Deal Maker: Lessons from the Blind Master Negotiator

©2009Joseph Dean Klatt, PhD & Michael M. Forbes, MBA. All rights reserved.

No part of this book may be reproduced, stored in a retrieval system, or transmitted by any means without the written permission of the author.

First published by AuthorHouse 12/3/2009

ISBN: 978-1-4490-5263-8 (e)

ISBN: 978-1-4490-5262-1 (sc)

ISBN: 978-1-4490-5261-4 (he)

Library of Congress Control Number: 2009912516

Contents

DEDICATION

ACKNOWLEDGEMENTS

FOREWORD

CHAPTER I

CHAPTER 2

HOW NOT TO NEGOTIATE

CHAPTER 3

INTERVIEW WITH THE BLIND MASTER

CHAPTER 4

KEEPING TRACK

CHAPTER 5

B.A.T.N.A., W.L.A.T.N.A., W.A.T.N.A. & M.L.A.T.N.A.

CHAPTER 6

ANCHORS-FIND THEM & MOVE THEM

CHAPTER 7

THE POWER BASED APPROACH

CHAPTER 8

THE RIGHTS BASED APPROACH

CHAPTER 9

THE INTEREST BASED APPROACH

CHAPTER IO

THE COMBINATION APPROACH-PISTOL PACKIN’ PAPER BOY

CHAPTER II

THE STICK-IT-TO-THEM-GENTLY APPROACH

CHAPTER 12

GOING DARK

CHAPTER 13

INTEGRATIVE BARGAINING

CHAPTER 14

NEGOTIATING OVER THE DIFFERENCE

CHAPTER 15

THE MASTER’S TOOLS

CHAPTER 16

THE PERSONALITY TRAP

CHAPTER 17

NEGOTIATION FATIGUE

CHAPTER 18

SPEED BUMP WORDS IN NEGOTIATION

CHAPTER 19

California Judicial Proceedings - Code Blue

CHAPTER 20

DRILLDOWN-A MEDIATOR’S TECHNIQUE

CHAPTER 21

SCIENCE & MEDIATION

CHAPTER 22

You HAVE TO A-S-K FOR AN OFFER TO G-E-T A SETTLEMENT

CHAPTER 23

THE L.U.C.K.Y. SYSTEM OF NEGOTIATION

CHAPTER 24

CHAPTER 25

LEAVE STRONG

CHAPTER 26

CHAPTER 27

SCOTCHING

CHAPTER 28

YOU CAN WRITE AN OFFER ON THE BACK OF A SAFEWAY SHOPPING BAG

CHAPTER 29

AÏKIDO AFFIRMATIVES

CHAPTER 30

APPENDIX A

APPENDIX B

ANSWERS TO CHAPTER 5 STOP AND CONSIDER QUESTIONS

APPENDIX C

ANSWERS TO QUESTIONS IN CHAPTER 21 (SOUND FILES)

APPENDIX D

LORANE ABSTRACT

ABOUT THE AUTHORS

DEDICATION

I dedicate this work to my saintly mother, Naomi. Her lifelong example of intelligent, fearless courage has strengthened me, my sisters, Karen and Katherine, my brother, James, and my sons, Joseph and James. I love you, Mom, and dedicate my first published book to you.

All I am and ever hope to be I owe to my sainted mother.

-Abraham Lincoln Joseph Dean Klatt PhD

This book is dedicated to my father, Brian Forbes, without whose help I could not have negotiated life thus far on such favorable terms.

Michael M. Forbes

ACKNOWLEDGEMENTS

It has been suggested to me many times over many years that I write a book like this one. I thank all those who encouraged me toward this endeavor. The cases described in this book are real; though the names and certain details have been changed to protect the authors. There is nothing fictitious about the help of some of those people whom I have met along the way, and, although there isn’t time to sufficiently thank them all or list all their contributions, I wish to acknowledge some of them now.

