BILL ANALYSIS
AB 728
Page 1
Date of Hearing: April 30, 2003
ASSEMBLY COMMITTEE ON LOCAL GOVERNMENT
Sim?n Salinas, Chair
AB 728 (Leno) - As Amended: April 10, 2003
SUBJECT : Real estate: subdivisions.
SUMMARY : Allows developers to make binding pre-sale contracts
with potential buyers
of condominiums earlier in the construction process, and
increases the presumed valid amount
of liquidated damages that are payable to a developer in the
case of breach of a pre-sale contract. Specifically, this bill :
1)Extends the term of a conditional public report on a
condominium development from six months to three years, and
provides for additional renewal terms of six months each at
the discretion of the Real Estate Commissioner.
2)Removes the provision of existing law that invalidates a
liquidated damages provision of a pre-sale contract if the
amount actually paid pursuant to the provision exceeds three
percent of the purchase price of the residential property, and
states that a liquidated damages provision is valid to the
extent that payment is actually made unless the buyer
establishes that the amount is unreasonable.
3)Prohibits a governing body from refusing approval of a parcel,
tentative, or final map of a condominium project on account of
the absence of a condominium plan as defined at
Section 1351 of the Civil Code.
4)Requires a local agency or government to provide a subdivider
with a written certificate of approval of the subdivision's
tentative map upon request.
EXISTING LAW :
1)Defines "subdivided lands" and "subdivision" to include, among
other things, any condominium project containing five or more
condominiums, as defined, and authorizes the Real Estate
Commissioner to issue a conditional public report for a term
of six months when "subdivided lands" or a "subdivision" are
AB 728
Page 2
offered for sale to the public and specified requirements are
met.
2)Provides that a provision for the payment of liquidated
damages in a contract to purchase and sell residential
property is invalid if the amount actually paid by a buyer who
fails to complete the purchase of the property exceeds three
percent of the purchase price, unless the party seeking to
uphold the provision establishes that the amount actually paid
is reasonable.
3)Provides that a governing body may not, among other things,
refuse approval of a parcel, tentative, or final map of a
condominium project on account of the design or the location
of buildings on the property shown on the map that are not
violative of local ordinances.
4)Requires that a tentative map is deemed to be validly approved
if no action is taken upon a tentative map by an authorized
advisory agency or the legislative body of a city or county
to approve, conditionally approve, or disapprove the tentative
map within the time limits specified in the act, and the
tentative map complies with applicable requirements of the act
and local ordinances enacted pursuant to the act.
FISCAL EFFECT : Unknown
COMMENTS :
1)Condominiums have long served as an affordable form of home
ownership. Many first-time homebuyers look to condominiums as
an entry into the housing market. However, condominium
construction in California has come to a near standstill.
There are many reasons for this - construction defect
litigation and resistance to multi-family housing from local
governments and NIMBY organizations, among others - but one of
the most crippling reasons is the extreme difficulty in
obtaining financing for condominium development.
2)Nearly all condominium developers in California finance their
projects by borrowing. Because California is an expensive
market and it can take as long as five years to complete
a large condominium project, developers often face a gap between
the equity they can contribute and bank loans they can secure
and the total cost of completing a project.
AB 728
Page 3
A typical developer may be able to contribute equity equal to
just three percent of the cost
of a project and raise 85 percent construction financing through
bank loans, leaving a gap
of 12 percent. To bridge the gap between a conventional loan
from an institutional investor and the equity required to
undertake a real estate project, developers often seek
"mezzanine financing." Mezzanine financing is secured on
title but is paid back like a loan. Because mezzanine
financiers must put their money at risk for long periods of
time and line up behind other creditors in the event of a
default, they demand a high rate of return - some as high as
40 percent.
3)One way developers in other states reduce their financing
costs and the amount of mezzanine financing they require is to
pre-sell condominiums before they are built. This practice
exists already for horizontal construction, or single family
home construction. If a developer can show a lender a
substantial percentage of binding sales contracts and purchase
deposits held in escrow, he could obtain a bigger loan, better
financing terms and a lower interest rate. This reduces the
total cost of a project and allows developers to offer more
competitive, lower-priced condos.
