Has condo development hit a wall in Denver?
In Denver, condominiums are an endangered species.
Their habitat — the empty lots and abandoned widget factories that serve as fertile ground for urban infill projects — has been overrun with for-rent apartments, a breed of housing that looks similar to condos but attracts a different sort of inhabitant to the city's jungle.
For instance, during 2007, at a time when residential construction was on the decline nationwide, there were 112 apartment units and 870 condo units built in the city's central neighborhoods, according to the Downtown Denver Partnership. As of this July, that ratio had been reversed in a major way. A whopping 7,148 apartments were planned or under construction, the organization says, while the number of condos being built was a meager 145 units.
And that lopsidedness isn't just a Denver phenomenon. Mayors and civic leaders throughout the metro area are concerned, not because apartment-dwellers are uncivilized brutes, they insist, but because having too many short-term renters and too few well-rooted owners threatens to upset the delicate balance that makes for a thriving city.
"All I'm advocating for is a variety," says Lakewood mayor Bob Murphy.
The primary predator? In his view, and the view of many others, the development of new condos is being stifled by construction-defect lawsuits.
Developers and builders report that they won't build new condo projects because of the high likelihood that they'll later be sued by the homeowners' association for shoddy construction, a claim they say is often exaggerated. Regardless of where the truth lies, most lawsuits end up settling for millions of dollars. That kind of liability has caused a majority of the companies who previously insured Colorado builders to bow out of the condo game altogether, local agents say, making the outlook for new construction even more bleak.
There's a saying among those who blame the condo decline on these types of lawsuits — and on the tenacious lawyers who file them on behalf of homeowners: "There are two types of condo projects: those that have been sued and those that will be sued."
"We have a very big target on our backs," says Dan Nickless, the Denver division president of Ryland Homes, which builds condos in most of its markets but not in Colorado.
But not everyone agrees — especially the lawyers for the homeowners, who believe there are politics at play. "They've come up with this bogus argument that they haven't built any condos since 2008 because of us," says attorney Scott Sullan, the undisputed king of construction-defect claims. The real reason why no one was building condos, he argues, was the recession. "The strategy now is to use that downturn and the fact that condos weren't built as an excuse to provide immunity to builders to build poor products and walk away from them."
A state bill introduced during this past legislative session that would have provided some legal protections to developers wanting to build condos near light-rail stations was killed by lawmakers after homeowners showed up and offered testimony about their leaking windows, sloping floors and freezing bedrooms. A massive lawsuit, while no fun for anyone involved, is often the only way to force builders to pay for necessary repairs, the homeowners said.
The builders, developers, mayors and economic-development officials behind the failed bill haven't given up, however. They've commissioned a $40,000 study and have been meeting to discuss ways to tackle the issue anew when next year's legislative session starts in January. It's a complicated proposition, especially since the two sides disagree on most everything.
"It's no secret that woven through this entire topic is conflict and litigation and lawyers and money," Senator Mark Scheffel, the sponsor of last year's bill, said during the debate.
What's harder to figure out is who the villains are.
There are plenty of horror stories on both sides. Take what happened at The Point, a mixed-use urban-renewal project completed in 2003 in the historically African-American neighborhood of Five Points. The Point consists of 35 affordable rental units and 33 condo units, all of which sit above retail space occupied by a coffee shop, Coffee at The Point, and the Crossroads Theater.
While the $13 million development stands out as a success among the empty storefronts that dot the neighborhood, homeowners say the construction does anything but.
"When I purchased my brand-new condo in 2004, it looked great," resident Jonathan Harris testified before lawmakers in April, "until the leaks started."
On a recent afternoon, attorneys Doug Benson and Heidi Storz lead a tour of The Point's problems, most of which can be traced back to improper waterproofing, they say. At The Point, it's caused damage to the ground-level garage, where chunks of the ceiling have rotted and flaked off, and the upper-level concrete patio, which has crumbled due to the water that pools on the surface and continually freezes and thaws in the colder months.
Worst of all, the water has seeped into the units themselves, two of which are now uninhabitable. The front doors of these units are locked, and the rooms with the worst mold damage are sealed off by zippered plastic doors that give them the feel of a serious biohazard. "You can see the mold actually eating the wood away," Benson says, pointing to an especially egregious corner where the drywall has been removed to show the rotted wood underneath.
