City Council Approves Developer Linkage Fee
Written by Peter Strauss of Iconic Investments
On December 13th, the Los Angeles City Council approved Mayor Eric Garcetti’s proposal to charge developers a linkage fee that is expected to generate $104 million annually. The money is earmarked to fund the construction or preservation of affordable housing units in Los Angeles.
Most residential or commercial developments that require building permits and create additional housing will be subject to the linkage fee. Here's how it works:
- Developers of residential projects will pay a fee of $8–$15 per square foot, which will be calculated based on the applicable square footage of their projects. So, if the project is 30,000 square feet, the linkage fee can add an additional $450,000 to the cost of the project.
- Projects with five units or less are exempt.
- Replacement of single-family residences are exempt.
- Non-residential developments with 10,000 square feet or less of floor area are exempt.
- For residential projects with the total number of units (11% very-low income, 20% low-income, or 40% moderate income) are exempt.
- Where a project falls within the $8–$15 range depends on the market value of the neighborhood. Better location=higher fees.
The big question asked by most critics of the linkage fee is: Would this discourage real estate development in Los Angeles?
The new linkage fee can be viewed as a 6–7% tax on projects; however, the capital markets are free flowing with cash and there are plenty of developers who want to build and own in Los Angeles. In the long run, the linkage fee might not have any impact on developments. But, in the short-term, it may present a challenge.
Developers aim to hit a target IRR or stabilized CAP rate, so there is no argument that the linkage fee won’t reduce their ROI. Developers will be forced to bet big on achieving higher rents, underwriting what may be unrealistic numbers. Developers will need to rely on creative amenity packages to push rents, but how far can you push amenities and does the location warrant what’s offered. If you are developing a project like Ten Thousand Santa Monica Blvd (Beverly Hills), it makes sense to offer valet parking and concierge service. In Koreatown and Hollywood, not really. Even in Beverly Hills, there is only so much demand for multiple projects like Ten Thousand Santa Monica Blvd.
How High Can Rents Go?
With thousands of Class A units recently built in Los Angeles, high-end properties have become a commodity. Markets like Downtown LA have seen an uptick in vacancy and a plateauing of rents. Renters make no distinction between projects that did or didn’t pay the linkage fee. Therefore, tenants are not willing to pay higher rents for those buildings affected by the linkage fee.
Other potential short-term developments obstacles include: Measure JJJ, risk of higher interest rates, and substantial increase in construction costs. However, despite all obstacles, the linkage fee will probably not have a measurable effect on development.
Iconic Investments
16530 Ventura Blvd
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Encino, CA 91436
T: 747-444-3300
W: www.iconicinv.com
Iconic Investments is a Los Angeles-based boutique commercial real estate brokerage firm focusing on multi-family properties of 15 to 100 units throughout Los Angeles in all different sub-markets. Iconic represents multi-family property owners in dispositions, acquisitions, and 1031 exchanges.