Econ 200 Law & Economics
Foldvary, Week 12
Law and regulation of financial assets and transactions.
The stated mission of the U.S. Securities and Exchange Commission
is to protect investors; maintain fair, orderly, and efficient markets;
and facilitate capital formation.
The Securities Act of 1933 together with the Securities Exchange Act of 1934 created the SEC.
President Franklin Delano Roosevelt appointed Joseph P. Kennedy,
President John F. Kennedy's father, to serve as the first Chairman of the SEC.
Do we need the SEC?
SEC provides information for investors.
SEC requires disclosure.
The SEC requires public companies to disclose meaningful financial and other information to the public.
The SEC maintains its EDGAR database of disclosure documents that public companies are required to file with the Commission.
Companies publicly offering securities for investment must tell the public
the truth about their businesses, the securities they are selling,
and the risks involved in investing.
People who sell and trade securities – brokers, dealers, and exchanges –
must treat investors fairly and honestly, putting investors' interests first.
SEC prosecutes fraud.
“Each year the SEC brings hundreds of civil enforcement actions against individuals and companies for violation of the securities laws.
Typical infractions include insider trading, accounting fraud,
and providing false or misleading information about securities
and the companies that issue them.”
Rulemaking is the process by which federal agencies implement legislation passed by Congress.
Major pieces of legislation, such as the Securities Acts,
the Investment Company Act of 1940, and the Sarbanes-Oxley Act,
provide the framework for the SEC's oversight of the securities markets.
These statutes are broadly drafted, establishing basic principles and objectives. To ensure that the intent of Congress is carried out in specific circumstances,
the SEC engages in rulemaking.
Rulemaking involves three steps: concept release, rule proposal, and rule adoption.
The rulemaking process usually begins with a rule proposal,
Sometimes the Commission seeks out public input.
A concept release is issued describing the area of interest and the Commission's concerns, usually identifying different approaches to addressing the problem.
The public's feedback is taken into consideration as the Commission decides which approach, if any, is appropriate.
The Commission publishes a detailed formal rule proposal for public comment. Arule proposal advances specific objectives and methods for achieving them. The public comment is considered vital to the formulation of a final rule.
The Commissioners consider what they have learned from the public exposure of the proposed rule, and seek to agree on the specifics of a final rule.
If a final measure is then adopted by the Commission,
it becomes part of the official rules that govern the securities industry.
Common conduct that may lead to SEC investigations include:
misrepresentation or omission of important information about securities;
manipulating the market prices of securities;
stealing customers' funds or securities;
violating broker-dealers' responsibility to treat customers fairly;
selling unregistered securities.
The Office of Credit Ratings ("OCR" or the "Office") assists the Commission through the oversight of credit rating agencies registered with the Commission
as nationally recognized statistical rating organizations or "NRSROs."
Investment Company Act of 1940
This Act regulates the organization of companies, including mutual funds,
that engage primarily in investing and trading in securities,
and whose own securities are offered to the investing public.
The regulation is designed to minimize conflicts of interest that arise in these complex operations.
The Act requires these companies to disclose their financial condition and investment policies to investors when stock is initially sold and,
subsequently, on a regular basis.
The focus of this Act is on disclosure to the investing public of information about a fund and its investment objectives, as well as on investment company structure and operations.
The Act does not permit the SEC to directly supervise the investment decisions or activities of these companies or judge the merits of their investments.
Investment Advisers Act of 1940
This Act requires that firms compensated for advising others about securities investments must register with the SEC and conform to regulations designed to protect investors.
Advisers who have at least $25 million of assets under management or advise a registered investment company must register with the Commission.
Sarbanes-Oxley Act of 2002
The Act mandates a number of reforms to enhance corporate responsibility,
and enhance financial disclosures and combat corporate and accounting fraud.
It created the "Public Company Accounting Oversight Board,"
to oversee the activities of the auditing profession.
Congress Should Repeal the Sarbanes-Oxley Act
By William A. Niskanen
Unnecessary – because the stock exchanges had already implemented most of the SOA changes in the rules of corporate governance in their new listing standards; the Securities and Exchange Commission (SEC) had full authority to approve and enforce accounting standards,
the requirement that CEOs certify the financial statements of their firms, and the rules for corporate disclosure;
and the Department of Justice had ample authority to prosecute executives for securities fraud.
The expensive new Public Company Accounting Oversight Board (PCAOB) is especially unnecessary.
Its role is to regulate the few remaining independent public auditors,
but it has no regulatory authority beyond that already granted to the SEC.
Moreover, the audit firms still have a potential conflict of interest, because they are selected by and paid by the public corporations that they audit …
The PCAOB may also be unconstitutional, because it is a private monopoly that has been granted both regulatory and taxing authority.