In 2008, The Point's HOA contacted Benson's firm, which is one of the so-called "big three" in the Denver area that focus on construction-defect litigation. After unsuccessfully trying to work with the general contractor — and, more important, the general contractor's insurance company — to resolve the issues without resorting to legal action, the firm filed a lawsuit on behalf of the HOA in 2011. The case is set for trial in Denver District Court in October.
A little boy in a teddy-bear T-shirt who's been watching the attorneys move from abandoned unit to abandoned unit approaches them after they lock the last door. "I want you guys to fix this house and put my friends back in that house so I can see them again," he says.
"That's the goal," Benson tells him.
"I always find it interesting when builders blame us for [them] not building," Benson says later when reflecting on the situation. "To some extent, what they're saying is true. But it's not us who made that problem. All we're doing is showing them what they did wrong."
The people telling the horror stories on the other side have fewer teddy-bear T-shirts. "The home builders walk in, I walk in, and of course we're those grubby capitalists," says Tom Clark, the CEO of the Metro Denver Economic Development Corporation and the executive vice president of the Denver Metro Chamber of Commerce. "And the trial lawyers bring in somebody who genuinely got screwed."
But Clark, who testified for the bill aimed at encouraging condo construction around transit, and others say that if construction-defect lawsuits are allowed to continue to run rampant and stifle condo development, even more people will get screwed.
Fewer condos means fewer young couples who will be able to build wealth by buying a condo and then selling it for a profit once they have a kid and upgrade to a single-family home. It also means less-stable neighborhoods, which have been linked to poorer academic performance for children. Fewer condos is also bad news for empty-nesters who want to downsize but don't want to rent. And the environment is out of luck, too; if people can't buy condos in urban centers, the argument goes, they'll look to houses in far-flung neighborhoods, creating more sprawl and more traffic.
One of the pro-condo camp's most persuasive arguments has to do with the impact on FasTracks, the multi-billion-dollar, seven-county transit expansion project that voters elected to support with a sales-tax increase in 2004. "If we don't fix this problem now on the front end, we're going to have nothing but apartments around transit," Clark says. That's not what his organization, the largest financial contributor to the FasTracks campaign, promised voters. What it promised was vibrant mini-cities built around light-rail stations, featuring a diversity of housing options, people, shops and restaurants that would resemble what healthy downtowns used to look like.
"We are at risk of pouring a portion of this multi-billion-dollar FasTracks investment down the drain if we can't develop this like we've all envisioned it," says Lakewood mayor Murphy, who is chairman of the Metro Mayors Caucus's FasTracks Task Force.
He and the mayors of other cities FasTracks will expand into say the interest in building multi-family housing around transit is returning, but nearly every proposal is for apartments.
"I've gone to developers and said, 'Could you bring us some for-sale in addition to rental?'" says Arvada mayor Marc Williams. "And they're afraid to do that right now."
"It really becomes an issue of, do we feel comfortable in projects that have that dangling sword over them — this potential construction-defect issue? And for me and for many developers, the answer is no," says David Zucker, the director of development for Zócalo Community Development, the firm behind the popular RiverClay condos in Jefferson Park.
Zócalo is currently developing one of the new high-rises around Denver Union Station, the 132-year-old downtown train station that's being transformed into a multi-modal hub with eight commuter-rail tracks, including one to Denver International Airport, as part of the FasTracks project. Zócalo's high-rise, called Cadence, will comprise 219 luxury apartments. It's one of several such developments ringing Union Station; according to the Downtown Denver Partnership, a total of 2,725 apartment units are either planned or under construction there, though the organization stresses that it's unlikely that all of the planned units will be built.
The number of condos under construction is zero.
So how did the condo-development industry end up in this mess? Some point to state laws.
When Colorado was founded in 1876, the law of the land was "buyer beware," says Bruce Likoff, an attorney who has researched the law and who sides with the mayors in thinking that construction-defect lawsuits have gotten out of hand. In the early 1960s, however, the Colorado Supreme Court issued a pair of decisions that set a different precedent: Builders were now required to guarantee that a home was constructed to code and suitable for habitation.
