Please Be Wary of Concessions and Incentives

Please Be Wary of Concessions and Incentives

A potential tenant is negotiating a lower rent.  Can I offer then a gift card to offset their move-in costs in order to keep the stated rent high?

Yes you can, but you better be prepared to have that higher rent stated in the lease challenged at some point in the future.  Much has been written about this topic since the pandemic began and rent prices have slid by upwards of 20% year-over-year, so everyone is on notice about offering financial incentives as a means to attract tenants in a depressed market.  The rule in San Francisco for pre-1979 housing is as follows:  Monetary incentives that you use to entice residents to sign onto a lease with a stated rent that is higher than what they would normally agree to pay because it exceeds market pricing shall become permanent throughout the tenancy if the matter is brought to the attention the Rent Board.  Stated another way, a $1,000 gift card that you impart to new  residents so that they sign a one-year rental agreement with a base rent of $2,000 per month means that initial base rent is actually about $1,917 per month, as the $83 per month incentive ($1,000 gift card amortized over the initial 12-month term) becomes permanently baked into the monthly rent for all future months and years of the tenancy.

So what, you might say.  Is that really a big deal?  Well, for starters, there is no statute of limitations for unlawful rent increases in San Francisco.  This means that in Year 2 of this tenancy, when you impose the annual allowable rent increase onto the base rent of $2,000 instead of $1,917, you are actually increasing rent beyond that which is allowed by the rent law.  For instance, if the annual allowable increase is 1%, the increase amount for a $2,000 rent is $20, whereas the adjustment on the correct $1,917 rent is $19.17.  Ditto for all subsequent rent increases beyond Year 2, and the problem keeps growing with each successive increase. Thus, in Year 5, for example, your rent will likely be well above the permissible level, and a tenant could petition the Rent Board to repeal all such unlawful rent increases and order a refund of rent overpayments for the past three years.

Here’s another problem.  You sell the building with this incorrect base rent in place.  The new owner imposes annual allowable increases on the stated incorrect amount.  In five years the tenant petitions the Rent Board and wins.  Undoubtedly, the building’s buyer is going to seek recourse against you.

And let’s say the tenant stops paying rent ten years down the line.  The first thing most tenant attorneys look at is whether or not rent has been properly adjusted over the course of the tenancy.  Per state law, any notice to pay rent or quit that overstates the amount of rent owed, even by a small amount, voids the entire legal action.  Indeed, the rent laws offer numerous penalties against property owners that demand and extract rents they are not entitled to collect.

Incentives may be in the form of gift cards, free rent, rent forgiveness, cash refunds, or anything that has meaningful monetary worth.  Owners often ask if they can circumvent adverse ramifications by paying a tenant “on the side” or otherwise hiding the transaction in creative ways, but the answer remains the same:  Tenants who establish that they actually paid less in Year 1 than the amount stated on the lease will likely have their base rent adjusted downward to reflect the value of the incentive for the initial term of the tenancy.  Thereafter, if the owner increased rent based upon the stated amount, the rent increase will likely be deemed as unlawful and a refund will be ordered.  If you are okay with this risk, then offer the concession, but please be prepared to accept the ramifications if the residents seek to have their rent permanently lowered later on, and definitely disclose this situation to subsequent purchasers.