As we discussed in prior posts from November 2022 and February 2023, San Francisco voters passed the Empty Homes Tax Ordinance, which is now codified in San Francisco Business Tax and Regulations Code Article 29A (the “Empty Homes Tax”), and becomes effective as of January 1, 2024.

San Francisco (the “City”) will impose the annual Empty Homes Tax on each person that owns a building with three or more “Residential Units” for keeping any of those units “Vacant” during the prior tax year. While the Empty Homes Tax will only apply to Vacant Residential Units, the filing requirement will apply to all non-exempt owners of Residential Units, even if no tax is due.

In the beginning of 2023, local landlords filed a lawsuit challenging the validity of the Empty Homes Tax. As discussed further at the end of this post, on December 20, 2023, the San Francisco Superior Court ruled that the case would be allowed to proceed, even though the Empty Homes Tax has yet to be assessed or collected—denying the City’s reliance on California’s longstanding “pay first, litigate later” rule.

Overview of the Empty Homes Tax

A “Residential Unit” for purposes of the Empty Homes Tax  means a “house, an apartment, a mobile home, a group of rooms, or a single room that is designed as separate living quarters, other than units occupied or intended for occupancy primarily by travelers, vacationers, or other transient occupants. Separate living quarters are those in which the occupants live and eat separately from any other persons in the building and which have a kitchen and direct access from the outside of the building or through a common hall.”

“Vacant” for purposes of the Empty Homes Tax means “unoccupied, uninhabited, or unused, for more than 182 days, whether consecutive or nonconsecutive, in a tax year.”

For purposes of the 182-day threshold, certain periods of vacancy are not counted. Periods of vacancy which are not counted toward the 182-day threshold include the following:

• Building Permit Application Periods – the period following the date that an application for a building permit for repair, rehabilitation, or construction with respect to a Residential Unit is filed with the City, through the date that the Department of Building Inspection grants or denies such application (not to exceed one year);
• Construction Periods – the one-year period following the date that the City issues a building permit for repair, rehabilitation, or construction with respect to a Residential Unit;[1]
• Disaster Periods – the two-year period following the date that a Residential Unit was severely damaged and made uninhabitable or unusable due to fire, natural disaster, or other catastrophic event;
• Homeowners’ Exemption Period – the period during which a Residential Unit is the principal place of residence of any owner of that Residential Unit and for which such owner validly has claimed either the homeowners’ property tax exemption under Section 218 of the California Revenue and Taxation Code or the disabled veterans’ exemption under Section 205.5 of that Code;
• Lease Periods – the period during which any owner of a Residential Unit or any person in the Owner’s Group (as defined in Article 29A) of that owner leases that Residential Unit to one or more tenants under a bona fide lease intended for occupancy, but not including any lease or rental of that Residential Unit to anyone in the Owner’s Group or to travelers, vacationers, or other transient occupants;
• New Construction Periods – the one-year period following the date that the City issues a certificate of final completion and occupancy with respect to a Residential Unit in a newly erected building or a newly added Residential Unit in an existing building;
• Owner Death Period – upon the death of an owner who was the sole occupant of a Residential Unit immediately prior to death, when such Residential Unit passes to a co-owner, or the deceased owner’s estate, heirs, or beneficiaries, the 182-day period does not include the period during which such Residential Unit is unoccupied, uninhabited, or unused due to the deceased owner’s death (limited to one year, unless such Residential Unit is subject to the authority of a probate court); and
• Owner in Care Periods – the period during which a Residential Unit is unoccupied, uninhabited, or unused because all occupants of the Residential Unit who used that Residential Unit as their principal residence are residing in a hospital, long term or supportive care facility, medical care or treatment facility, or other similar facility.

Exemptions & Exclusions

Excluded from the definition of “Residential Unit” are any units to which the Welfare Exemption from property tax applies, or any unit in an operational nursing home, residential care facility, or other similar facility. The Empty Homes Tax also provides a broader exemption for any organization with a valid exemption from income taxation under Section 501(c)(3) of the Internal Revenue Code.