Harmful – because the SOA substantially increases the risks of serving as a corporate officer or director,
the premiums for directors and officers liability insurance,
and the incentives, primarily for foreign and small firms,
not to list their stock on an American exchange.
The ban on loans to corporate officers eliminates one of the most efficient instruments of executive compensation.
And the SOA may also reduce the incentive of corporate executives and directors to seek legal advice.
Inadequate – because the SOA failed to identify and correct the major problems of accounting, auditing, taxation, and corporate governance that have invited corporate malfeasance and increased the probability of bankruptcy.
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
Signed into law in July 2010.
The legislation set out to reshape the U.S. regulatory system in a number of areas including but not limited to consumer protection, trading restrictions,
credit ratings, regulation of financial products,
corporate governance and disclosure, and transparency.
The Consumer Financial Protection Bureau consolidated the functions of many different agencies.
It oversees credit reporting agencies, credit and debit cards, as well as payday and consumer loans (but not auto loans from dealers).
The CFPB regulates credit fees, including credit, debit, mortgage underwriting and bank fees.
It protects homeowners in real estate transactions by requiring they understand risky mortgage loans.
It also requires banks to verify borrower's income, credit history and job status. The CFPB is under the U.S. Treasury Department.
Oversee Wall Street:
The Financial Stability Oversight Council looks out for risks that affect the entire financial industry.
It also oversees non-bank financial firms like hedge funds.
If any of these companies get too big, it can recommend they be regulated by the Federal Reserve, which can ask it to increase its reserve requirement.
This allegedly prevents another AIG from becoming too big to fail.
The Council is chaired by the Treasury Secretary, and has nine members: the Fed, SEC, CFTC, OCC, FDIC, FHFA and the new CFPA.
Stop Banks from Gambling with Depositors' Money:
The Volcker Rule bans banks from using hedge funds for the banks' own profit.
That's because they'd often use their depositors' funds to do so.
Banks can use hedge funds for their customers only.
Determining which funds are for the banks' profits and which funds are for customers has been difficult.
Dodd-Frank gave banks seven years to divest the funds.
They can keep any funds if that are less than 3% of revenue.
Regulate Risky Derivatives:
Dodd-Frank required that the riskiest derivatives, like credit default swaps,
be regulated by the Securities Exchange Commission (SEC)
or the Commodity Futures Trading Commission (CFTC).
Excessive risk-taking can be identified and brought to policy-makers' attention before a major crisis occurs.
A clearinghouse, similar to the stock exchange, must be set up so these derivative trades can be transacted in public.
However, Dodd-Frank left it up to the regulators to determine exactly the best way to put this into place, which has led to a series of studies.
Bring Hedge Funds Trades Into the Light:
Dodd-Frank says that hedge funds must register with the SEC and provide date about their trades and portfolios so the SEC can assess overall market risk.
States are given more power to regulate investment advisers, since Dodd-Frank raises the asset threshold limit from $30 million to $100 million.
In January 2013, 65 banks around the world had registered their derivatives business with the CFTC.
Oversee Credit Rating Agencies:
Dodd-Frank created an Office of Credit Ratings at the SEC to regulate credit ratings agencies like Moody's and Standard & Poor's.
Many blame the agencies for over-rating some bundles of derivatives and mortgage-backed securities.
This mislead investors who didn't realize the debt was in danger of not being repaid.
The SEC can require agencies to submit their methodologies for review, and can deregister an agency that gives faulty ratings.
Increase Supervision of Insurance Companies:
It created a new Federal Insurance Office under the Treasury Department,
which identifies insurance companies like AIG that create risk to the system.
It will also gather information about the insurance industry and make sure affordable insurance is available to minorities and other underserved communities.
It will represent the U.S. on insurance policies in international affairs.
Reform the Federal Reserve:
The Government Accountability Office(GAO) was allowed to audit the Fed's emergency loans during the financial crisis.
It can review future emergency loans, when needed.
The Fed cannot make an emergency loan to a single entity, like Bear Stearns or AIG, without Treasury Department approval.
The Fed must make public the names of banks that received these loans or TARP funds.
Financial Reform Bill Won’t Stop Next Crisis
By Mark A. Calabria, Cato
Nowhere in the final bill will you see even a pretense of rolling back the endless federal incentives and mandates to extend credit, particularly mortgages,
to those who cannot afford to pay their loans back.
The legislation’s worst oversight is to ignore completely the role of loose monetary policy in driving the housing bubble.
A bubble of such historic magnitude as the one we went through can only occur in an environment of extremely cheap and plentiful credit.
The ultimate provider and price-setter of that credit was the Federal Reserve.
Nor has there been any discussion in Congress about removing the tax preferences for debt. Washington subsidizes debt, taxes equity, and then acts surprised when everyone becomes extremely leveraged.
Had Fannie and Freddie not been there to buy these loans, most of them would never have been made. And had the taxpayer not been standing behind Fannie and Freddie, they would have been unable to fund such large purchases of subprime mortgages.
