Zoning and daycare

A developer wants to redevelop property at the corner of South Lamar and Manchaca as vertical mixed use.  The developer wants to replace this:

with a 360-unit mixed-use project that looks like this:

The property is zoned commercial (CS), and the development would comply with existing setback and compatibility requirements.  The developer just needs the VMU designation for the tracts that front Manchaca.  (The tracts fronting South Lamar are already zoned VMU.)

I think this would be a good development for South Lamar.  It would make this stretch of South Lamar much more pedestrian-friendly, it would add rental housing near downtown, and it would almost certainly stimulate more redevelopment in the area. (Plus, it looks cool.) 

Not everyone agrees.  The development would displace some longtime businesses.  A machine shop that has been there for 30 years.  An auto parts store, supposedly one of the last locally-owned ones in Austin.  And a daycare center -- Habibi's Hutch.

Habibi's Hutch has gotten the attention.  It's offbeat, funky, pick your adjective.  It's got the intense loyalty of its parents.  I know, because a couple of my good friends have their kids there.  They wouldn't trust their kids to anyone else.  They and a lot of other parents will be upset if Habibi's Hutch has to move. 

This zoning case appears to present a fairly typical dilemma:  Do we want attractive, dense, residential mixed-use, or do we want to retain the existing uses, which are certainly productive if less glamorous?  Put differently, should we consider the interests of the tenants when the owner seeks a zoning change?

This may seem hard-hearted, but I think the answer has to be, "No."  Even if we really, really like the business.  And even if that business happens to be a daycare.

Let's suppose that we let certain tenants  -- say, daycares or "iconic" businesses -- veto any zoning change.  This veto is valuable, especially if it is the only thing blocking the change.  It gives the tenant leverage to demand a share of the increased property value.  It probably will not change the property's ultimate use, however:  The odds are that the owner will buy off the tenant, the tenant will vacate the property, and the owner will get his zoning change. Giving the tenant a veto will just redistribute money from the owner to the tenant. (Note:  I am assuming short-term leases.  If the tenant has a long-term lease that survives a sale, then the owner will have to buy out the lease anyway.)

Some people might think that's just fine, but I think it's unfair.  The wealth redistribution model assumes a rich owner and hardscrabble tenant.  That's not always the case.  Some tenants have a lot more money than their landlords.  They rent rather than buy because there are good business and tax reasons for renting; it's not because they can't get a mortgage.  If the city wants to use its zoning discretion to redistribute wealth, it should be sure to have both owner and tenant's financial statements in hand.  Otherwise, it can't be sure it is redistributing in the right direction. 

This redistribution is unfair for another reason:  It gives the tenant risk insurance that it did not pay for.  Choosing a business location is a bet.  A particular site can improve or decline over time.  A business owner who buys his property doubles down on his bet.  If the neighborhood improves, then his business will make more money and his property value will go up.  But if the neighborhood declines, both business income and property value will head south.  Renting rather than buying allows the business owner to share the "location risk" with the property owner.  If the area declines, he can just pick up and leave or negotiate a lower rent; business may suffer, but he won't take a beating on property value.  (The same thing is true for residential tenants.  Renters do not bear the "location risk" of ownership -- they'll just leave if things get bad -- so they tend to be  indifferent to new development and other threats to property value.)  

While the tenant is shielded from some of the risk of a decline in value, it gives up the chance to share in property appreciation.  This has its own risks: The location may improve so much that rising rents force it to move.  The tenant can manage this risk with a long-term lease for a fixed rent.  For that matter, the parties can allocate the risk however they please by varying the length and terms of the lease.  But a tenant who wants protection from rising rents will rarely get such a provision for free.  Eliminating the risk to the tenant means eliminating the upside for the owner.  Owners expect to be compensated for this.

Which gets me back to fairness.  A tenant who negotiated and paid for a long-term lease does not need the city's protection.  He gets to keep possession of the property until the end of his lease (unless the lease has a provision terminating it on sale).  The owner will just have to buy him out.  The tenant who "needs" protecting is the tenant who negotiated a short-term lease or a lease that terminates automatically on sale.  But this tenant neither bargained nor paid for protection from long-term location risk.  He made a bet.  He lost that bet when another business decided it could make more money off the site, as reflected by its willingness to pay higher rents or buy the property for a premium. 