"That was, frankly, the beginning of the problem, but the problem didn't explode right away," Likoff says. The concept of suing a builder for shabby construction was born in California, he says, and imported here in the early '90s. The first high-profile cases involved single-family homes built on so-called expansive soils in suburbs like Highlands Ranch. These soils, which are common in Colorado, expand when wet, causing foundations and driveways to crack.
Sullan, who worked as a carpenter while he was in law school, quickly established himself as an expansive-soils expert. In 1996, he won a class-action lawsuit on behalf of 957 homeowners whose basements were built on concrete slabs instead of wood floors, which made the houses susceptible to damage from swelling soils. The case earned him a front-page story in the Rocky Mountain News and cemented his reputation as "the legal bane of homebuilders," a nickname that the Denver Post bestowed upon him years later.
Sullan is so legendary that he's been memorialized in a locally published novel: The predatory lawyer in a legal thriller about construction-defect lawsuits written by Boulder builder-cum-author Michael Ruddy is conspicuously named Steve Sanderson.
Other attorneys took note of Sullan's success, Likoff says. "Ultimately, there were settlements in those cases, and they were really big numbers. Lawyers said, 'Wow, there's some big money to be made here.'" But some questioned whether that money was being made ethically. Even though class-action lawsuits can involve thousands of homeowners, only a small percentage of the homes in these cases had actual damage, Likoff says.
Furthermore, attorneys like Sullan were going after triple damages. While that was allowed under Colorado's consumer-protection laws at that time, builders' insurance policies often don't cover anything above the cost to repair the actual defects, leaving builders on the hook for the rest — a cost they were forced to pass on to consumers.
Builders appealed to the state legislature for help. In 1999, they successfully lobbied for a law that limited the instances in which triple damages could be awarded to cases in which a builder acted in bad faith and built a poorly constructed home on purpose. In 2001, they returned to the legislature to pass a bill called the Construction Defect Action Reform Act, or CDARA.
Surprisingly, Sullan and other plaintiff's attorneys supported that bill, which, in their view, didn't erode homeowners' rights. The main thing it did was require that homeowners provide builders and subcontractors with a list of alleged defects within sixty days of filing a lawsuit or entering into arbitration. Two years later, in 2003, the builders went back to the Capitol to lobby for a law dubbed CDARA II. That law did several things, including set up a "notice of claim" process. The process requires homeowners to send builders the list of alleged defects before filing a lawsuit and then allow the builders to inspect the damage and tender an offer to fix it. The homeowners can choose to reject that offer and sue the builder anyway, but the law's goal is to avoid costly litigation. CDARA II also limited the amount of money homeowners could be awarded for consumer-protection violations and attorneys' fees to $250,000 and eliminated the ability to file the huge class-action lawsuits that Sullan had become famous for.
After the law passed, the cover of the trade magazine published by the Colorado Association of Home Builders featured an illustration of a superhero standing over a vanquished pointy-eared foe. "I'm pretty sure that's supposed to be me," Sullan says.
But in 2007, the pendulum swung back the other way when lawmakers passed the Homeowner Protection Act. It was aimed at stopping builders from including clauses in their contracts with homeowners that required them to waive some of their rights to recover damages. According to Sullan, those contracts were a sneaky way for builders to swindle homeowners. But Likoff saw them differently. Instead of offering a general warranty, he says, most builders provided a warranty that included specific terms: if such-and-such breaks within a certain number of years, we'll replace it. Those warranties were a way for builders to manage their risk, he says, and the Homeowner Protection Act made them void.
In the end, each side thinks Colorado law favors the other.
"The builders wrote the law in 2003!" Sullan exclaims. "Do you think they'd write a law skewed in favor of homeowners?" He and other homeowners' attorneys say that placing a limit on the amount of damages homeowners can collect ensures that after they pay their lawyers (most of whom take these lawsuits on a contingency basis and then collect a third of the money awarded to homeowners), they won't have enough money left to make all of the repairs.
Plus, he says, Colorado law only gives homeowners six years to sue the person who built their home (although it may be extended up to eight years if the defect is discovered in the fifth or sixth year). It's one of the shortest windows of time — known as a statute of repose — in the country, according to a chart compiled by Sullan's law firm.