In the summer of 2000 I enrolled in an Alternative Dispute Resolution graduate course at the University of California at San Diego. Professor Gregg F. Relyea, Esq. taught theories and practical application of those theories which explained why I was doing what I was doing as I negotiated a wide range of contracts as a real estate broker. The blend of practical negotiation experience and negotiation theory made me a more effective negotiator. It is my hope that the pages that follow will be enlightening for the readers of this book and open their thought processes to some different approaches to negotiation, some different negotiation tools, and some fundamentals of negotiation theory and practice.

In 2002 I was invited to enroll in a Private Mediation Training course, again offered by Professor Gregg Relyea. The course was an intensive, weeklong experience which included role playing by the students to gain experience as mediators.

In 2003 I enrolled in a Superior Court Mediation Training course taught by attorney and law professor Susan Garrett.

In 2004 I enrolled in the Straus Institute at the Pepperdine University School of Law Strategic Negotiation Skills course at the Malibu, California campus taught by Professors Bryan Johnston and Donna Silverberg.

In 2005 I was off to Europe to study in London and Geneva as a part of a select group of 20 people from around the world. The Pepperdine University European Mediation Study Tour was an intensive course taught by professors Roger Alford and Peter Robinson.

In 2007 I completed the Harvard Law School Master Mediator course taught by Professors Tirza Firestone and Jeff Kichaven.

In 2008 I completed the Victim Offender Restorative Justice Program mediator training course at National University taught by Professors Pearl Hartz and Jack Hamlin.

We wish to give a special thank you to Professor Gregg F. Relyea, Esq. Not only has he been an exceptional teacher and mentor over the last nine years, but he has also generously shared his valuable time to review this book pre-publication. His comments and suggestions have improved this book significantly. All residual errors are mine and mine alone.

Thanks are also due to Niranjan Bhatt, the father of mediation in India, for his permission to use the account of his post-litigation story.

I want to thank my son, Joseph Franklin Klatt, for his permission to include some of the stories in which he is a main character. Joseph is an attorney practicing law with the firm of Downey Brand in Sacramento, California.

I want to thank Ronald Kasper for allowing us to use the structure of the Rocking Red Ranch negotiation. Although the persons and places in the Rocking Red Ranch chapter are fictional, the lengthy negotiation structure is generally descriptive.

The book cover photo was the product of Big City Visuals professional photography. Thank you, Tim Undheim, for your great work to bring photographic life to the book cover and its subtle negotiation messages.

Special thanks and recognition go to James M. Becker, who died on October 20, 1991. I learned much from him during the six years I was affiliated with his company.

Lastly, I want to express my sincere appreciation and thanks to Joseph Renzi. Most people knew him as Joe. I called him by his last name, Renzi. Renzi was the computer genius who salvaged the text of this book from what we called, My dinosaur computer. I purchased that computer in 1992 and it ran flawlessly every day until this book was nearing completion of its first draft in mid-2009. The dinosaur began to make noises that told me that it was in its death throws. Talking computers require special programming. Renzi was the most knowledgeable individual I have ever met about computers in general and talking computers specifically. While other computer programmers told us that the data could not be salvaged, Renzi insisted that there was a way and he was going to find it. Renzi did the impossible and recovered all of the dinosaur computer’s data files… every one. Sadly, I must go on to write that my friend, Joe Renzi, passed away on Monday, September 28, 2009 at 10:30 in the morning. Joe Renzi was blind from birth.

Renzi, rest in peace, and thank you, my friend. Thank you.

Joseph Dean Klatt, PhD

FOREWORD

This book contains a series of lessons that impart wisdom and knowledge about the art and science of the most valuable skill there is: how to strike a deal. The stories you will read within fill a vacuum that exists in the literature on negotiation to date, most of which is theoretical, speculative, or abstract. Instead, we offer a collection of stories based on real experience. What follows are stories from the life of Dr. Klatt, the Blind Master of Negotiation. The difference between a guru and a master? A guru knows the theoretical. The master is a skilled practitioner.