Yet rather than fix the endless bailout that Fannie and Freddie have become, Congress believes it is more important to expand federal regulation and litigation to lenders that had nothing to do with the crisis.
The law and economics of real estate
Real estate contract law goes back at least to 1677,
when Parliament enacted the statute of frauds
that required that transfers of title to real property be in writing.
The US states have applied that statute, so when title to real property is transferred,
the seller - grantor - must provide a written deed to the buyer - grantee, the new owner.
The deed has to describe the parties, consideration, a legal description of the property,
and the bundle of rights conveyed.
The deed is signed by all the parties.
A contract has to have consideration, or payment, something of economic value.
The consideration in the deed does not have to be the actual amount paid.
Consideration is provided in return for title to the property.
It can be a nominal amount to keep the purchase price secret.
The grantor must sign the deed in the presence of witnesses.
When the deed is signed, it has been executed.
The deed is delivered to the grantee.
The grantee must record the deed in the county’s records to assure protection against a claim of transfer to someone else.
The deed may include covenants and warranties.
A covenant is an agreement restricting the operational rights of the owner.
A warranty is a guarantee that the statements are true and the covenant will be in effect.
In a warranty deed,
the grantor assures that there are no liens or encumbrances
other than those recorded,
that the grantor has a fee simple title which is being transferred,
and that the grantor is in full possession of the interest being conveyed,
and so has the right to convey it (covenant of seisin).
This is also a warranty forever, meaning that the grantor promises
to always defend the title conveyed.
A special warranty deed limits the extent of the grantor’s warranties to events that occurred during the grantor’s time of ownership.
A deed that does not contain any express covenants as to the title’s validity is called a bargain and sale deed, or a warranty deed without covenants, or a grant deed.
A quitclaim deed only transfers the interests of the grantor
but does not imply that the grantor has any rights to the property, or any obligations,
or valid interests.
It is used to clear away defects in the title or to release marital interests.
A marketable title is free of all claims that would cause a reasonable purchaser to reject the title.
An insurable title is one that a reputable title insurance company is willing to ensure.
A title perfect of record means that the public records related to the particular title involved show no defects whatsoever.
Title insurance pays the grantee in case of deficiencies in the title,
or defends the title in court.
The insured person only pays a one time fee.
The insuror does a title search to examine the chain of title.
Real estate titles are public and open to inspection.
The examiner also has to check for delinquent tax payments and court records for liens.
Only past events are insured.
The Torrens System of land registration provides the landowner
with a title certificate similar to that of a car.
A judge issues a decree naming the true owner of the land and any valid claims against the land.
To transfer title, the old certificate is returned, and the registrar issues a new one.
Twelve states use it; not California.
It eliminates the need for many lawyers and title insurance companies.
Restrictions on the property rights of real estate owners are called encumbrances,
or "covenants, conditions, and restrictions," CC&Rs.
These encumbrances run with the land.
They are created by developers, owners' associations, and individual owners.
The CC&Rs created by developers later get controlled by the board of the association,
which can change the rules.
CC&Rs cannot create unreasonable or illegal limitations.
A lien is a claim on property as security for a liability.
A voluntary lien is created when an owner obtains a mortgage.
Involuntary liens protect the interests of creditors
who have claims against the title holder of real estate,
such as a lawsuit.
If a member of a homeowners' association refuses to pay his assessment,
the board may place a lien on his unit.
The government can place a lien on real estate for unpaid tax liabilities.
A specific lien is created to secure debts that are associated with a particular parcel.
A general lien is placed on all the property of the debtor.
The borrower is the mortgagor.
The lender is the mortgagee.
“Ors” provide rights, “ees” receive them.
Mortgage purchasers pledge the property as collateral for the debt,
creating a lien in favor of the lender.
The mortgagee can initiate a foreclosure if the mortgage interest remains unpaid.
A mechanic's lien or construction lien protects those who build or repair
capital goods attached to land.
The contractor who is not paid may foreclose.
In some cases, the subcontractors also have a lien,
and can foreclose even if the major contractor has been paid.
The winner of a lawsuit, who is not paid, can get a judgment lien.
There are also liens for delinquent taxes.
An easement is a right given by a landowner to another party
to use the landowner's site in a specified manner.
The landowner's property rights coexist with the holder of the easement.
An easement appurtenant exists when an easement is connected to an adjoining property.
For example, to lay down a water pipe across the adjacent property.
The land served is the dominant estate, and the one burdened is the servient estate.
With an easement in gross, there is no dominant estate, only a permanent servient estate.
For example, a utility company that has an easement to run its power line.
An easement can be created by an express grant.
But there an also be an "easement by implication" or by implied grant,
based on use and necessity.
For example, continuous use of another's property in order to access a highway.