Residential Units located in a building with two or fewer Residential Units are exempt from the Empty Homes Tax.

Filing Requirements and Applicable Rates

The Empty Homes Tax will apply beginning January 1, 2024, but will not be collected until 2025. The applicable rates for 2024 are as follows:

• $2,500 for each Residential Unit with square footage less than 1,000;
• $3,500 for each Residential Unit with square footage 1,000 to 2,000;
• $5,000 for each Residential Unit with square footage over 2,000.

Any person that owns a Residential Unit at any time during the tax year, unless exempt from the Empty Homes Tax pursuant to the exemptions described above or covered by the homeowners’ exemption period for the entire year, must file a return for that tax year with the Tax Collector. That is, all owners of Residential Units, unless exempt, must file a return—even if no Residential Units are vacant and even if no Empty Homes Tax is due for the year.  The Tax Collector has not yet released the form of the Empty Homes Tax return, but filing requirements and collection of the Empty Homes Tax will begin in 2025.

Update on Pending Litigation

In February of 2023, the San Francisco Apartment Association, the Small Property Owners of San Francisco Institute, the San Francisco Association of Realtors, and four individual landlords filed a lawsuit in San Francisco Superior Court challenging the constitutionality of the Empty Homes Tax. The lawsuit was brought under California Government Code Section 50077.5, which allows for challenges to test the validity of a voter-approved special tax.

The City’s primary defense in the lawsuit thus far has been that California law does not allow for a challenge to the Empty Homes Tax, and, if a challenge is available, it would only be available after the payment of the tax.

On December 20, 2023, the Superior Court overruled the City’s challenge, meaning that the lawsuit may proceed and the validity of the Empty Homes Tax may be challenged, even though the tax has not yet been assessed or collected. However, unless or until the resolution of the lawsuit results in changes to the Empty Homes Tax, the tax will take effect beginning in 2024.

We will continue to provide further updates on the Empty Homes Tax and the status of the lawsuit when they are available.

 

 

[1] However, if the City issues multiple building permits to or for the benefit of one or more persons in the Owner’s Group (as defined in SF Bus. Tax. & Reg. Code § 2952) for the same Residential Unit, the Construction Period shall mean only the one-year period following the issuance of the first building permit to or for the benefit of anyone in the Owner’s Group.

 

In 2018, San Francisco voters passed the Early Care and Education Commercial Rents Tax (“Commercial Rents Tax”), which became effective as of January 1, 2019. The Commercial Rents Tax generally imposes a 3.5% surtax on amounts that a business receives from the lease or sublease of commercial spaces in the City, and a 1% surtax on leases or subleases of certain warehouse space. There have been multiple challenges to the constitutionality of the Commercial Rents Tax, but it has been upheld.[1]

In April of 2023, a San Francisco taxpayer (“Taxpayer”) filed a complaint with the Superior Court of San Francisco, seeking a refund of approximately $1,861,000 for amounts overpaid for the Commercial Rents Tax, contending that a portion of its total gross receipts from leases used to calculate the Commercial Rents Tax did not constitute revenue from the lease of “commercial space,” as defined in the San Francisco Tax and Business Regulations Code.[2] “Commercial space” under the Commercial Rents Tax is generally defined as any building or structure, or portion of a building or structure, that is not “residential real estate,” subject to a number of exceptions based on the use of the building or structure.

Taxpayer operates a portion of its business in the City as a full service data center. A portion of the revenue under Taxpayer’s business model is allocable to its “colocation” data center, which Taxpayer asserted does not meet the definition of “commercial space” under the Commercial Rents Tax. “Colocation” services generally consist of renting space in data center facilities for the purpose of providing power, cooling, physical security for the server, storage, and networking equipment of customers. The agreement for colocation services is generally referred to as a “license” rather than a “lease.”

