July 10, 2009

By Stephen M. Eisdorfer, Esq.

In an uncertain market, astute builders must reach beyond their past business models. Many builders who previously have built only for immediate sale have noticed that current economic conditions for rental housing are stronger than the economic conditions for sales. Building for rental -- at least until the demand for sales picks up — may be an attractive alternative, especially for project that are already approved or partially constructed. To exploit the rental option, however, builders must deal with a number of legal complications.

Overcoming Local Resistance

Municipal officials and neighbors are often unenthusiastic about the possibility of rental of housing units when they had anticipated the units would be owner-occupied. They may even prefer an unbuilt or uncompleted development to a development with a substantial number of rental units. In general, however, municipalities cannot regulate whether housing is rented or owner-occupied. They cannot lawfully require owner-occupancy in their zoning ordinances and they cannot lawfully require that the housing units be owner-occupied as a condition of site plan or subdivision approval. In general, the developer need not seek any special or additional approval to rent units in previously approved project. The general principle of law is that municipalities may not regulate the form of ownership of housing units.

Municipal ordinances or development approvals, however, sometimes do unlawfully restrict the builder’s ability to rent the units. In those instances, the builder may have to seek relief from such illegal requirements from the municipality or, ultimately, from the courts.

Regulatory Requirements for Rentals

Prior to actually renting units, of course, the builder must comply with the various legal prerequisites to renting. These include filing landlord registration statements under New Jersey’s landlord/tenant laws, registering with the Department of Community Affairs under the Hotel and Multiple Dwelling Act, and, if the number of rental units exceeds 24, filing annual reports with the Division on Civil Rights.

In addition to dealing with governmental regulations, builders may also have to deal with the owners and occupants of previously sold housing units in the development. They, too, may not be enthusiastic about rental of neighboring housing units which they had anticipated would be owner-occupied. This issue can become particularly acute if the project is a condominium or has common areas owned by a homeowners association.

Complications in Condominium Projects

If no units in a condominium project have actually been built or put under contract, the builder can simply file a revocation of the master deed. This may be advantageous if the developer plans to operate the project indefinitely as rental housing. While the project is governed by a master deed, each condominium lot is assessed and taxed separately based upon its market value. If there is no master deed, the project is assessed as a single property. This frequently results in a more favorable assessment. It does, however, create complications if the developer decides at some later date to convert to sales housing. He or she must then follow the lengthy and complex procedures governing condominium conversion.

If units have already been sold or built, the project is ordinarily governed by the master deed and bylaws of the homeowners association. The master deed and initial bylaws usually permit the developer to either sell or rent. Once the homeowners have assumed control of the homeowners association, they may seek to amend the bylaws of the association to prevent or discourage rental of the remaining units. The courts have held, however, that a homeowners association cannot amend its bylaws to bar the developer (or any other unit owner) from renting, or to discriminate against renters. A homeowners association may charge a reasonable fee based upon any actual costs it incurs related to the rental.

Reversing Course to Turn Rentals into Sales

Finally, when market conditions improve, the developer may wish to take back the rented units and put them up for sale. If the property has been subdivided or is condominiums, he or she can do so as the units become vacant. If the developer wishes to evict existing tenants, he or she must comply with New Jersey’s so-called Anti-Eviction Act, which typically requires three years prior notice to evict. If the property is not subdivided and is not a condominium, the developer must go through the statutory condominium conversion process, which is more complex.

All Options Should be Explored

Today’s economic climate requires that builders become more and more creative, especially when sales numbers are bleak. If market conditions make the rental alternative financially advantageous, a builder can successfully navigate through the legal complications so that income from the project is derived as we wait for the economy to recover. Doing so, however, requires forethought and a careful strategy.

Stephen M. Eisdorfer is a partner of Hill Wallack LLP and member of the firm’s Land Use Division. A recent member of the Board of Directors of the New Jersey State Bar Association’s Land Use Section, he concentrates his practice in land use matters, including applications, Mount Laurel litigation and litigation involving the civil rights statutes.

Hill Wallack LLP is one of the largest law firms in Central New Jersey, with offices in Princeton and Atlantic City, New Jersey and Yardley, Pennsylvania. Over the past 30 years, Hill Wallack LLP has earned a reputation for comprehensive problem solving. The firm’s well-known practice groups in Land Use -- Planning, Zoning, Affordable Housing, and Redevelopment -- Environmental Regulation and Litigation, Regulatory and Government Affairs, Workers’ Compensation, Insurance Defense, Real Estate, Community Association Law, Construction and Business Law are complemented by its specialty practices in Gaming Law, Employment, Professional Liability, Government Procurement, and Public Finance