An easement by prescription is created when somebody other than the owner uses the land continuously and openly, and without permission, for a period of time; 5 years in California.
The user treats the land as if it were his own.
Easements are permanent unless dissolved by both parties.
Permanent rights are said to "run with the land."
A conservation easement restricts the development of a site.
A license in this context is a revocable personal privilege to use real estate.
For example, I may allow a friend to park in my driveway while I am on vacation.
A profit a prendre permits the holder to remove soil or produce; it runs with the land.
An encroachment is an unauthorized invasion or intrusion of a fixture such as a fence
or a building into another's land.
The owner of the land may force the removal of the encroachment.
But if that owner does not do so, the other may claim adverse possession.
Adverse possession is like a prescriptive easement, but goes further and actually transfers the title. In California, the same rules apply as with an easement by prescription, but also the possessor must also have paid the property tax for five years.
Governmental restrictions, taxes, and takings .
The real property tax is actually two taxes combined in one payment.
It is a tax on land value and a tax on the value of the improvements.
Each tax has a different economic effect.
Each tax has a different moral justification.
The government in effect is a co-owner and has rights to the rental of the property and some rights of possession, including both use and transfer.
The power of the state of California over land under "private" title is bounded only by the constitutions of the USA and California.
The property tax, especially on land, is suitable to local government revenue because real estate is relatively immobile. Land is totally immobile and cannot be hidden.
The real property tax is ad valorem, meaning according to market value.
But the tax is not based on the actual market value.
In California, the real property tax was changed in 1978 by Proposition 13.
The tax is one percent of the market value at the time of purchase.
The tax may not increase by more than 2 percent per year.
So the tax is paid on the assessed value. Also, a portion of owner-occupied real estate value is exempt as a homestead.
Subtracting the exempt value gives us the taxable value.
The tax rate is then applied to the taxable value.
So two houses can have equal market value but get taxed unequally.
The official who estimates the property value of real estate is called the assessor, and the process is called assessment.
An owner may appeal the assessment to an appeal board or a court.
Cities also levy extra property taxes and special assessments, often on the square footage of improvements. These are often called “parcel” taxes.
There are also charges such as for garbage attached to property txes.
Governments also levy development impact taxes, often misleadingly called “fees”.
These help finance the infrastructure provided by government.
They can be per dwelling unit or per 1000 square feet of improvements.
Government can also transfer ownership to itself.
If the title holder dies without a will and without heirs, then the propety is transferred to the state.
This is called "escheat" and applies to any property, such as a dormant savings account.
The state may also transfer and take real estate by force.
This power is called eminent domain.
The Fifth Amendment to the US Constituion limits the power of eminent domain: private property may only be taken by the state for a public use, and with just compensation.
That power has been extended to alleged public benefit, forcibly transferring real estate to another private owner.
This confiscation of real estate is called a “taking.”
Zoning and other regulations are not considered takings unless most of the value is taken.
Civil asset forfeiture.
Property used in connection with a crime can be seized by the government.
This is so even if the owner of the property was not involved in the crime.
As an allegedly civil action, it is the property, not the person, which commits the act.
"Seizure does not require evidence that the owner of the property violated any law.
The case is against the property, not the owner -
nor does it require the criminal conviction of anyone, owner or user.
It is up to the owner who wishes to get his property back to demonstrate,
in a civil action, that it was not used to commit a crime."
This is the opposite of the legal principle of innocent until proven guilty.
It is based on deodand, in ancient English common law,
when the king could seize property that was used in a crime against him or his property.
Deodand is derived from Deo dandum - to be given to God -
and is used to designate the instrument which has caused the death of a man.
The deodand is forfeited to the king and was formerly applied to pious uses.
The law enforcement officials keep the loot,
so the incentive is, what?
For drugs, prostitution, and other crimes.
When a husband was caught using a car jointly owned with his wife to pick up a prostitute,
it was legitimate for the entire care to forfeit--including the wife's share.
As an allegedly civil action, it is the property, not the person, which commits the act.
"Seizure does not require evidence that the owner of the property violated any law.
The case is against the property, not the owner -
nor does it require the criminal conviction of anyone, owner or user.
It is up to the owner who wishes to get his property back to demonstrate,
in a civil action, that it was not used to commit a crime."
On October 2, 1992 Malibu California millionaire Donald Scott was shot to death inside his own home, during a raid by Los Angeles Sheriff's Department and agents from five federal law enforcement agencies. The Scotts were awakened by the sound of the police breaking down their door. Scott's wife, Frances, ran downstairs to find her house swarming with men with guns aimed at her. She screamed "don't shoot me, don't kill me." Donald Scott, recovering from recent cataract surgery, got his gun and ran to the defense of his wife. When he emerged at the top of the stairs, holding his gun over his head, the officers told him to lower the gun. As he did, they shot him to death. The warrant was for evidence of the cultivation of marijuana, but no illegal activity was discovered at the Scott ranch. The report of the Ventura County District Attorney, Michael Bradbury, concluded that the police lied to obtain the search warrant, that there had never been any marijuana cultivation on the property, and that the raid was motivated by a desire to forfeit the multi-million dollar ranch. Despite the DA's dramatic conclusions, no officer was ever indicted, or even lightly disciplined for the lies or the killing.
