mixed-use developments: lessons learned from recent...

Mixed-Use Developments:

Lessons Learned From Recent DealsZoning, Financing, Community Buy-In, and Other Legal Challenges

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TUESDAY, APRIL 21, 2020

Presenting a 90-minute webinar with interactive Q&A

Robert M. Diamond, Senior Counsel, Reed Smith, McLean, VA

Nancy T. Scull, Partner, Sheppard Mullin Richter & Hampton, San Diego

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Mixed Use Developments:Lesson Learned from Recent Deals

By Robert M. DiamondReed SmithLLP

and Nancy T. Scull

April 21, 2020

Reed SmithLLP

Introduction

• About the Speakers

• Goals of Program: Advanced Course with Complex Issues and New Problems

• Setting the Stage: Significant State Variations – Highly Regulated to Non-Regulated

• Many jurisdictions have 1960’s condominium statute and no planned community or cooperative statute

• 24 Uniform Act jurisdictions have Uniform Condominium Act, Uniform Planned Community Act or Uniform Common

Interest Ownership Act. Balance development flexibility with consumer protection with or without an agency

• Florida: 3 separate non-uniform statutes. Regulated by the Division of Florida Condominiums, Timeshares, and

Mobile Homes

• New York: 1960’s Condominium Act (no expandable condominiums). Condominium and cooperative offerings

regulated as securities offerings by the Attorney General’s office under the Martin Act

• California: Condominiums and planned communities regulated at the state level by the Davis-Stirling Common

Interest Development Act or the Commercial and Industrial Common Interest Development Act for non-residential

developments. Residential Common Interest Developments highly regulated by the Department of Real Estate for

consumer protections.

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Challenges of a Mixed-Use Project

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Odd Couple – Residential and Commercial in one building or project

1. Divergent Interests: Mixed Marriage of Residential and Commercial are not always compatible!

2. Commercial Owners

• Generally no interest in operating the association but want control if the documents allow the residents to interfere with doing business

• Want to minimize interactions with residential owners

3. Residents

• Want to minimize commercial impact on their homes

• Protect and maximize the value of their residences

• 24/7 enjoyment and use

4. Investors and Lenders – Must take their interests into account or cannot finance the project

• Want to assure adequate maintenance, insurance and reserves for replacement

• Want approval notice and approval rights over major changes that affect the value of their security

• Mixed use projects get more intensive underwriting due to complexity

Basic Premise of Every Mixed-Use Project:

1. Interdependence of diverse users with different interests and perspectives

2. If the whole is not greater than the sum of the parts, there is no purpose in doing mixed use

3. Keys to Success:

A. Developer must balance and protect the interests of all the different uses

B. Governance documents must be clear, thorough, fair, practical and understandable

C. Documents must thoughtfully address six critical issues with respect to components that affect more than more owner or structure

D. Budgets are critical—include multiple years, reserves and how initial deficits are to be funded

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Types of Mixed Use Projects

1. Single structure with multiple integrated uses• Time-Warner Center in New York

• Water Tower Place in Chicago

• Rosslyn Metro Center in Arlington, Virginia

• LA Live in Los Angeles

• Park & Market in San Diego

2. Multiple structures over a common podium or garage• Capital One Block C Condominium, Tysons Corner, Virginia

3. Multiple structures on separate lots sharing common areas and/or amenities within a larger unitary development• Edge on Hudson, Sleepy Hollow, New York

• Pentagon Centre, Arlington, Virginia

• Lower Hill District, Pittsburgh

• Huntington, Fairfax County, Virginia

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Determining the Structure

• Critical to Analyze all Alternative Governance Structures

• Options

• Vertical Parcels (air rights subdivision) or Condominium

• Master Association and Subassociations

• Condominium with Subcondominiums

• Reciprocal Easement Agreement or a Shared Use and Maintenance Agreement

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Type of Entity

• Nonprofit Corporation – typical due to liability protections; owners may or may not be

voting members. No real protection if association has ability to assess members

• Unincorporated Association – liability protection in some states (e.g. Pennsylvania)

BUT increased owner liability in states like California

• Condominium Association – owner liability limited to an owner’s percentage interest,

but subject to assessment. In California “cloud common area” and statutory

protections may limit Owner liability.

