Real Estate Assets in Distress - Summer 2009

Date: June 26, 2009

In Current Economic Climate, Maryland Counties Embrace State Law Tolling Local Development Approvals
By: Jennifer R. Busse & Adam D. Baker

Governor O'Malley signed SB 958/HB 921 into law last month, a Bill which will undoubtedly assist many developers and landowners during this economic downturn. Approved by the House of Delegates 133-1 and by the Senate 47-0, this Bill provides additional life to qualifying development plans, approvals and permits that would otherwise expire due to the passage of time. The Bill will help keep the development pipeline "shovel ready" and prevent projects from becoming invalid. In short, the Bill tolls the expiration of certain permits and development approvals. This is a welcome relief to many developers who are currently unable to obtain the necessary financing to implement their approvals.

Exactly which types of permits and development approvals are tolled via this legislation, and for how long, is being analyzed now by numerous local jurisdictions. Several cities and counties throughout Maryland have already enacted local legislation which provides the same type of relief as SB 958/HB 921, while others are considering similar measures to clarify these issues. The following is a brief summary of the local legislation that has been passed in Maryland that addresses the tolling of development approvals.

Howard County
On March 2, 2009, the Howard County Council passed Bill No. 8-2009, as amended. While not directly tied to the state's new law, Bill No. 8-2009 provides greater longevity to development projects in light of the economic climate. It permits an additional revision of the phasing schedule for residential development projects and allows projects that were not previously phased to request a phasing schedule. Under the current regulations, phasing is the "sequential development of portions of a subdivision pursuant to a sketch plan which includes a schedule for submission of preliminary and final plan applications for the various phases of the project and a schedule for completion of these phases." Bill No. 8-2009 permits developers to revise the schedule for completion of the phases of a phased project one time through June 30, 2010. This newly permitted revision is in addition to the existing provision which provides that a phased project schedule may be changed once in four years during the subdivision plan approval process. The Bill also provides that a plan that was not previously phased may request a phasing schedule from the Department of Planning and Zoning once through June 30, 2010.

Prince George's County
On April 14, 2009, Prince George's County introduced Bill Nos. CB-7-2009 and CB-8-2009 as amendments to the Zoning Ordinance and the Subdivision Regulations of the County Code, respectively. These Bills temporarily suspend the expiration dates for all approved applications for Detailed Site Plans, Specific Development Plans, and Preliminary Plans of Subdivision, as long as they were in a valid status as of January 1, 2009. The suspension does not apply to applications whose validity period begins after the date of the adoption of the legislation. Both Bills were enacted on June 2, 2009, with an effective date of June 4, 2009. The provisions set forth under the Bills expire on December 31, 2010.

Montgomery County
The Montgomery County Council enacted Bill No. 5-09 on April 21, 2009. The Bill is split into two sections in order to allow for the temporary extension of permits and permit applications. Section 1 becomes effective on June 29, 2009, and Section 2 becomes effective on July 1, 2011. Section 1 of the Bill temporarily extends the validity of an application for a permit from 6 months to 12 months. In addition, Section 1 provides an extension of the timeframe under which the necessary inspections for a building permit must be performed. Specifically, the Bill bumps the 12-month period by which an initial approved inspection must be recorded up to 18 months after the building permit is issued. The second approved inspection must be recorded within 20 months after the issuance of the building permit, as opposed to the previously mandated 14 months. Section 2 of Bill No. 5-09 provides that the extensions permitted under the bill shall revert back to the initial time periods described above on July 1, 2011.

St. Mary's County
The St. Mary's County Board of County Commissioners introduced two proposed zoning text amendments on April 28, 2009. A joint public hearing on the proposed amendments was held by the Board of County Commissioners on May 26, 2009. The proposed amendments allow for the extension of the current time limits imposed by the comprehensive zoning ordinance and the subdivision ordinance. Specifically, the proposed amendments add language to support extending the validity period of approved projects that expire between January 1, 2009 and December 31, 2010 for an additional 2 years, at the discretion of the Planning Director.

City of Frederick
On May 21, 2009, the Mayor and Board of Aldermen of the City of Frederick enacted Ordinance No. G-09-9. The Ordinance provides that the approval period for any permit, as defined under the Ordinance, issued on or before August 31, 2009, shall be extended for 2 years from the date on which the permit would have expired under the law prior to the enactment of Ordinance No. G-09-9. "Permit" is defined under the Ordinance to include the following types of development approvals or permits: Variance, Conditional Use, Preliminary Subdivision Plat, Final Site Plan, HPC Certificate of Approval, Water/Sewer Allocation, Building Permit, Zoning Permit, Grading Permit, and Certificate of Adequate Public Facilities.

