months is $23.68 per unit per month. Some exceptions and limitations apply. Read your Rent Board forms carefully and don’t hesitate to call the Rent Board for help.
Before proceeding down the DIY route, keep in mind that this process will probably take at least six to 12 months, depending on the Rent Board’s backlog of petitions. You must be highly organized to complete this process successfully. There’s no guarantee that your petition will be accepted, even if you think you have properly filled out your forms and provided all of the necessary documentation. This process can be very confusing and stressful.
How to Outsource Petition Preparation
You can have your property management firm handle your Rent Board passthrough for you. There are several benefits to having your property manager handle your petitions. Primarily, they will deal with all the headaches and tedium on your behalf. SFAA member firms have extensive knowledge in managing rent-controlled properties in San Francisco, so they know how to work with the Rent Board to get your petition certified. Nevertheless, the firm you choose to handle your petition doesn’t have to be your property manager.
Begin the process by gathering your paperwork and sending it to your property management company. If your property management company oversaw the project for you, make sure they gathered the documentation properly and have it readily available to include in your petition. A quality firm will be happy to review the paperwork and give you their initial evaluation and a projection of how much your rent increases would be for a successfully completed petition. For example, the evaluations we produce at RMC include a letter grade, A through F, that will explain how well your documentation meets the Rent Board’s requirements. If you get anything but an A+ grade, we’ll give you a list of suggestions to improve your documentation. The petition service you choose should also tell you exactly how much your rent increases should be for an accepted petition, so that you can make an informed decision about whether it makes sense to proceed with the petition or not. Then, if you decide you’d like them to prepare your petition, you can make sure the investment is worth it to you. We find that most petitions for projects costing less than $25,000 are too costly to prepare and don’t offer large enough rent increases for our clients to consider submitting them.
For instance, at RMC, we charge $1,500 for any capital improvement petition of under $150,000 in value, $2,500 for any capital improvement petition of over $150,000 in value, and a flat $3,000 fee for any operating and maintenance petition that covers the increase and cost for operating the building from year to year. We typically recommend that clients group smaller projects together into a single petition of over $25,000 to get more return for the cost of preparing and submitting a petition.
Consider a Turn-Key Solution
To make things easier for you, consider a Turn-Key Rent Board Passthrough Service. This kind of service will take you from the beginning to the very end of the process, with a guarantee of a successful conclusion. The process begins with a detailed report providing an initial evaluation and projection of rent increases. Then the firm you choose would also prepare the petition for you as well as prepare all rent increases, serve them to your tenants, discuss the process with the tenants as needed to ensure a smooth conclusion, and represent you at the Rent Board’s hearing with the administrative law judge to answer any questions about how the process went from the beginning through the end. If you’d like us to go through the entire process, including rent increases and representing you at the Rent Board, we charge 30 percent of the first year’s revenue that you get from your successfully completed petition.
The firm you choose should offer you a 100 percent money-back guarantee if they can’t deliver an approved passthrough for you after two attempts. Without the guarantee, you could be risking many thousands of dollars and years of time that can’t be recovered otherwise.