Taxpayer’s argument was that, under California law, “[a] license as to real estate is an authority to do a particular thing upon the land of another without possessing an estate therein. The test to determine whether an agreement for the use of real estate is a license or a lease is whether the contract gives exclusive possession as against all the world, including the owner, in which case it is a lease, or whether it merely confers a privilege to occupy under the owner, in which case it is a license.”[3] Generally, a licensee under a colocation agreement is limited in the manner of use of the  property, the location of where to place its equipment, the weight of the equipment, and alteration to the area around its equipment. A licensee cannot prevent the licensor from accessing the property. Thus, Taxpayer’s complaint asserted, colocation revenue should have been excluded from the calculation of the Commercial Rents Tax.

Taxpayer’s claim for refund also asserted that it overpaid Commercial Rents Tax by the improper inclusion of other amounts in the calculation of its total gross receipts, such as amounts derived from the need for specific machinery to be placed in its centers to support specialized computers for certain customers. Taxpayer argued that such revenue is not for commercial rental space and should not be considered in the calculation of the Commercial Rents Tax.

Although the case is still pending in Superior Court, an ordinance authorizing settlement of Taxpayer’s lawsuit against the City was introduced in June of 2023. The ordinance passed its first reading at a meeting of the Board of Supervisors on October 3, 2023, and passed its final reading before the Board of Supervisors on October 17, 2023. The ordinance was approved by the Mayor’s Office on October 20, 2023.

For space generating revenue that does not fit neatly within the definition of “commercial space” under the Commercial Rents Tax, and for revenue from commercial occupancy agreements that are more like a license than a lease, taxpayers may consider pursuing the exclusion of such amounts from the calculation of the tax. The success of a challenge to the application of the Commercial Rents Tax will depend, in large part, on the lease agreement and any other agreements with respect to the use of the space.

 

 

 

[1] See City and County of San Francisco v. All Persons Interested in the Matter of Proposition C on the November 6, 2018 San Francisco Ballot, No. CGC-19-573230 (Cal. Sup. Ct. S.F. County Jul. 5, 2019); see also Howard Jarvis Taxpayers Association, Building Owners and Managers of California, California Business Properties Association, and California Business Roundtable v. City and County of San Francisco and All Persons Interested in the Matter of Proposition C of the June 5, 2018 San Francisco Ballot, No. CGC-18-568657, (Cal. Sup. Ct. S.F. County Jul. 5, 2019).

[2] Verified Complaint for Refund of Business Taxes, Digital Realty Trust, Inc. v. City and County of San Francisco, No. CGC-23-605912 (Cal. Super. Ct. S.F.).

[3] Id. (citing Shaw v. Caldwell, 16 Cal. App. 1, 115 P. 941 (Cal. Ct. App. 1911)).

The 2023 California Legislative Session, which closed on September 14, was dominated yet again by efforts to address the state’s continued housing crisis. For the last several years, we have written about many bills enacted with the goal of increasing housing production. Although these efforts have helped move the state toward its housing goals, the practical results—new units of housing built—have been slower to materialize than many have hoped.

This lesson has not been lost on pro-housing legislators, who broadly focused their efforts this session on removing barriers to achieving those results: targeting excessive CEQA review (AB 1633 and AB 1307), streamlining housing development and discretionary post-entitlement permitting (SB 423 and AB 1114), and enforcing a state-imposed streamlined process for general plan-compliant projects (AB 821).

This post focuses on the key housing-related bills that have already been signed by Governor Newsom, or are, at the time of this publication, awaiting the Governor’s signature. He has until October 14 to either sign or veto the bills remaining on his desk.

Targeted CEQA Reforms to Increase Housing Production

AB 1633 (Ting) [Holding Jurisdictions Accountable for Abusing the CEQA Review Process] – The premise of AB 1633 is simple: local jurisdictions must not use CEQA to delay zoning-compliant housing projects. The Housing Accountability Act (HAA) prevents local jurisdictions from disapproving or reducing the density of housing projects that comply with zoning and the Permit Streamlining Act provides strict timelines within which local jurisdictions must approve or deny projects. But neither law restricts a local jurisdiction from unreasonably delaying a project’s CEQA review.