Opposing an otherwise reasonable zoning change solely for the tenant's sake thus amounts to giving the tenant risk-protection that the tenant did not bargain or pay for.  The tenant gets something for nothing, at the owner's expense.  Even the mere threat by the city to deny the zoning change for the tenant's sake will give the tenant leverage to extract a payoff from the owner.  That doesn't seem fair to me.  I think commercial property owners and tenants are capable of making sensible deals and don't think we should bail out the handful who aren't.

I am not insinuating that Habibi's Hutch has tried to extract a payoff from the owner, by the way; I'm really trying to make a more general point.  I don't know anything about the terms of Habibi's lease.  The owner told the Statesman that he has two and a half years left on the lease.  If that's true, then the developer will have to buy out the lease in order to do anything with the property -- unless the lease terminates on sale, in which case the city should respect the parties' bargain.

If none of this bothers you, then think about it from the perspective of a tenant who does not get special consideration.  Thousands or tens of thousands of dollars ride on whether the city thinks the tenant is "special."  There are no objective criteria for determining this; it will mostly depend on how influential the business and its customers are.  Let's say I own a dry-cleaner or a machine shop or some other necessary use.  I work just as hard as my iconic neighbor.  But I'm not a city pet.  When the bulldozers come for my store, no one lifts a finger.  I  get ignored; my neighbor gets a windfall. 

One last point, for those who just don't buy the fairness argument.  Suppose the city decides to give certain types of business (such as daycare centers) a veto over zoning changes.  The city adopts a policy that it will refuse a re-zoning request if the zoning change would cause such a tenant to be displaced without its consent.  Now suppose I'm a property owner and I'm approached by a prospective tenant who wants to open a daycare center on my property.  I'm not stupid.  I know about the city policy.  Because I know about the policy, I know that I might not be able to get rid of the tenant when I want to, at least not without a hefty side-payment to buy its acquiescence.  I also know that I can't manage this risk through the terms of the lease; the city (we are pretending) has already shown that it is completely indifferent to the actual terms of the landlord-tenant bargain.

I have two ways to protect myself.  I can turn the daycare center down and rent to someone less likely to tug at Council's sympathies.  Or I can charge the daycare a premium.  Other property owners will make the same calculation.  As a result, we will enrich the incumbent tenants but make it harder for new daycares to find cheap places to rent.

The same argument applies to iconic local businesses.  Ironically, a push to "protect" them through zoning policy makes them relatively less attractive and chain stores relatively more attractive as tenants;  no one will ever care if the owner boots a chain.  The owner might think twice about renewing the lease of the "icon," especially if there is a generic business willing to pay the same rent.  Zoning is simply too blunt an instrument to prevent owners from adjusting to the new rules. 

Decide this zoning case on its merits.  Is this a good spot for VMU?  If it's a good spot for VMU (and it is, IMHO), then the property should be re-zoned for VMU.  If it is not, then the re-zoning request should be denied.  But the zoning decision should not depend on whether we prefer the existing tenants to the proposed use.

Update.  I've heard that the Planning Commission approved the zoning change last night.  (I couldn't watch it because city broadcasts on Channel 6 have been preempted by the legislature coverage.)  It now goes to Council.  It's my understanding that the PC recommended that the developer work to find Habibi's Hutch a new location.  (Again, the developer might have had to do this anyway, depending on Habibi Hutch's lease.)  I haven't heard whether the PC made the same recommendation for the machine shop and the other businesses that will be displaced.

Comments

[Greg]

For the slow amongst us: What does VMU zoning mean and what criteria does a property have to meet to get that zoning?

[AC]

"VMU" means "vertical mixed use." VMU is technically an overlay to a base zoning, typically commercial zoning.

The main effect of VMU zoning is to allow a developer to put residential on commercially-zoned properties. There are lots of standards for it (there must be an actual mix of uses, there are stringent design criteria, parking must be in back, etc.). If the developer is willing to provide affordable housing, it can have certain density limits waived.

The point of VMU zoning is to increase density on commercial corridors and to foster a more walkable, interesting environment.

