Prevailing Wage: Will SB 975 Stall Housing Production?

One of hotly contested bills recently signed by Gov. Davis is SB 975. The bill would appear to compel all development projects that use any public funds to pay prevailing wage. Give our readers a sense of what the potential ramifications of this legislation might be on the housing development community.

Tom Gilmore

Gilmore Associates

Many of the development projects that will occur over the next 20 years will be some version of a public-private partnership. SB 975 essentially makes all those public-private partnerships identical in the eyes of the state. It sees all help by the state, the city or any governmental agency-whether it be direct cash, tax abatements, etc.-as equal. And it's not.

I think I understand what the intent of the bill may have been and because of that I understand why it got such strong support in the Assembly, but I really think it's final form is flawed. Simply stated, it discourages developers because there is no dollar for dollar accounting. That fundamental defect makes it a very unworkable bill as far as developers are concerned.

Nick Cammarota

Calif. Building Industry Association

As it currently stands, the bill is confusing and lacks a clear definition of what a "public works project" is and what factors trigger the prevailing wage requirement. Because of that, a developer could-in good faith-believe that s/he was not subject to the prevailing wage law, find out later that s/he was and be required to pay penalties and fines as well as face the possibility of additional damage awards. It becomes a question of what fair notice is and whether or not certain projects should be subject to prevailing wage.

Additionally, it has been said that the primary target of this legislation is: 1) Redevelopment agencies; and 2) Projects that are subsidized or in some way receive a large amount of public assistance. However because the type and amount of subsidy is not clarified, most projects receiving any assistance-whether they be in the Downtown core, utilize smart growth principles, are mixed-use or are affordable-will be the ones most negatively affected.

Let's flesh out the perceived impacts a little more. What impacts will SB 975 have on your constituencies in terms of cost? And what will be the statewide significance?

Julie Bornstein

Dept. of Housing & Com. Development

In terms of cost, I don't necessarily believe that this legislation will have a big impact because so many of the large urban areas are already paying prevailing wage.

Jan Breidenbach

So. Calif. Assoc. of Non-Profit Housing

Our members had conflicting opinions about the bill. They support the concept, but obviously aren't thrilled at increased costs. We looked at a number of proformas and tried to separate out labor from the rest of the construction line-items and what we've found is that-depending on a number of factors, including location-most developments increased in cost by approximately 5-10 percent. That's not insignificant, but what is most important to us is certainty, so we are interested in getting clarity on implementation and make it and monitoring as easy as possible so more does actually go to workers and not to cover "hassle" costs of all the paperwork. That should be the goal of the clean-up language.

Tom, let's try to flesh this out a little more by using you as a case study. You are one of the few market-rate developers to venture into the urban core and must rely on these public-private partnerships to continue to be successful. What are the current challenges that preclude so many from taking on the urban core? And what impact will this bill have to limit that further?

Tom Gilmore

On top of the incredible investment of time, money and the myriad of rules, regulations, politics and applications that are required for public-private partnerships, the key is that while the public sector should have an interest in the ultimate social goal of a given development, they often still insist on underwriting the deal as if it were a private development deal.

In the case of the Old Bank District what became very difficult was that the underwriting that occurred made the same assumptions as if we were building in the middle of Westwood. I had to prove that this project was financially viable while at the same proving that it was absolutely necessary because of urban blight and a real need for mixed income housing. You end up having to prove that you are an incredibly savvy businessman while at the same time proving that you're one of the stupidest businessmen on the planet because you're doing something no one else wants to do. That's a real fundamental problem and one the will seemingly be compounded by SB 975.

Julie, you've heard the assertions from our panelists that this bill will undermine future housing development, not only in L.A., but throughout California. And you've heard the trepidation that these groups have re: implementation and oversight. Give us your take on the bill's impacts.

Julie Bornstein

For-profit developers in particular have voiced those kinds of opinions. And in knowing Tom and being involved in his project I can validate and sympathize with his feelings. But he is building a project, that I hope he still feels is viable, with our money.

Tom's case is unique however for he was caught in a transitional period. When he first started developing his project we had no program in place to help him. However, as time went on the Downtown Rebound Program was created and we were able to allocate a sum of money to aid his project. However, that law was amended by Steinberg's AB 1901 in the 2001 legislative session to require prevailing wages. And because of that he had to go back and recalculate his proforma. So, Tom's gripe I can understand.

However despite Tom's concerns about the possible negative evolution of this process, I will tell you that our multi-family housing program has also become subject to prevailing wage and it hasn't stopped developers-for-profit or non-profit-from applying. In fact we've continued to receive an abundance of applications-well above our yearly funding limits in fact-since the prevailing wage stipulation was added. So from our vantage, prevailing wage hasn't suppressed demand.

With regard to the additional level of bureaucracy and oversight that Jan mentions, there is legitimacy to that claim at this point in time. The wording of SB 975 was not finalized until very late in the last legislative session. And there simply was not a lot of time for us to sit down with the Department of Industrial Relations and educate them on the complexities of housing projects and implementation procedures. However, we are attempting to fix that and meet with the Department as well as other members of the administration to see how we can eliminate any delays that may be caused by this new requirement.

