Strata Reforms Will Change the Development Landscape
Urbanised MD Stephen Albin recently led a panel discussion on the new "defects bond". The bond started in January 2018 and will be 2% of the construction cost of a strata development over 3 storeys. The most interesting point of discussion was that the bond doesn't apply to non strata developments. With this loophole, NSW - the State that invented strata in the 60's could very well be unwittingly dismantling it.
Amongst lawyers, developers and strata managers there is a level of uncertainty over the operation of the NSW Government's new Strata Management Bond (Section 8 of the Strata Schemes Management Regulation 2016).
The genesis of the regulation came from the broader strata reforms that reduced thresholds for scheme termination. The trade off was to introduce the bond to assist owners' corporations more easily rectify defects in new developments. The intention is fine but the regulations could have unintended consequences.
Holding a deposit for 18 months following completion of the development takes out major cashflows from the industry and it remains uncertain to what impact this will have the construction industry "food chain". Urbanised estimates that up to $100 million in cash flow could be taken out of the NSW industry if the value of unit developments continue at 2017 levels. This will have a significant impact on the development and construction industry. Once again, there is nothing wrong with requiring the rectification of defects but the regulations catch good and bad developers/builders with substantial industry wide cash flow effects.
Around the world the industry has responded in innovative ways to poorly conceived regulations. For instance, in Los Angeles, the industry addresses onerous statutory warranties and affordable housing requirements by owning the building until the time that all statutory warranties have extinguished and affordable housing requirements lapsed. They then convert buildings into condominiums and sell all the units in the developments. Some Australian developers adopt a similar approach.
The Strata Management Scheme Regulation opens itself up to similar gaming by the industry. The regulation only applies to strata buildings that are above 3 storeys. There is an option to only build 3 storeys but the loss in profitability would be far greater than the bond itself. However, what if developers took the LA approach and decided not to strata, hold the asset and strata at a later date if at all? We may also see the re-emergence of company title.
Poorly designed regulations create unintended policy consequences. While the regulations have momentum and will be difficult to change it will be interesting to see how those affected respond. Otherwise good developers/builders could "build in" defects anticipating that the bond will be extinguished regardless of the quality of the build. This is unlikely. What is more likely is the massive growth of the build to rent sector backed by institutional investors (or high net worths) like in the US to remove regulatory and taxation imposts. Strata, which was invented in NSW in the 60's and has served us well for more than half a century, could be the unintended casualty of poorly conceived policy.