In addition to the measures taken by the local jurisdictions described above, a variety of cities and counties throughout Maryland are currently analyzing the impact of SB 958/HB 921. Many are in the process of drafting and adopting legislation of their own to address the issue. The question of whether a particular development approval has been afforded protection may need legal analysis, and we urge you to contact us on this issue.

Governments Work to Provide Incentives and Mandates for Building Green
By: Adam D. Baker

Cutting energy costs and protecting the environment have become more urgent over the past several years, so cities throughout the United States have recently passed laws to encourage -- and in some instances mandate -- green buildings.

In a 2007 study conducted by the American Institute of Architects, the number of cities in the U.S. with green building programs in place rose over 400% between 2003 and 2007. Currently 14% of American cities with populations over 50,000 now have green building programs. Some of these programs offer incentives such as tax breaks or zoning variances for construction that meets certain green building standards, while others require that certain buildings be designed and constructed to meet specific green standards. The regulatory schemes typically fall into one of three types: command-and-control regulations, financial incentives, and non-financial incentives.

Command-and-Control Regulations
These laws mandate that buildings comply with some form of green building standard. Oftentimes these types of regulations reference a private third party standard, such as the U.S. Green Building Council's LEED® (Leadership in Energy and Environmental Design) rating system or EPA's Energy Star program. In some instances, though, the municipality may have its own set of green building regulations, or it may incorporate local green building regulations on top of a referenced third party standard.

Command-and-control regulations are typically legislated in one of two ways: either through zoning ordinances or through changes to the building code. With the former, municipalities will pass an ordinance requiring projects to meet a referenced green building standard in order to obtain zoning approval. Baltimore City is among a handful of jurisdictions across the United States that have enacted these types of regulations.

In 2007, Baltimore City passed a zoning ordinance providing that commercial and multi-family residential buildings over 10,000 square feet being either newly constructed or extensively modified must be designed and constructed to achieve a silver certified level under the U.S. Green Building Council's LEED® rating systems. While this regulation initially impacted city-owned and -subsidized projects, beginning July 2009, all projects will have to satisfy this requirement in order to obtain building permits and use and occupancy permits.

Another popular approach for command-and-control regulations is to revise the building code to incorporate green building practices. In July 2008, California adopted a green building code for all new construction statewide, with targets for energy efficiency, water consumption, plumbing systems, diversion of construction waste and use of environmentally sensitive materials in construction and design. From an environmental perspective, the primary advantage to amending the building code to include green building requirements is that its impact is more widely felt than the zoning ordinance type regulations, as more buildings are generally affected by the changes.

Financial Incentives
Municipalities may also provide financial incentives to promote green building and sustainable development practices. These financial incentives often come in the form of tax credits, fee waivers, and even cash payments.

Baltimore County, Maryland, provides property tax credits for projects that earn certain levels of LEED® certification. The amount and duration of the tax credit hinges on a variety of factors, such as whether the project is commercial or residential, under which LEED® rating system the project is seeking certification, and which level of certification the project achieves under the applicable rating system. It should be noted, though, that there are certain limitations on these tax credits. First, a building may only receive one tax credit. If at any point during the lifetime of the tax credit the building is altered such that it no longer complies with the rating system under which it was certified, the Director of Budget and Finance may revoke the credit.

Although slightly different from a tax credit structure, Washington, D.C.'s Green Building Act of 2006 offers financial incentives to developing green projects. Starting in 2012, the Washington D.C. Green Building Act of 2006 will require a performance bond as a guarantee that private development projects will achieve LEED® certification. If a project fails to meet the LEED certification requirements, then all or part of the bond shall be forfeited to the District.

This system has been the subject of major scrutiny since its passage due to its unconventional use of performance bonds. Traditionally, performance bonds have not been used in this manner, and the surety industry has expressed some serious concerns over providing bonds for this purpose. Critics have argued that the system would have been better received if D.C. had simply decided to levy fines or withhold use and occupancy permits for projects that did not meet its green requirements.

Non-Financial Incentives
The third type of green building regulatory scheme is the non-financial incentive. These types of incentives typically come in the form of density bonuses or increases in height and floor area ratio, as well as expedited permitting. Using these types of incentives is often attractive for municipalities which may not have adequate capital to fund tax credits or other financial incentives for green buildings. It is also a good gateway for regulating green buildings for municipalities which have yet to enact other green building legislation.