Inverse condemnation occurs when an owner claims that the government has reduced the value of his property to the extent of taking it, such as by construction that never ends.
The government also has police power, the power to restrict behavior.
This goes back to English common law, which has a concept of nuisance.
Injured parties can sue to prevent the behavior or seek compensation.
But today's governmental police power gives the government the authority to control land use in any way that government officials choose, subject to the constitution as interpreted by the courts.
Most cities have a general plan for economic changes and development.
The plan is enforced by zoning and other regulations.
Zoning is a division of the territory in a city into districts, each of which is designated for particular uses such as residential, commercial, and industrial.
Zoning started less than 100 years ago.
Zoning can also require minimum lot sizes, density, setbacks, and height limitations.
Another rule is the floor-area ratio, the ratio of total floor area and total land area.
Recently, zoning has been liberalized to allow clustered housing in residential associations, with houses closer together but more open space.
There is also performance zoning, where the rule is based on an outcome such as density rather than a method.
City governments also offer to set aside the zoning in return for providing open space or other amenities.
There is also "inclusionary zoning" that mandates low-income housing.
Zoning has been criticized as being too rigid, violating property rights, inefficient, and subject to corruption.
Some cities have no zoning, Houston being the largest US city without it.
Instead, there are private covenants and easements, which are private, voluntary, market ways of handling land use.
People call a regulation "smart" in order to imply that its opponents are studid.
"Smart growth" is a system of regulation that includes urban growth boundaries and light rail.
San Jose and Portland are examples.
In San Jose, the light rail has been criticized as a waste of resources.
Smart growth increases congestion and raises land values.
Real estate owners may seek a “zoning variance” to be exempt from some zoning rules when they impose a hardship.
There can also be nonconforming uses which continue after the zoning is put in, use which in some cases is only for some time interval.
Detailed rules for the construction of new buildings and alternations to old buildings.
Building codes are justified by as helping to ensure safety, but in practice,
many building codes are not necessary and protect construction companies from competition.
There are also regulations on development, issued by city councils, county boards, and planning district boards.
The plan or plat of the subdivision has to be approved.
The master deed and bylaws of homeowner associations have to be approved.
Contractus est quasi actus contra actum.
A contract is as it were, act against act.
Quid pro quo, something for something. Mutual consideration.
Contractus ex turpi cause, vel contra vonos mores, nullus est.
A contract founded on a base consideration, or against good morals, is null.
Including a slave contract.
Contractus legem ex conventione accipiunt.
Contracts receive legal sanction from the agreement of the parties.
A legally valid contract must have the following elements:
Offer, acceptance, consideration, parties with capacity, and a lawful purpose.
An offer is a proposal to do something or pay some amount for something.
An offer creates the power of acceptance.
The offeror, maker of the offer, promises that he is willing to be bound by that proposal.
The offer becomes a contract upon acceptance by the offeree.
The other party can make a counter offer, which then becomes a new offer.
The offeree rejects the offer and proposes a new offer.
Consideration is the inducement to a contract.
It is the cause, motive, or influence which induces a party to enter into a contract.
There can be express or implied consideration.
Consideration implies that each part to a contract must give up something of value.
All parties must have contractual capacity.
Each must be mentally capable of understanding the contract.
As a bright line, the law presumes that minors do not have capacity.
A contract for an illegal purpose may make it void.
All contracts involving land or attachments must be in writing to be enforcible.
Failure to perform according to contract is a breach of contract.
The victim may in some cases sue for specific performance, or seek payment for damages.
Conditional contracts include contingencies: financing, title, inspection, acceptance of reports.
Offers and counteroffers can be withdrawn by the offeror at any time prior to acceptance.
The financing contingency must involve good faith by the buyer.
He has to attempt to borrow the money within a reasonable time interval.
The escrow agent, a neutral third party,
must safeguard the deposit according to the terms of the contract.
Option to buy
One purchases the right to buy the property at a particular price during a particular time.
Unlike stock options, a real estate option is for a specific property.
The option ensures that the property will not be sold to another party before the option holder has made a final decision. In turn, the property owners gets money for the option.
An installment contract is also called a contract for deed or a land contract.
The seller retains title, and the buyer has possession as the equitable owner.
Find out what is important to the other party; their subjective values can be different from yours.
The buyer is responsible for obtaining financing, examining title, getting the land surveyed, obtaining insurance, and having the property inspected.
The seller is obligated to disclose significant defects.