But those who represent builders and developers say the law is stacked against them, especially when it comes to condo projects. "The law has always favored homeowners," says defense attorney Brad Ramming. "Homeowners are people. They're voters."
After CDARA II outlawed class-action lawsuits involving single-family homes, defense attorneys say, the other side turned their attention toward condo lawsuits, which were a lucrative alternative, partly because an HOA board could vote to sue on behalf of all of the owners — and the more people potentially wronged, the higher the potential payday. Condo projects are also much bigger and more complicated to build than single-family homes, making the chances that they'd suffer from construction defects more likely.
Even though CDARA II set up a "notice of claim" process to encourage builders and homeowners to resolve their issues outside of court, builders' attorneys say the process rarely works the way it should. "There's not a lot that the builder can do to force the owner to make repairs if the owner elects not to go down that route," says attorney Ivan Sarkissian.
And even if the builder and the homeowner want to work it out, the builder's insurance company often refuses to pony up the money for the repairs without a court order or settlement agreement. "Insurance companies don't want to pay," says Dennis Polk, an attorney who represents construction professionals in disputes with their own insurance companies. "They want to argue over what are covered damages and what aren't covered damages."
Perhaps the only winners in the entire deal are the attorneys who get paid to litigate these claims. HOAs don't like to be involved in lawsuits, because it's nearly impossible for owners to refinance or sell their units while litigation is pending, which essentially traps them in their defective homes. "You can't sell your unit because people will say, 'Oh, construction defect. Toxic property,'" says Larry Healy, the general manager of the Beauvallon, a luxury condo complex in the Golden Triangle. The Beauvallon sued its developer in 2007, settled the lawsuit in 2009 and then underwent two years of intrusive repairs that included wrapping the buildings in a sheath residents dubbed "the condominium condom" while workers waterproofed the stucco.
"But if you don't file the suit," Healy adds, "how are you going to get the repairs made?"
Builders and developers don't like these lawsuits, either. They allege that homeowners' attorneys exaggerate the number and type of defects in any given project. "If you've got one window that leaks, they extrapolate and say, 'All the windows could leak at some time,'" says Amie Mayhew, the CEO of the Colorado Association of Homebuilders. "If you've got one crack in the sidewalk, their scenario is that all of the sidewalks could be faulty."
Builders' attorneys also say that the experts hired by homeowners' attorneys to estimate the cost to repair damages inflate their numbers because they figure that the settlement is likely to be somewhere between their estimate and the builder's estimate. Meanwhile, homeowners' attorneys say they've tried to hire neutral experts in order to avoid costly lawsuits altogether, only to be shut down by the builders. In any event, the amount of the settlements matters; builders fear that the more multi-million-dollar checks the insurance companies are forced to cut, the harder it will be to get insurance to build these projects at all.
In 2008, there were more than twenty insurance carriers willing to cover condo projects in Colorado, says Gary Frisch, an insurance agent with the Stailey Insurance Corporation of Denver. By 2011, that number had dwindled to five. "Typically, it's been the construction-defects litigation that's caused a lot of problems," Frisch says. Insurance companies "can't price the product correctly to be aggressive in this market."
And the type of insurance coverage offered has changed, too. The household-name companies got out of the housing game about fifteen years ago, when single-family construction-defect lawsuits were in vogue, says insurance broker Clayton Sharkey, who is the director of construction practice for IMA in Denver. So builders and developers had to seek insurance from lesser-known companies that handle higher risk. While those policies came with a higher price tag, builders were still able to buy annual renewable policies, which is the type of insurance traditionally carried by construction professionals.
But starting a few years ago, that market began to dry up as well. Now, Sharkey says, more and more developers are having to buy so-called wrap-up policies, which cover every person working on a project for however long it takes to complete it, plus the statute of repose. Wrap-up policies are more expensive up front, however, and they come with extra costs. For instance, a builder will have to pay someone up to $10,000 to enroll all of the subcontractors in the policy. And because the insurance companies are wary of lawsuits, many now require builders to pay to have their building plans reviewed and to have the project regularly inspected during the building process. The inspections alone can add $500 to the cost of each unit. "It starts adding up to be a pretty big number," Sharkey says, "and that cost gets passed on to the consumer."