• Limited liability company – very efficient structure with a limited number of owners

and multiple subassociations. Representatives of subassociations participate in

governance, owners in subassociations do not. May be run by a manager or a Board

of Directors with officers

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Governance and Control

Who is in Charge?

• Strong master, weak subassociation

• Weak master, strong subassociation

• Affects allocations of functions – quality of maintenance, budgets, architectural

functions

• What does the Master Developer need to control?

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Vertical Parcels or Condominiums

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Vertical Parcel Maps Can Be Complex

And Create Unique Challenges

1. Vertical Parcel Maps create

building blocks

2. Can be very complex

3. Longer to process/harder to

change

4. Allows greater flexibility to convey

areas within a “city block.”

5. Complex budgeting

6. May need multiple agreements

7. Not all jurisdictions allow vertical

subdivisionsVertical Parcel Map

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Condominiums versus Vertical AirspaceParcels: Issues

Condominiums

• Greater flexibility

• Subject to state statutes

• Residential should comply with secondary mortgage market guidelines

• Consumer protection agencies in some jurisdictions

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Vertical Airspace Parcels

• Fixes the Boundaries/Need lot line adjustments or new maps to modify

• Subject to local jurisdictions except California

• Some lenders may prefer vertical airspace parcels

• May have a lengthier process to obtain City or County approval

• Reduces flexibility to change boundaries of lot lines

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Key Mixed Use Issues

• Allocation of Maintenance Responsibilities

• Allocation of Costs

• Insurance Coverages

• Reconstruction Obligations following Damage or Destruction

• Understanding Financing and Disposition Requirements

• Balancing Commercial versus Residential Interests – fiduciary duties

• Easements – vertical and horizontal

• Dealing with Complexity

• Flexibility to redevelop as uses change

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Critical Questions for Shared Components

Questions you need to ask and answer in mixed-use documents:

1. Who owns the component?

2. Who uses the component?

3. Who maintains the component?

4. Who pays the cost of the component and how are the costs allocated?

5. Who insures the component (and rebuilds after damage)?

6. Who makes these decisions?

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Maintenance Allocation

• Building Structural Elements – Association versus Owners• Separable, accessible or indivisible?

• Master Association versus Subassociation• Uniformity

• Economies of scale

• Control

• Special Concerns• Exterior Facades – where’s the leak?

• Equipment Rooms – fire control systems

• Roofs, Parking Garages, Transportation Elements

• Contiguous private roads and alleys

• Shared amenities

• Developer-owned amenities –golf course, marina

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Cost Allocation

Expense Allocations

• Detailed Analysis on Every Shared and Separate Use Area

• Formulas for Allocating Expenses – Common Expenses and Limited Common Expenses

• Bases: (1) equal shares, (2) square footage (but may vary by use), (3) assessed value, (4) land

area, (5) measured usage-metered, submetered or physical count (e.g., loading dock use)

• Variable

• Fixed

• Special Allocations – based on the user, certain uses, certain locations

• See Sample Allocation Chart

• Cost allocation must reflect economic reality: what can the owner (based on type of use)

afford to pay?

• Cost allocation must be fair and perceived as fair

• Some states have regulatory oversight to ensure fairness

Voting Control Typically Tied to Expense Liability

• Unfair to have those who pay less set the budget for those who pay more

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Sample Maintenance and Allocation Chart

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Insurance & Casualty

• The MOST important issues for a Lender

• Why so complex in a Mixed Use Project?

• Property Insurance

• Who insures-master policy, owners policies, adjusting losses

• Named Insureds, Additional Named Insureds and Loss Payees

• What do lenders want?

• What protections do owners need?