The seller pays the remainder of his loan from the sale, or
transfers the loan to the buyer for an assumable loan.
The seller pays the real estate commission, but sometimes there is a buyer’s agent also.
An escrow is a deed, money, and other items delivered by the grantor to a third party,
who holds these until the contract is effective, and then delivers them to the grantee.
It is a system of transferring documents and assets.
The escrow agent, such as a bank or insurance company,
is an intermediary and safeguards the deposit.
Points are an extra charge for a loan, beyond the interest payments.
They are paid when one gets a loan.
Each point is one percent of the loan.
Closing costs can include loan points, appraisals, mortgage insurance, fees to the closing agents, possibly lawyers’ fees, real estate commissions.
There is also a real estate transfer tax, and prorete insurance and property tax payments.
As to which party pays closing costs such as taxes, commissions, and insurance,
this depends on local custom and the contractual agreement.
Costs such as taxes are often shared and prorated.
The borrower and lender close the loan.
The escrow agent closes the transaction.
Title is transferred.
A lease transfers rights of possession
and possibly the right to some of the rent if the property is subleased,
in exchange for a rental payment.
A lease divides the estate into a leased fee estate and a leasehold estate.
Classification of Leases
Duration of term
The duration of the term of a leasehold estate determines whether it is a tenancy for a stated period, a tenancy from period to period, a tenancy at will, or a tenancy at sufferance.
A tenancy for a stated period limits the term of the leasehold, the period of time.
In most states, the term can be up to 99 years; for a longer time, it becomes a fee simple transfer.
A tenancy from period to period does not terminate until proper notice is given
so long as the tenant pays the rental.
A tenancy at will may be terminated at any time, with notice such as 30 days as required by law.
A tenancy at sufferance is created when a tenant continues to occupy the property after the lease has expired; as the tenant is there at the sufferance of the landlord, who may give notice to quit the premises or be evicted.
Type of use
In some cases, the landlord only owns the land, and the tenant has a ground lease
and owns the buildings. This is typical with land trusts, such as Arden, Delaware.
In Manhattan, many buildings have been built on leased land.
The owner of the building does not have to lock up money in buying the land,
and land cannot be depreciated.
When the lease expires, the land owner gets the improvements,
but the contract can specify a payment..
Methods of Rental Payment
A lease can specify various types and ways of payment.
In a gross lease, the tenant pays the gross costs of occupancy, including real property taxes, utilities, insurance, and operating expenses.
In a net lease, the tenant pays the operating expenses in addition to rent.
In a net-net lease, the lessee pays operating expenses and insurance.
In a net-net-net lease, the lessee pays operating expenses and insurance and real estate taxes.
For residential leases, the landlord usually does the maintenance and pays the taxes and insurance.
Tenants are responsible for damages.
Utilities are typically the responsibility of the tenant,
but some apartments have centrally controlled utilities such as heating,
in which case the landlord provides it and the cost is included in the rental.
Also, in homeowner associations, the association fee is paid by the owner
and passed on to the tenant in the rental.
Under a fixed-rent lease, the amount of the rental payment is fixed for the term of the lease.
Under a graduated rent or step-up rent lease, the rental rises by specified amounts at intervals.
In a reappraisal lease, the level of rental increase is determined by an appraisal of the property.
They are used for long-term rentals of entire buildings.
These are often used for long-term leases, to protect the tenant.
Some farm rentals use sharecropping, where the tenant’s rent depends on the value of his crop.
Likewise, some shopping centers practice sharecropping with a percentage lease,
where the rental is based in part on the gross sales.
The percentage lease for commercial property is a minimum rental plus a percentage of sales.
Such leases are used in shopping centers.
The percentage depends on the general profitability of the stores.
This spreads the risks between tenant and owner.
In a bad year, the rental is lower.
However, the rental acts like a tax, with a deadweight loss.
In the index lease, the rental is tied to some price-level index.
The landlord-tenant relationship
A lease should include the term, rental amount, how the rental is changed, rules for use, maintenance responsibility, and renewal.
A lease can have a renewal option that specifies what the rental is upon renewal.
It protects the tenant from a very large increase in the rental.
A tenant may be able to move out and transfer the lease to a new tenant,
but after this assignment, the first lessee may be liable unless released by the landlord.
A lease might allow the tenant to sublease the premises to another tenant.
Some of the rights are transferred to the tenant.
Assignment means that all of a tenant’s rights are transferred to the new tenant,
but the lessee is still liable.
Landlords usually require security and cleaning deposits.
Both parties should carefully inspect the property and note any existing damage.
Fixtures and improvements made by tenants become are the property of the owner.
A tenant has the right of exclusive possession, a covenant of quiet enjoyment.
In law, “quiet” does not mean silence.
Quiet refers to peace of mind.
Quiet means unmolested, tranquil, free from interference or disturbance.