In 1999, Arlington County, Virginia, instituted a density bonus program that encourages green building by providing opportunities for developers to obtain greater density for their projects. Through the program, a developer may request a density that is larger than that permitted by the local code if the project achieves LEED® certification at any of the four levels: Certified, Silver, Gold, or Platinum. The amount of extra space permitted for a project directly correlates with the level of LEED® certification the project achieves.

As green building practices and sustainable design have gone mainstream, the influx of government incentives and mandates has continued to rise. It is likely that as sustainable development becomes the norm, we will see a shift from the incentive-based regulations to more command-and-control type regulations. This is not an entirely negative shift, as studies have demonstrated that increased building performance, lower cost premiums, and overall well-being of building occupants have provided attractive enough incentives for building owners and developers to go green.

Leasing Survival: What You Can Do In A Weak Real Estate Market
By: Tami P. Daniel

In this weak real estate market, landlords are experiencing significant vacancies in their office buildings, strip centers and enclosed malls. Retailers are cutting back the number of sites they operate, if not going out of business altogether, or they are relocating stores to areas more attractive to their customer base with the hopes of getting through the recession. On the office side, companies are cutting staff and consolidating office space by closing satellite offices and relocating retained employees to existing offices, or trying to reduce the size of their current leases. Some companies simply relocate their entire staff to less expensive buildings.

During these tough economic times, can a landlord find a dynamic way to retain existing retail and office tenants whose terms are set to expire, or to attract replacement tenants when existing tenants walk away? A passive, "wait and see" approach is not going to help weather the storm. Landlords need to react quickly if an anchor or key tenant vacates by reaching out to existing tenants to entice them to consider lease extensions and by marketing space to new tenants. Enticements may include adding amenities to the office building or shopping center, transitioning the building to incorporate energy efficiencies and the other "green" elements that many companies are now requiring, and even renegotiating lease terms. New tenants and tenants whose lease terms are due to expire soon are strongly positioned to negotiate rent reductions, lengthy free rent periods and higher improvement allowances. The nature of the tenant's business can be a factor in just how hard a bargain a tenant can drive: banks and other financial service companies are less likely to negotiate favorable deals due to the current volatility of their business. Tenants are well served by looking at several sites so that multiple landlords are competing for their business. Retailers fare better if they offer goods and services attractive to a frugal customer base. In all instances, tenants should be realistic in asking for changes so as not to force landlords into making bad decisions that could cause them to go out of business. Don't forget to approach the lease as a long-term partnership with the need for both sides to be financially rewarded.

But what if a tenant's lease term is not expiring in the near future? Is it possible to approach a landlord with a request for rent relief or other concessions based on current financial hardship? The good news is that smart landlords struggling with significant vacancies will consider granting rent relief and other concessions. If they stonewall the tenants' requests hoping the turnaround is right around the corner, they may risk losing a good tenant if things get worse. It is smarter to have a tenant paying less rent than to have no tenant at all. Landlords are advised to communicate with their lender and review loan documents to make sure that there are no covenants restricting these types of lease amendments.

Tenants with long terms remaining should not be shy about requesting rent relief, but tenants need to be cautious, not ask for the moon and be prepared to document their need for rent relief with financial statements. Shopping center landlords may be willing to temporarily reduce rent if the tenant's sales have been falling consistently over a
significant period of time as evidenced by sales reports. Rent reductions might take the form of basing rent on a percentage of sales only or reducing rent by one-half for a 6 month or 1-year period, with or without re-payment at the end of the term. Typically, the landlord will insist that all deferred rent comes due if the tenant defaults. Landlords will expect tenants to be current with rent at the time of any request so tenants should not get behind on rent and then attempt to seek relief; otherwise the request will fall on deaf ears. Concessions that reflect a retailer's desire to enhance sales are more often than not favorably received by landlords, including relocation to a smaller, more suitable space, a change in use to adapt to different price points, or landlord funding a remodeling allowance to give the store a face lift. If a retailer or office tenant desires to cease operations entirely, the landlord may cooperate with the tenant in seeking a third party to whom the lease may be assigned or the space sublet.

Is it reasonable to expect landlords to condition rent relief on obtaining reciprocal concessions? Absolutely. Landlords are wise to ask for greater financial security under the lease in consideration for granting rent relief, including extending the term, increasing the security deposit, or requiring a personal guaranty or parent company guaranty on the lease, if there is none, or an additional guarantor. Tenants should anticipate these requests and be willing to accept them in return for the renegotiation of lease terms.

In conclusion, the significant vacancies we're seeing now in retail centers and office buildings are creating the need for communication and partnership between landlords and tenants. Both parties have a vested interest in working together to weather the current economic storm with the goal of being in a strong position when the turnaround eventually comes.