AB 1633 intends to close this loophole. To do so, the law bolsters the HAA’s definition of “disapprove the housing development project” to include any instance in which a local government:

• fails to make a determination of whether the project is exempt from CEQA or commits an abuse of discretion; or
• fails to adopt a negative declaration or addendum, certify an environmental impact report, or approve another comparable environmental document for the project, if certain conditions are satisfied.

After an applicant notifies a local jurisdiction of a failure to take CEQA action, the jurisdiction has a 90-day period to make a CEQA determination, which can be extended in limited circumstances, but not indefinitely. And unlike other recent pro-housing bills giving developers the power to streamline CEQA (e.g., AB 2011 and SB 35), AB 1633 is not limited to projects with affordable units or special labor commitments.

Instead, the law would apply to infill projects with at least 15 dwelling units per acre (i.e., townhome or rowhouse projects, or denser). Project sites must meet SB 35’s extensive environmental criteria, which exclude sites on sensitive environmental areas, such as wetlands, flood zones, and hazardous waste sites, among others.

As with other violations of the Housing Accountability Act, a local jurisdiction can be liable for attorney’s fees and potentially penalties if it violates AB 1633. At the other end of the spectrum, the bill also makes it more difficult for project opponents to recover attorney’s fees when challenging housing projects, in most cases prohibiting the award of attorney’s fees if a local jurisdiction acted in good faith when approving a housing project. AB 1633 sunsets on January 1, 2031 unless extended.

AB 1307 (Wicks) [Providing More CEQA Certainty and Clearing Roadblocks to University Housing] – Earlier this year, the First District Court of Appeal in Make U.C. a Good Neighbor v. Regents of University of California held that the University of California must analyze “the potential noise impacts relating to loud student parties” as part of the CEQA analysis for the proposed student housing project at Berkeley’s People’s Park. Although noise is one of the original environmental impacts under CEQA, the requirement to analyze noise generated by residents of a housing development was a novel reading of the law. That decision is now pending before the California Supreme Court.

AB 1307 responds directly to this court ruling and effectively eliminates the “people as pollution” argument under CEQA by stating that noise generated by residential project occupants and their guests, “is not a significant effect on the environment.” In addition, AB 1307 helps clear the way for more than 1,200 units of U.C. housing at People’s Park and will streamline other housing development at California Community Colleges, California State Universities, and other U.C. campuses by eliminating the requirement that these institutions consider alternatives to the location of a residential or mixed-use housing project if: (1) the project is located on a site smaller than 5 acres that is substantially surrounded by qualified urban uses, and (2) the project has already been evaluated in the environmental impact report for the institution’s most recent long-range development plan.

On September 7, the Governor signed AB 1307 into law, which took immediate effect as an urgency statute to address California’s housing crisis.

Streamlining Development and Post-Entitlement Permitting

SB 423 (Wiener) [Updating the SB 35 Ministerial Process for Mixed-Use and Multifamily Projects] – This bill both extends and expands the reach of SB 35, a groundbreaking 2017 law that has primarily been used by affordable housing developers to obtain ministerial approvals on an expedited schedule, without CEQA review, for projects consistent with objective zoning and design standards. Projects can use State Density Bonus Law to obtain relief from objective standards and still take advantage of SB 35, creating a powerful combination.

SB 423 effectively reduces the amount of onsite affordable units needed to qualify for SB 35 in certain jurisdictions from 50% of project units to just 10%, opening the door for more mixed-income projects. To qualify, projects must pay prevailing wages, and must use skilled and trained workforces for projects exceeding 85’ in height.