A covenant of quiet enjoyment in leases promise that the tenant shall be able to use the premises in peace, without disturbance from the landlord.
There is an implied warranty of habitability,
in which the landlord must maintain the premises in a reasonably safe condition.
Often this is explicit in local laws.
Economic and ethical question: to what extent may private real estate be controlled?
What are the economic and ethical implications of restricting private property rights?
Justified because buyer knows one is subject to regulations and taxes?
How well a market economy functions depends very much on its land tenure system.
Two land-tenure systems compatible with a free market.
In both, there are complete private rights of possession.
Two possible systems for the land rent:
allodial: all land rent is retained by the title holder.
geoist: the natural land rent is owned in common shares by a community.
The rental generated by civic capital goods is collected by the provider by contract.
Market allocation of land use leads to the highest and best use of sites and buildings.l
Best use: that of the highest bidder of an auction.
It often yields the highest financial rent payment, but not always.
It could be a park that the residents prefer to a building.
Land use can be controlled privately by contract.
Covanants, easements. Deed restrictions.
CC&Rs: covernants, conditions, and restrictions.
In residential associations and condominiums.
An owner can sell land with covenants.
Government powers on land use:
Police powers: the control of private activity.
Pollution controls. Environmental regulation, including before development.
No compensation, up to some limit.
building codes, rent control.
Zoning. Variance: exception from zoning.
Early zoning: for safety and nuisance. Then expanded.
Inclusionary zoning: requires developers to include low-income housing.
Now wider controls: a master plan. Regional plans.
Some entire cities were planned from the beginning: e.g. DC (p. 323).
No-growth, slow-growth policies, as in San Jose.
California Coastal Zone.
Eminent domain: the power to confiscate real estate, with compensation, for public use.
But in practice, it is often for private uses.
Zoning is a command by government to use land in a particular way.
When a city government zones land as residential, it is illegal to carry out commercial activities there, such as doing business inside one's home.
It can even be illegal to hold religious meetings in someone's house.
Related to zoning are land-use laws and permit requirements that arbitrarily limit what the owner may legally do, and impose costs in addition to regular taxation.
Zoning is often used to limit economic growth.
Cities mandate controls on population density, it being illegal to have more people per acre or hectare than the legal maximum.
This adds to urban sprawl and also prevents low-income people from obtaining housing.
Zoning prevents converting single-family dwellings to apartments or other higher-density residences.
Zoning is an example of privilege seeking, when the property owners of a neighborhood seek to exclude particular types of land use from their area.
Instead of buying this benefit, they use government force to deprive others of benefits and obtain an implicit subsidy.
Historically, zoning is a rather recent intervention.
The first comprehensive zoning law was enacted in New York City in 1916.
Now almost all cities in the USA have zoning, but Houston, Texas, has been a notable major exception.
The alternative to zoning is covenants, or contracts among property owners.
Residential associations often have covenants in which the members agree
to adhere to particular rules, such as keeping the front yards from going to weeds.
Often, a developer builds a community with a harmonious style of architecture, which covenants later preserve.
Anyone moving in needs to sign the community contract explicitly agreeing to the master deed and bylaws.
An illustration of the evil that zoning is capable of occurred in Fairfax County, Virginia, as reported by Vin Suprynowicz in The Libertarian, April 8.
The county government developed a golf course near a private golf driving range owned by John Thoburn.
The government operation took away one-third of his business, but the main problem was with the zoning.
According to his guest column in the Washington Post, March 15, 2001, to get the occupancy permit, Thoburn planted over 700 trees around the range at a cost of $125,000.
But the Fairfax County government now demands that 98 trees be moved to different locations, despite prior inspections and approvals.
The berm, a ledge separating Thoburn's facility from the Dulles Toll Road,
is subject to two contradictory zoning conditions requiring two different heights,
and the Fairfax County officials refuse to say which berm height they want.
Also, they haven't told Thoburn exactly which trees need to be moved.
Thoburn wrote, "This zoning harassment has been going on for years.
One zoning regulation ... allows a 'snack food concession.'
Yet Fairfax County issued a zoning violation for selling hot dogs and Cokes.
They say we can sell pre-wrapped roast beef deli sandwiches, but not microwave hot dogs.
We can sell Coca-Cola in a bottle or can, but not in a cup.
Meanwhile my competitors, the Fairfax County golf facilities, have carte blanche from the county to sell beer and pizza."
Post Metro columnist Marc Fisher reported that the county did not require itself to plant hundreds of trees or build massive berms,
and the county did permit itself to offer putting greens and miniature golf,
neither of which Thoburn is allowed to offer.
When Thoburn last year balked at spending another $30,000 to move 98 trees which the county says are in the wrong location, he was ordered to close.
He refused, was taken to court, held in contempt, and has been imprisoned in the Fairfax County Jail until he shuts his business or plants the trees.