I gather that another assertion from some in the development community is that the Governor's decision to sign this bill undermines his promise to aid in the development of affordable housing in urban localities. Is that criticism fair? Does SB 975 cut against the policy objectives of these other decisions?

Nick Cammarota

With respect to his attempts to incentivize affordable housing, that is a gray area simply because one of the provisions added by SB 975-Subdivision (b) of Section 1720 in the Labor Code-redefines public funds to include loans which are discounted, reduced or charged at interest rates that are less than market rate. That could be problematic for those housing developers receiving below market rate subsidies or loans.

It sounds as if the Governor is paddling on both sides of the canoe. Are the Governor's budgetary actions of providing additional funds to curb the housing crisis inconsistent with his decision to sign SB 975? Will this end up incentivizing suburban sprawl and creating new barriers for urban reinvestment?

Jan Breidenbach

I don't believe that in practice we will see any ramifications at the local level. Folks who develop all over will continue to do so, and folks who are targeted in one or two neighborhoods will stay there.

Nick Cammarota

On the one hand, it appears the Governor is trying to assist affordable housing projects through his work with Julie and HCD. On the other hand, he's providing a disincentive by making them 20 percent more costly. And all of this is playing out in front of the backdrop of a statewide revenue shortfall. It doesn't make sense to increase costs by 20 percent and not increase funding by the same amount. But it seems as though that's what the Governor is doing.

Julie Bornstein

There are developers who believe that it is more difficult to do infill than it is to develop in the inner-cities, but those beliefs have nothing to do with prevailing wage. The prevailing wage condition will be applicable to both suburban and infill construction. I don't think that's an issue. And if it is, it is because the locality makes it an issue.

Tom Gilmore

Development in greenfields very rarely requires state help. So the economics of those projects won't change because of this legislation. The only economics that will really change because of this bill will be multi-family developments because those are the ones that need assistance. And if that is the consequence of this law, I don't see what possible benefit SB 975 can bring to the state. It's antithetical to what the state is trying to do.

The state seems to be acting as if the urban infill market is a vibrant, healthy market. That assumption is fundamentally flawed. By implementing this legislation they are hindering a market that must see greater activity if it hopes to protect labor. Downtown revitalization, while it seems to be catching a little bit of fire, is not a mature market. It will require stimulus for another decade before a measure such as this can be implemented and not kill the market.

Obviously there are many different priorities at the state level. Sometimes those priorities conflict. As we look to the future, will SB 975 have the effect of unintentionally disincentivizing housing in the state? Give us a benchmark here in terms of what, if any, the foreseeable impacts of this bill may be.

Julie Bornstein

From where I sit, I do not see SB 975 disincentivizing development. However, there are a number of issues that do present challenges to development. We're working hard to remove those challenges.

Nick Cammarota

In some of the case studies I've seen, you may have a $45 million project where the redevelopment agency is contributing $5-6 million. If that $45 million project is now going to be 20 percent more costly, that's going to add another $9 million to the cost of that project. Rather than allocating $5-6 million the redevelopment agency must now allocate $14-15 million. That's double or triple the amount of subsidy for each project. And unless we see an increase in funding to these public agencies, that translates into a drop in the amount of projects redevelopment agencies will be able to do in the future by 2/3.

And if that fact is true, how do we attempt to fix it? It has been rumored that there will be clean-up legislation offered in the next session to make the language of SB 975 more precise. If that legislation were proffered, what would you suggest be added to make the bill more reasonable?

Tom Gilmore

The current language may cause one of two things to happen: 1) Developers will cease working with the state to build the kind of new, mixed income housing that we so desperately require; or 2) When developers do go to the state, they will attempt to make the state compensate them for the entire differential in the cost of doing business by asking for the maximum allowable allocation.

Neither of those are acceptable ways to address the state's housing need. In my opinion, if the legislation is revisited, a ratio or baseline that identifies a threshold for prevailing wage must be established. Therefore, if my total project cost is $42 million and you're lending me $1 million, that should not trigger prevailing wage. If it does, assuming that the differential in labor is between 10-15 percent, you just added $8 million to my job. Why would I partner with an agency that forces me to pay $8 million for a $1 million loan?

Nick Cammarota

This type of situation has been discussed before. There was a court decision in 1993, Macintosh vs. Aubrey , which stated that public agencies who waive or reduce fees and/or sell or lease parcels below market rate do not generate income and therefore are not required to pay prevailing wage. That mechanism was used effectively by redevelopment agencies to piece together affordable housing projects in urban core areas desperate for affordable units. SB 975 overturns that decision and forces projects that use that mechanism to pay prevailing wages. If we could only do minimal clean-up to the current bill, reinserting the specifics of that court decision might be an effective way of mitigating some of the aforementioned problems.