The rising cost of insurance is a big reason why builders and developers are steering clear of condos. "Every year when I renew my insurance, the number-one question I get asked is, 'Are you building multi-family?'" says Scott Hente, the co-owner of Robert Scott General Contracting in Colorado Springs. Next year, that answer could be no. Hente says his company is finishing up its last multi-family project and is not looking to start another one.
Several builders who testified before the Senate Judiciary Committee in April on the bill aimed at encouraging condo construction around light rail reported the same thing.
"We have always built townhomes," Standard Pacific Homes senior vice president Rip Reid said. "We will close our last townhome unit this quarter, and we have been instructed by our corporate offices not to invest any more capital into multi-family lots."
"We end up getting sued on virtually every multi-family community that we build," Chetter Latcham, president of Shea Homes Colorado, said in his testimony. "We used to just say that we knew it was part of the process and we'd put costs in to account for it. But now our insurance costs in the last decade have grown tenfold." That has caused Shea Homes to move away from building condos, he said. In 2006, condos were about half of the company's business, Latcham testified. "Today, it's eighteen [percent]," he added. "In two years, it will be zero."
"Why have there been, in your opinion, so many lawsuits?" Senator Lucia Guzman asked him.
Because they're money-makers for attorneys, Latcham answered.
"So are you saying, then, that in most cases, there really is not a problem with the construction?" Guzman asked.
"There are problems routinely in the construction process, and I think if you ask the builders, what we would like is the right to remedy," Latcham said. "We're happy to fix things that are our problem. The issue becomes when we get the attorneys and insurance companies involved, then the builders are no longer allowed to fix the problem, and so you end up with these very large settlements that then drive up the cost of construction and the cost of insurance."
The right to remedy is one of the things that the bill, known as Senate Bill 52, would have allowed. In other words, homeowners who live in transit-oriented developments, or TODs, wouldn't have been able to sue a builder right away. Instead, they would have been forced to allow the builder to come in and repair the defects "within a reasonable time." If the homeowner wasn't satisfied with the repairs, then — and only then — could they bring a legal action.
And it couldn't have been a lawsuit. Senate Bill 52 would have required homeowners in TODs to enter into binding arbitration with builders instead of taking them to court, though that provision could be waived if both parties agreed that a lawsuit would be better. The bill would have also given builders immunity from lawsuits involving "environmental conditions" such as noise, odors, light, vibration, smoke and fumes caused by transit or retail development.
The point of the bill was to encourage the development of the thriving mini-cities around FasTracks that the mayors and civic leaders envisioned. But homeowners and their attorneys balked at the leeway it would have given builders and developers. Attorney Jeff Kerrane, a lawyer for one of the "big three" firms, testified that he's seen the type of substandard repairs that builders offer to perform, and homeowners shouldn't be forced to accept them.
"I had one case where there was a dangerous icing condition on a sidewalk because of poor drainage. And in that case, the builder proposed...to put up a warning sign," he said. "On another case, I had a serious problem where the builder did not install proper firewalls between units.... Rather than proposing to fix the firewalls, the builder instead proposed installing an audible alarm system to warn people about the fire."
The homeowners' attorneys further argued that the builders' insurance crisis wasn't their fault. What caused it, they said, was a 2010 law that the builders themselves lobbied for. The law's goal was to prevent insurance companies from writing limitations into policies that would allow them to get out of covering builders who were sued for construction defects.
"In 2010, the builders said they weren't worried about carriers leaving the state," Sullan says. "That's what's happened. Two years later, when they want a different bill passed, they're arguing the exact opposite. They just make it up. They do!"
Sullan says the builders are using the promise of transit-oriented development to get what they want. "They want to hit that musical note, that hot button," he says. The construction industry knows that mayors are concerned about FasTracks, and they're leveraging that concern in their favor, he says. "I do believe the mayors are being played by the builders."
One of the most ridiculous things about the bill, homeowners' attorneys say, was the way it defined "transit-oriented development" as any condo or mixed-use project within half a mile of a commuter train stop, light-rail stop or bus stop. David Shaw, an attorney with Sullan's firm, testified that the bill would have defined TOD as "basically all of Denver."