The county has also continues to assess him fines of $1,000 per day.
In his press release, Vin Suprynowicz says,
"The nature of a thing is best judged by its fruit, and the evil fruit of planning and zoning is a law-abiding family man like John Thoburn sitting in prison while his wife and children flee the local jurisdiction in terror, for all the world like terrified Lincolnshire peasants fleeing the soldiers of Prince John.
Instead of forced zoning, there can and should be voluntary agreements among people, with covenants, easements, and community master deeds.
If you want to benefit by restricting your neighbor's use of property, you should compensate him.
Insurers keep a secret history of your home
A huge database not only tracks claims, it also looks for risks
which could cause dropped coverage and other nightmares for homeowners.
You probably know that it’s not a good idea to make too many claims on your homeowners insurance policy because your insurer could drop you.
What you might not know is that making a claim could make selling your home more difficult down the road. What’s more, you could find your home’s value damaged or a sale jeopardized even if a previous owner, and not you, made a claim.
Insurers increasingly are using a huge industry database, called the Comprehensive Loss Underwriting Exchange or CLUE, to drop or deny coverage based on a home’s history of claims or damage reports.
Insurance companies are terrified of rising losses from water and mold damage. So a single report of water-related problems may be enough for insurers to shun your home.
Jan and Kevin Garder of Bremerton, Wash., discovered this the hard way. The Garders thought they were doing the right thing when they told their insurance company, State Farm, about some minor water damage caused by a rainstorm last year.
Consumers are held hostage.
The couple, who say they had been with their insurer for 30 years without filing a claim, ultimately decided not to file one this time, either.
That didn’t stop State Farm from dropping them as customers, they say.
Not only that, but they say State Farm also shared the damage information with the CLUE database.
When the Garders applied for coverage elsewhere, the other insurers cited State Farm’s damage report as the reason they wouldn’t write a policy, Jan Garder said.
The company that operates CLUE, ChoicePoint of Alpharetta, Ga., said that the database collects damage reports as well as claims.
The information stays in the database for up to five years, said James Lee, ChoicePoint’s chief marketing officer.
The Garders say they finally secured bare-bones fire coverage for about $1,000 a year, more than three times what they paid previously for full homeowners coverage.
What’s more, the problem is derailing their plans to sell their home.
The Garders say they have been told by their real estate agent and others that they may have a tough time getting a good price for a home that’s already been rejected by many insurers.
In previous years, insurers used the CLUE database in large part to watch for fraud and for consumers who had a history of filing numerous claims.
After losing billions of dollars on homeowners insurance in recent years, however, insurance companies have become more aggressive about screening for other risks -- including damaged homes that could spawn future claims.
State Farm has been among the most aggressive in weeding out unwanted risks. The nation’s largest property insurer has dropped thousands of policyholders from coast to coast and stopped writing homeowners insurance in several states.
So far, insurers’ increased use of the CLUE database has not caused serious problems for the booming real estate industry, said George Tribble, a member of the National Association of Mortgage Brokers’ board of directors.
But Tribble said he has heard a number of anecdotal reports of residential sales falling through at the last minute because of CLUE-related problems in securing insurance. He fears the problem could get worse if insurers begin to shy away from homes that have had even minor damage.
The insurance industry is notorious for its manic-depressive cycles.
In profitable years, companies will slash premiums, boost coverage and take on big risks in hopes of gaining market share. When those risks start costing real money, the companies sound the full retreat -- hiking premiums, dropping customers and shunning risk.
What’s notable about their most recent mood swing was how quickly it happened, spurred in large part by last year’s losses and the massive increase in mold-related claims, especially in Texas and California.
How to protect yourself
While you can’t do much about insurers’ overreactions, you can do something to protect yourself in this particularly difficult time. Among them:
Keep your home in good repair. A solid, watertight roof, good plumbing and a decent paint job can protect your home from various water disasters -- the kind of damage that’s scaring insurers the most these days. It’s a good idea to regularly check the hoses on your clothes- and dish-washing machines, since cracked or burst hoses often lead to serious water damage.
\Keep your deductible high. Pay for smaller expenses out of your own pocket. Homeowners insurance should be reserved for the big disasters, not the little problems you can easily pay for yourself.
Think twice about water-related claims. This is especially true if you plan to sell within a few years. You could be better off paying to repair the problem yourself rather having your home be branded as high risk.
Don’t tell your insurer about problems unless you’re sure you’ll file a claim. This last piece of advice is unfortunate, because insurers and insurance agents can be a decent source of counsel on whether it’s worth filing a claim. Since any damage you report could get passed on to the CLUE database, however, it’s smart now to err on the side of caution.
Consider getting a copy of your CLUE report. You're entitled to a free copy of your home's CLUE report every year or if you've been denied insurance. You have a right under federal law to dispute any erroneous information on the report. To get a copy, contact ChoicePoint.