• Advantages of the Master Policy

• Blanket Coverage – Using large owner multi-location policies with allocated

coverages

• Insurance Shortfall - Options to Consider:• Mandatory Rebuilding

• Partial mandatory rebuilding

• Repurchase Rights

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Commercial vs. Residential Issues

• Architectural Flexibility versus Control

• Commercial owners need flexibility to adjust for different uses, different storefronts, signage, office layouts as the commercial environment changes

• Residential owners want consistency and control to avoid changes that are perceived to reduce the market value of their homes; residential needs are unchanging

• Quality of Life versus Commercial Activities

• Residents are concerned about early morning deliveries, trash collection, odors, grease traps, traffic, litter and noise

• Commercial users require deliveries early and often, generate more and different trash, create unpleasant odors, generate foot and vehicle traffic, produce litter and generate noise

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Programming and Activation of “Public” Space

• Importance to cities and master developers

• Synergies – Active Space is an amenity for both commercial uses (retail, hotel,

and office) and increases residential values

• Controlling programming

• Allocating costs for programming and activation of common space

• On-site programming by owners or association

• Off-site programming using common areas (e.g., arenas)

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Other Challenges

• Major structural components and building systems in one building or multiple buildings on a single platform over a parking garage

• Maintenance obligations for key building elements cannot be segregated

• Building must be insured and rebuilt as one work of improvement

• Control — Who should control the operation and maintenance of the Project? May depend upon size and value of commercial versus residential

• Damage by one person can have a major effect on the entire project

• Liability when things go wrong — Dysfunctional Operations and Monetary Liabilities

• Regulatory Control

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Key Lender Concerns

• Assessments and Allocations

• Mortgagee Protection

• Notice and consent rights regarding takings, insurance coverage, damage and

reconstruction, termination and major changes

• Lien priority

• Insurance and Casualty

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Dispute Resolution

Expedited process for operational disputes (does not apply to collections actions or

document violations):

1. Negotiation

2. Mediation

3. Arbitration – binding if allowed by law - in some jurisdictions litigation

can be prohibited BUT not in all (e.g., Pennsylvania requires consent)

Mediator or arbitrator expert in the subject of the dispute-not always a lawyer or

judge-may be an engineer

Simple process-no discovery or other litigation rules

Limited right of appeal per state Uniform Arbitration Act

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Examples of Mixed Use Projects

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Examples of Complex

Mixed Use Projects

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Master Association and Subassociations

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Project with a Master Association and Subassociation – LA Live

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LA Live

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Single Tower

Roof

Residential for

Sale Condos

Ritz Carlton Hotel

JW Marriott Hotel

Parking Garage

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Subassociation –

One

Master

Associatio

n

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Park & Market

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Example of a Master Association and Multiple Subassociations

Park & Market

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Parking Garage

Historic

Building

Amphitheater

Plazas

Stages

Office

Multiple Buildings on a Parcel with a

subterranean parking garage

and high activity areas

One Master Association

Retail

Market Rate and

Affordable Units

Residential Towers

M M A M

A M M M

M A M M

M M M M

A M A M

A A Lobby

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Subassociation

6th & Olive

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Residential(Apartments)

Parking Garage

ExteriorPatios and Gathering

Areas

6th & Olive

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Single Tower with a Subterranean Parking Garage, Office, Residential (Apartments) and shared patios and gathering areas

Office

Parking Garage

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1721 Webster

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Residential Unit (Apartments)

Office Unit

Parking Garage Unit

1721 Webster

• Residential Tower with Affordable & Market Rate Units

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Retail Unit Residential UnitLobby

Association Property

Parking Garage

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Activated Open Space

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Ballpark Village

Ballpark Village

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Parking GarageAssociation Property

Residential

TowerUnit

Public & Private Plazas,

Outdoor Eating Areas

BridgeResidential

BlockUnit

Residential

TowerUnit

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Parking Garage

Historic Building Other BuildingsHotel

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Residential Condominium

s

Single Tower on a Parcel with Multiple Buildings and a Parking Garage

HotelAmenitie

s

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Hotel

Vertical Airspace Parcels

• How do you subdivide? Use a Basic Approach if you can

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Lot 1-2 Hotels & Parking Garage

Lot 2Residential

Condominium

LA Live

Lot 1-2 Hotels & Parking Garage

Lot 2Residential

Condominium

LA Live Lot 3

Lollipop Parcels for vertical transportation

elements

Lot 3Lot 3

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Multiple Vertical Parcels at Montage

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Condominiums: Hotel/Theatre/Residential ProjectMust Use Modules

