Determining Fair Market Rent, Negotiating Initial Rent of a Decontrolled Apartment

Q A rent-controlled tenant is vacating. There are eight apartments in my building. The other seven apartments were previously rent controlled or rent stabilized. As they became vacant, I renovated each apartment and then rented them, between the years of 2009 and 2012. They are currently all permanently exempt and not regulated. These are all the same size and “comparable” to the newly vacant apartment.

The rents of the renovated apartments are currently: $1,575; $1,585; $1,610; $1,650; $1,705; $1,725; and $1,875. I intend to fully renovate this newly vacant apartment at a cost of approximately $30,000, and the current MBR of the apartment is $989.19.

Can I rent the apartment at a negotiated free market rent? Also, can you explain what DHCR Fact Sheet #6 on fair market rent appeals means when it says, “If the owner elects to offer the rent of a ‘comparable’ unregulated apartment, the fair market rent will be established at the average of the rent for the unregulated ‘comparable’ and the Special Guidelines component, plus lawful increases for individual apartment improvements”? And finally, am I allowed to register a legal rent-stabilized rent of $2,700 and sign a lease at a “preferred” rent of $2,000?

A Since your building has six or more units, the decontrolled apartment automatically falls under rent stabilization when the new tenant signs a lease. The DHCR will continue to regulate the apartment’s rent and the services you must provide. During the transition to a rent-stabilized apartment, you may negotiate the initial rent with the first rent-stabilized tenant.

This rent you negotiate for the apartment is subject to the tenant’s right to file a “Fair Market Rent Appeal.” The tenant has 90 days from the mailing date of the tenant’s copy of the RR-1 form to challenge the first rent you charged for the newly stabilized apartment. If the tenant does not challenge the rent in that time, neither that tenant nor any subsequent tenant can challenge it in the future. And the negotiated rent becomes the lawful regulated rent for the apartment.

If the tenant files an appeal and if the DHCR determines that the rent you set exceeds the fair market rent, it will adjust the legal rent for the apartment downward and will order you to reimburse the tenant for any excess rent collected. However, unlike typical “overcharge” cases where an owner must pay additional interest, triple damages, or attorney’s fees to the tenant, an owner who loses a fair market rent appeal can’t be hit with these penalties. Therefore, in the worst-case scenario, an owner will enjoy an interest-free loan while the DHCR determines if the rent was above fair market for the decontrolled apartment.

DHCR Fact Sheet #6 speaks to how the DHCR determines fair market rent if the rent-stabilized tenant files a fair market rent appeal. According to attorney Randi Gilbert of Horing Welikson & Rosen PC, the DHCR’s method for setting the rent for a rent-controlled apartment when it leaves rent control (as in your building) is to add all of the comparable, unregulated rents to the MBR increased by the amount of the special guidelines increase, then divide that total by 8 (the total number of comparable apartments (7) plus the rent-controlled apartment in the building) to get the average, and then add 1/40 of the costs of any individual apartment improvements (IAIs), which equals $750, assuming you expend $30,000 for the IAIs.

The special guidelines are found in Rent Guidelines Board Orders when the Rent Guidelines Board sets the rent increases for the current year. Currently, the special guidelines increase pursuant to RGB Order No. 48 for leases commencing during the period of Oct. 1, 2016, through Sept, 30, 2017, is the MBR plus 33 percent.

The total rent for the seven comparable apartments plus the MBR + 33 percent for the eighth apartment total $13,040.62. Divide that by 8 and you get $1,630.08 (rounded to the nearest cent). If you add $750 as the includable amount of the IAI increase amount based upon the anticipated expense of $30,000, the new legal regulated rent would be $2,380.08.

In answer to your second question, assuming you are referring to the same apartment coming out of rent control, you are not permitted to charge a preferential rent, says Gilbert. Since there is no “previously established” legal regulated stabilized rent, the preferential rent would be deemed to be the legal regulated rent.