The City can put VMU wherever it wants. At this point it has applied VMU zoning to "core transit corridors," streets like Lamar, Guadalupe, Anderson. The commercial properties on these streets already have the VMU overlay.

The Council has discretion to expand VMU to other propeties; property owners don't get it as a matter of right. You'd have to get Council to tell you their criteria -- they probably vary from Council member to Council member. But I've gleaned that they will consider it in other spots that front on heavily traveled roads, particularly if they believe the area has been underdeveloped in the past.

That's a long-winded response to a short question.

[el_longhorn]

My son is at Escuelita del Alma, so I feel for the parents. It's an inconvenience, but that's life - leases end and you have to move. I believe in density as a public policy and am willing to put up with the inconveniences and costs that come with it.

That said, that Marriott better be nice and the ground floor better be pedestrian friendly and multi-use. That is a charming and beautiful stretch of Congress, and if you are going to raze it, you better build a landmark and not some POS.

[AC]

If the city holds Marriott to the design guidelines (and it should), then it will be pedestrian friendly. I'm not sure how good the architecture will be, though. The sketches published in the paper a few months ago looked pretty dull.

[M1EK]

I've been frustrated for more than a decade at the tax code rewarding companies for leasing rather than owning their buildings/land -- but that's still no excuse for avoiding the consequences of that decision. Escuelita del Alma decided to rent rather than own - and believe me, the owners (who own a BUILDING next door) easily could have owned a long time ago, when land/buildings were much cheaper, but they chose not to.

[el_longhorn]

Actually, the Perez sisters (owners of Las Manitaas) sold the daycare a couple of years ago...they wanted to focus on their restaurant. If Dina (current owner of Escuelita) knew the problems she was going to encounter, she probably would not have bought. Hopefully, it all goes well for her. Las Manitas and Tesoro's will survive (and thrive) after Marriot builds, since the Marriott clientele will eat at Las Manitas and buy things ar Tesoros (assuming Las Manitas moves into the building they own and Tesoro's is incorporated into the hotel). Escuelita is the business that has the most to lose.

[fastmole]

So explain it to me again. The landlord signs a lease with a tenant under one set of rules (this land can only be used for this limited set of development) and then goes to the city council and wants the rules changed. The city council should only consider how changing the rules would affect the owner, because thinking about how it might affect the tenant would be unfair. I don't get it. One set of rule were in place at the time the lease was signed. Shouldn't everyone involved be in the discussion of new rules?

[AC]

"The landlord signs a lease with a tenant under one set of rules (this land can only be used for this limited set of development) and then goes to the city council and wants the rules changed."

An owner can always ask for a zoning change. That's one of the rules too. The tenant ought to know that. Some protect against that through long-term leases. You're suggesting they should save themselves the trouble: The city will protect them regardless of what their lease says.

It's bad policy anyway. Owners can adjust to the rules, although they'll have to waste money in the process. Let's suppose the city decides that it will deny any zoning change unless the owner compensates the tenant -- moving expenses, cash, whatever.
If I'm an owner who wants a zoning change, and I've got a terminable-at-will lease, then there's an easy solution. I'll just terminate the lease before I ask for the zoning change. Then there won't be any tenant to worry about. Of course, I will lose several months rent while the application is pending, and the tenant will lose several months occupancy -- deadweight losses caused by the city's interference -- but, hey, at least things will be fair.

Oh, wait. It would be underhanded for the owner to terminate the lease when he knew he was going to ask for a zoning change, so we'll hold that against him, too. Our new rule will be, "No zoning changes if the owner terminated the lease because of a zoning change or the anticipation of a zoning change."

But then owners will start terminating leases for other reasons. They'll find replacement tenants and say they were more desirable. Or they'll make property improvements and claim the resulting appreciation in property value drove the decision. Tenants will call them liars. The city will end up adjudicating the intention behind the termination of a terminable-at-will lease. This is likely, not far-fetched, at least when hundreds of thousands or millions of dollars ride on a zoning decision.

Owners will definitely act this way if every tenant gets this protection. But maybe you think only some tenants deserve protection. Which ones? The payola will go to the businesses with the most influential owners and customers. It will be a popularity contest. One business will get a cash payoff and the business next door will get nothing. That's not fair.