Use of Modules because no vertical parcels

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Hotel Unit

Retail Unit

Hotel / Retail Module

Residential Module

Parking Garage (owned by Master

Association)

Master Association Owns Structure

Residential Units

Residential Common AreaHotel/Retail Common Area

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Site Plans

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Site Plans

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Site Plans

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Site Plans

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Governance Alternatives

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Master Board

2 representatives

From Commercial

1 representative

From Residential

Alternative 1: Vertical Parcels and Master Association

Commercial Owner controls through

a Master Association

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Governance Alternatives

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REA or Mutual

Benefit

Agreement

or SUMA

Alternative 2: Vertical Parcels and an REA or Mutual Benefit Agreement or Shared Use and Maintenance

Agreement

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Lower Hill District

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Ballston Metro Center – Rendering

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Ballston Metro Center – Ownership

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Ballston Metro Center – Street Level

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Ballston Metro Center – Garage Level

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Ballston Metro Center – First Floor

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Ballston Metro Center – First Floor

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Ballston Metro Center – Hotel & Office Floors

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Ballston Metro Center – Residential Floors

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Ballston Metro Center – Section

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Ballston Metro Center – Block Key

H Denotes Hotel Parcel in Block 1, Denotes Hotel Entity in Blocks 2, 3 and 4

C Denotes Condominium Parcel in Block 1, Denotes Condominium Entity in Blocks 2, 3 and 4

O Denotes Office Parcel in Block 1, Denotes Office Entity in Blocks 2, 3 and 4

P Does not appear in Block 1, Denotes Parking Entity in Blocks 2, 3 and 4

V Denotes Virginia Electric and Power Company in Blocks 2, 3 and 4

Block 1:This block indicates which parcel the designated item(s) are in

Block 2:This block indicates which entity or entities are responsible for the cost of the Upkeep of the designated item(s)

Block 3:This block indicates which entity or entities have the right to use the designated item(s)

Block 4:This block indicates which entity is responsible for the upkeep of the designated items(s)

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1 2

4 3

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Ballston Metro Center – Garage Plan

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Ballston Metro Center – First Floor Plan

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Ballston Metro Center – Office Floors 3 & 4

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Ballston Metro Center – Office Floors 7 – 10Transitional Floor

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Ballston Metro Center – Office Roof Plan

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Ballston Metro Center – Condominium Floor 27

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Pentagon Center Existing Structures

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Pentagon Center Parcels

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Current Designation Future Designation

Size

(approximate

gross sq. ft.) Address RPC Number

Residential Convertible Space A 440,077 710 – 12th Street South Old-35-004-010

Retail Convertible Space A-1 6,477 710 – 12th Street South,

Suites 105, 107, 109 and 111

Retail Convertible Space A-2 825 706 – 12th Street South

Retail Convertible Space B 179,543 1201 Hayes Street

Parking Convertible Space B 359,086

Phase BR-Part of Retail Convertible

Space B and Parking Convertible

Space B

Common Element roadway None

Phase C-Additional Land

Residential Convertible Space C 276,839 719 15th Street South Old-35-004-012

Retail Convertible Space C 15,316

Parking Convertible Space C 105,258

Phase CR-Additional Land Common Element roadway None

Retail Convertible Space D1 6,662 675-D 15th Street South

Retail Convertible Space D2 11,430 675-A 15th Street South

Parking Convertible Space D 210,641

Phase D1 To be developed None

Retail Convertible Space E 168,250 1200 South Fern Street

Phase E1-Common Element None

Phase F-Additional Land To be developed None

TOTAL 1,780,404OWNERSHIP: PL Pentagon, LLC Pentagon Residential I, LLC Pentagon Residential II, LLC

Retail Convertible Space B

Parking Convertible Space B

Phase CR

Retail Convertible Space D-1

Retail Convertible Space D-2

Parking Convertible Space D

Phase D1

Retail Convertible Space E

Phase E1

Phase F

Retail Convertible Space A-1

Retail Convertible Space A-2

Residential Convertible Space A

Phase C

PENTAGON CENTRE MASTER CONDOMINIUM - TABLE SHOWING SEPARATE PARCELS

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Pentagon Center Parcel Map

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