4)In most cases, California law requires developers to obtain a
final public report, also known as a "white paper," from the
state Department of Real Estate (DRE) before they can enter
into a binding sales contract. One of the requirements is a
final subdivision map, a document explaining how a tract of
land will be divided into parcels and how title will be held.
This requirement is intended as a fraud prevention measure by
ensuring that a project can meet certain legal standards.
Developers can begin construction before the issuance of the
final public report, but cannot enter into binding contracts.
Before issuing the final public report, the DRE issues a
preliminary public report, known as a "pink paper." However,
the pink paper only allows developers to take non-binding
reservations for condominiums - deposits must be fully
refundable. The financing costs imposed by DRE's prohibition
on the pre-sale of condominiums are compounded by
time-consuming local permitting processes at the city and
county level.
5)DRE is aware of the difficulty and cost imposed by its public
AB 728
Page 4
report process and has attempted to streamline the approval
process for condominium development, but significant problems
remain. In 1993, the Legislature amended the Business and
Professions Code to allow DRE to issue a conditional public
report. The purpose of a conditional public report is to
allow condominium developers to enter into binding pre-sale
contracts and open escrows prior to completing all of the
requirements for a final subdivision public report. Under this
process, purchase money must be impounded in a neutral escrow
account and no escrow can close until all of the requirements
of the final public report are satisfied. Developers must
satisfy all requirements of the final public report within six
months of the issuance of the conditional public report. The
Commissioner of the DRE can grant one six-month extension.
6)Many developers complain that the conditional public report
process does not solve the underlying problem because it
delays their ability to pre-sell until the final six months of
what is most likely a five-year development process. At that
point, the damage is already done. The DRE has countered that
developers can also achieve permission to pre-sell
condominiums earlier by purchasing completion bonds for their
projects. However, obtaining completion bonds is typically as
difficult and costly as mezzanine financing -
this it does to solve the problem.
7)Another factor that increases risk for condominium developers
in California is the state's cap on the amount developers can
retain when purchasers default on a binding sales agreement.
Existing law presumes liquidated damages of up to three
percent of the home purchase price when purchasers default on
valid contracts. While developers may contract with
purchasers to retain a larger portion of a deposit in a
default situation, the developer bears the burden of proof to
demonstrate damages above the three percent cap. Many
developers say this low liquidated damages threshold and the
difficulty and cost of litigation to retain a greater share of
deposits in default renders California pre-sale agreements
virtually meaningless. Many states, including Florida,
Illinois, Massachusetts, New York, and Oregon, have no
statutory limit on liquidated damages.
1)AB 728 extends the term of a conditional public report on a
condominium development from six months to three years, and
provides for additional renewal terms of six months each at
AB 728
Page 5
the discretion of the Real Estate Commissioner. It also
removes the provision of existing law that invalidates a
liquidated damages provision of a pre-sale contract if the
amount actually paid pursuant to the provision exceeds three
percent of the purchase price of the residential property, and
states that a liquidated damages provision is valid to the
extent that payment is actually made unless the buyer
establishes that the amount is unreasonable. By making these
changes, AB 728 attempts to make it easier for a potential
condominium developer to generate sufficient pre-sale
contracts to expedite financing, and also makes the contracts
more reliable by removing the three percent cap on liquidated
damages and shifting the burden of proof from the developer to
the buyer who wishes to walk away from the pre-sale contract.
The hope is that these changes will help restart the
production of condominiums in California, thereby providing an
important component to any solution of the state's critical
shortage of affordable housing and a means for more people to
become homeowners.
REGISTERED SUPPORT / OPPOSITION :
Support
CA Building Industry Association
Home Ownership Advancement Foundation
Opposition
None on file
Analysis Prepared by : J. Stacey Sullivan / L. GOV. / (916)
319-3958