Senator Scheffel, the Parker Republican who sponsored the bill, tried to fix that with a last-minute amendment limiting the definition of TOD to development around light-rail stops. But it didn't help. The Senate Judiciary Committee killed the bill anyway on a party-line vote, with the committee's two Republicans voting for it and its three Democrats voting against it.
"I often have the same problem at the legislature that you do in that I never know who's telling me the truth," Democratic senator Irene Aguilar told Scheffel before she voted against the bill. "And we clearly hear two very different stories."
Denver city councilwoman Robin Kniech is one of the civic leaders committed to bringing back a balance between condo and apartment construction.
She sits on an urban-planning steering group convened by the Denver Regional Council of Governments, or DRCOG. Construction-defect litigation is one of the group's areas of focus, and DRCOG has commissioned a study of the issue. One of the questions it aims to answer is whether these lawsuits are interfering with the metro area's long-term goal to have 50 percent of all new housing and 75 percent of all new employment located in urban centers.
"God love DRCOG," says Clark of the Metro Denver Economic Development Corporation. He and others who backed the failed Senate Bill 52 are eagerly awaiting the report in the hopes that it will provide them with some additional perspective and help in shaping their strategy for reintroducing a construction-defects bill in the 2014 legislative session.
In the meantime, there is the raw data. The latest estimate is that 15,000 apartment units are under construction in the seven-county metro area.
Some projects in Denver include: The Douglas, a five-story building comprising 310 apartments at Walnut Street and Park Avenue West in the Ballpark neighborhood; the Delgany Apartments, a 284-unit, ten-story luxury apartment building at 15th and Delgany streets, next to the Museum of Contemporary Art; the Skyline View Apartments, a project comprising 105 apartments on Zuni Street between 28th and 29th avenues in the Lower Highland neighborhood; a 332-unit apartment development at Speer Boulevard and Alcott Street known as 2785 Speer; and One City Block, a 300-unit project spanning Pennsylvania and Logan streets between 18th and 19th avenues in Uptown.
By comparison, the number of condo units under construction in the seven-county metro area is 371, according to John Covert, the director of the Colorado office of MetroStudy, a market-research and consulting firm.
Cary Bruteig, the president of Apartment Appraisers & Consultants, which studies the Front Range apartment market, projects that 5,800 apartment units will be completed this year, and that between 8,500 and 9,000 will be completed next year. That's twice as many as in an average year. "Primarily, construction activity is picking up because the current inventory of apartments is performing so well," Bruteig says. "Developers are wanting to make a profit."
It's true that apartment vacancy rates are low and rents are rising, both signs that apartments are hot right now. But Mike Zoellner, the president and CEO of RedPeak Properties of Denver, which specializes in apartments and is developing both One City Block and The Burnsley at 1000 Grant, a project to convert the Burnsley Hotel in Capitol Hill into penthouse apartments, knows that won't last forever, especially if the market is about to be flooded with new units. Some of those projects are being led by builders who traditionally focused on single-family homes or condos. "As an investor, we think it's a problem," he says.
Kniech's approach to solving that problem differs, in that she doesn't seem loyal to either side. "There are probably four or five reasons people are not building condos," she admits, including consumer preference and the lagging economy. But there's a reason that politicians are focusing their energy on curtailing construction-defect lawsuits, she says. "It's not because the sky is falling. It's because it's an area we may have influence over."
Though the DRCOG study isn't expected to be completed until the end of September, Kniech says the early indications are that construction-defect lawsuits do indeed add to the cost of building condos. Builders can't pass that additional cost along to homeowners, she says, because wages have stayed stagnant throughout the recession and consumers can't afford to pay more for housing. (That theory explains why the few condo projects that have been completed in recent years or are under construction are on the luxury end of the scale.) Faced with that reality, builders are choosing to eschew condo projects altogether, Kniech reasons.
Since it's nearly impossible to separate the predators from the prey, and both sides have persuasive arguments in their arsenals, Kniech figures the only way to come to a compromise is to sit down and hash it out. "We are going to have to do this the old-fashioned way," she says.
Brick by brick.
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