The reduction to 10% affordable will happen at different times in different jurisdictions, but generally will occur in four phases: (1) January 1, 2024, for jurisdictions without a compliant Housing Element, until compliance is achieved; (2) mid-2024, for San Francisco specifically; (3) 2025 for Southern California jurisdictions with a compliant Housing Element that are not making adequate progress toward their market rate Regional Housing Needs Allocation (“RHNA”) goals; and (4) 2027 for other Bay Area jurisdictions not making adequate progress toward their market rate RHNA goals. Because the 6th Cycle RHNA numbers are so high, many, if not most, jurisdictions likely will not be making adequate progress during these timeframes. A brief table introducing these timelines is below:

Council of Governments	6th Cycle Housing Element Planning Period	Earliest SB 35 Recategorization (6th Cycle half-way point)
ABAG (Bay Area)	1/31/23–1/31/31	2027 (excluding San Francisco, which is mid-2024)
SCAG (Los Angeles)	10/15/21–10/15/29	2025
SANDAG (San Diego)	4/30/21–4/30/29	2025

 

HCD tracks Housing Element progress for all jurisdictions, which can be found here. As more jurisdictions change to 10% affordable for SB 35 eligibility, the permitting process for many housing projects could change radically. This is particularly true in jurisdictions such as San Francisco where the use of union labor on large projects is common.

AB 1114 (Haney) [Streamlining San Francisco’s Discretionary Post-Entitlement Permitting] – We previously wrote about AB 1114, which targets appeals of San Francisco post-entitlement building permits for housing projects. The bill builds on AB 2234, a bill that applied strict review timelines statewide for local jurisdiction response to and issuance of non-discretionary post-entitlement building permits. AB 1114 targets San Francisco’s unique discretionary post-entitlement building permit process, applying AB 2234’s review and issuance timelines and blocking appeals of building permits for projects that are, “at least two-thirds residential.”

Currently in San Francisco, only projects that have received a Conditional Use Authorization from the Planning Commission are protected from post-entitlement building permit appeals to the Board of Appeals. Expanding this protection to all San Francisco housing projects is particularly important in the context of expanded use of non-discretionary entitlement processes under SB 35/423. One inspiration for the bill was 2550 Irving Street, a 90-unit affordable housing project in the Sunset District, which was approved under SB 35 quickly, but was then subjected to multiple building permit appeals. Without a Conditional Use Authorization, the project had no protection from such appeals, but would be protected under AB 1114. San Francisco has historically had the longest processing times for post-entitlement permits. However, because such permits would now be non-discretionary, they will be subject to the strict review timelines in AB 2234.

State Mandates on Local Planning and Zoning

AB 821 (Grayson) [Enforcing a Streamlined Process for General Plan-Compliant Projects] –State law requires that the zoning ordinances of a city or county be consistent with its general plan. If a zoning ordinance is amended in a manner that makes it inconsistent with a local jurisdiction’s general plan, state law allows residents and property owners to take the jurisdiction to court to enforce compliance with the law. However, if the local jurisdiction amends its general plan in a manner that makes it inconsistent with the zoning ordinance, there is currently no built-in enforcement mechanism.

To address this issue, AB 821 requires that if a development application is submitted for certain projects consistent with the general plan, the local jurisdiction must either make the zoning ordinance consistent with the general plan within 180 days from the receipt of the development application, or if it does not do so, the local jurisdiction must process the development application based on the general plan and any zoning provisions that are not inconsistent. AB 821 also provides a legal remedy for residents and property owners to ensure compliance with these requirements. The key for this bill is that it allows general plan-compliant projects to move forward in a timely manner and removes the possibility of a protracted local rezoning process that can stymie housing production. It is noteworthy that AB 821 is not limited to housing projects.

The Coblentz Real Estate Team has extensive experience with the state’s latest housing laws, including SB 35, AB 2011, SB 6, the Housing Accountability Act, the Permit Streamlining Act, and Density Bonus Law, and can help to navigate the laws’ complexities and opportunities. Please contact us for additional information and any questions related to the impact of these new bills on land use and real estate development.

On September 5, the San Francisco Board of Supervisors finally passed on second reading two pieces of legislation, together referred to as the “Housing Fee Reform Plan.” The Plan, previously discussed on July 7, July 21, and July 31, plays a key role in implementing Mayor Breed’s “Housing For All” Executive Directive, reducing inclusionary housing requirements and development impact fees for both new and pipeline projects. The Plan also reactivates an expired fee deferral program, establishes a stable, 2% fee escalation rate, and locks in impact fee types and rates at the time of project approval.

The Inclusionary Housing Technical Advisory Committee (the “TAC”), together with the Controller, analyzed the feasibility of the City’s inclusionary housing requirements and provided a report informing the Plan’s new, reduced inclusionary housing requirements. Under the legislation, the TAC is required to convene again no later than January 1, 2026.

Although there is optimism that the Plan will help jumpstart both new and stalled housing projects, multifamily development feasibility still largely depends on market forces outside of City control, such as interest rates and construction costs.

The Mayor has 10 days to sign the Housing Fee Reform Plan, and the ordinances become effective 30 days thereafter.

On July 25, the Board of Supervisors passed on first reading the “Housing Fee Reform Plan” legislation (see previous posts here and here). The Board is expected to hold a second reading and finally pass the legislation in September after returning from summer recess.

The legislation consists of two ordinances. To help jumpstart housing production in the City, the inclusionary housing ordinance reduces inclusionary housing percentages and fees for certain new and pipeline projects of 25 or more units, and provides a temporary 33% reduction in the amount of other development impact fees for new and pipeline projects that can meet certain timing deadlines. The impact fee reform legislation establishes a 2% fee escalation rate, locks in the types and rates of impact fees at project approval, and reactivates an expired fee deferral program.

As discussed at the Board, market factors such as construction costs and interest rates will largely determine whether the legislation can unlock new housing. Developers of both housing and commercial projects should take note of the impact fee reform legislation, which makes major changes to San Francisco’s fee regime, but has received less attention than the inclusionary housing ordinance.

The Planning Commission had recommended eliminating development impact fees for changes of use, and applying the inclusionary housing percentage reductions to smaller, 10-24 unit projects. These changes were not adopted by the Board, but the Land Use and Transportation Committee created a copy of the inclusionary housing ordinance by duplicating the file, allowing for further discussions and potential amendments to that ordinance in the fall.

 

The “Housing Fee Reform Plan” legislation, which we reported on previously, is heading back to the Board of Supervisors next week. On Monday, July 24, the Board’s Land Use and Transportation Committee will consider the two ordinances, which cover inclusionary housing changes and impact fee reform. Committee Chair Melgar has deemed the ordinances urgent and has requested that they go to the full Board as committee reports the following day, Tuesday, July 25.

Most attention has been paid to the inclusionary housing legislation, which reduces inclusionary percentages for pipeline and new residential projects with 25 or more units, to 12% on-site for pipeline projects, and 15% on-site for new projects approved between November 2023 and November 2026. On July 13, the Planning Commission recommended approval with modifications to apply the inclusionary reductions to smaller projects, along with other timing and technical changes. These changes can be considered by the Board next week.

After the original introduction of the impact fee reform legislation, Mayor Breed introduced a substituted version that revised the impact fee waiver provisions for downtown projects containing certain non-residential uses. In the prior version of the ordinance, these projects were eligible for impact fee waivers for a three-year period if they were in the C-2 District, were between 20,000 and 200,000 square feet, were on vacant or underdeveloped sites, contained no residential uses, and contained all of the following uses:  hotel, restaurant, bar, outdoor activity, and entertainment. In the substituted version, projects in the C-2 and C-3 Districts are eligible, the project size and vacant/underdeveloped site requirements have been eliminated, and a project need only contain one of the non-residential uses mentioned above. In addition, the substituted version eliminates the requirement to have no residential uses in the fee waiver-eligible project.

Whether this change will help spur broader investment in downtown projects is unclear, as the impact fee waiver only applies to the area of a specific non-residential use. For example, an office project with a ground floor restaurant would only receive a waiver for the restaurant, and not the office, square footage. The Planning Commission has also recommended approval of the impact fee reform ordinance, with a proposed modification to eliminate all development impact fees for changes of use throughout the Planning Code. If implemented by the Board, this would be a significant change and could remove one barrier to certain conversion projects.

We will provide a further update after the Board’s expected actions next week.