Dr. Klatt was a strapping San Diego lifeguard, excellent athlete, competition surfer, ambidextrous tennis player, and California drag racing champion before an accident robbed him of his sight. That was an event that could have broken the spirit of lesser men. Instead, Dr. Klatt turned his physical short-coming into a vector for professional excellence.

He has no sight, but he mastered the art of listening, trained himself in the skills of negotiation and mediation, learned to hear what speakers leave unspoken, and made language his friend. He has blended the manners he was taught as a child with Christian morals and professional ethics to develop a negotiation style that is all his own. Dr. Klatt is a Harvard Law School trained Master Mediator. He has studied mediation and negotiation in London, Geneva, Lyons, and multiple academic settings in California. He is a frequent guest lecturer and guest professor at San Diego area law schools and universities. He serves as a mediation competition judge, negotiation competition judge, and international pre-moot competition judge. Dr. Klatt has served on the board of directors for the Association for Dispute Resolution (San Diego) for five years, first as a board member, then President-Elect, twice as President, and as Immediate Past President.

In the real estate profession, Dr. Klatt has served on the La Jolla Real Estate Brokers’ Association, Inc. board of directors for 19 years, four of which he served as President and Chairman of the Board. In 1991, Dr. Klatt received the R. K. Smith Broker of the Year Award, the highest possible award conferred upon a La Jolla real estate broker. The University of Shelbourne awarded him a doctorate in Real Estate Law in 2000.

The techniques Dr. Klatt has developed are the tools with which he puts food on his table. Of necessity, his mind has developed the ability to recall down to the penny, figures from transactions that happened decades ago. His brain is a great switching yard for dates, addresses, histories, and informational tidbits about the market in which he does business. He multiplies large sums in his head faster than you can input them into a calculator. Dr. Klatt has sold a portfolio of real property that has a present collective value of hundreds of millions of dollars. At one time he had 22 concurrent escrows pending; all of which he kept track of in his head in a day and age before computers. (Dr. Klatt cannot use Braille. Changing out spark plugs during racing competitions burnt the tips of his fingers to the point that he cannot feel well enough to decipher Braille points.) For every transaction, through the whole length and breadth of his real estate career, Dr. Klatt did it all without ever laying sight upon one inch of property that he has sold. How did he do it? In part, by being a good negotiator. In part, by being a good listener. In part, by being a decent, honest human being.

This book is his method. You needn’t have Dr. Klatt’s mental capacity in order to learn his techniques, nor his experience in order to learn his ways. You need only the willingness to incorporate the ideas he tries to impart from a lifetime in the trenches of one of the world’s most competitive real estate markets. The purpose of this book is to teach the reader in a manner that is easily readable, understandable, and entertaining. It has been written for real estate agents, law students, attorneys, mediators, and professional negotiators. In a sense, this means that this book has been written for us all-for we are all professional negotiators. There is no skill so linked to your personal success as the ability to cajole, coerce, and convince your fellow human beings into matters of agreement.

The organization and presentation of this book incorporates the paradigm that negotiation is best learned and remembered through experiences, actual and vicarious. Thus, this book communicates its value in the form of stories. The stories are true when facility and space have permitted, hypothetical when not. Each chapter contains one specific approach or technique, though the lessons are intertwined and the content is cross-referenced to suit the overall purpose of the book.

CHAPTER I

What follows below is a blend of mediation and real world negotiation. The kernel of it was originally published on Mediate.com under the title Slice and Dice-A Real Estate Broker Shares His Technique. That piece of writing was noticed and included in publications and courses across the country by professional mediation groups and by real estate schools. Its second iteration, A Sharper Slice and Dice-A Broker Shares His Technique, was expanded and published on KlattRealty.com. This is the third iteration of the Slice and Dice technique and we begin the book with it in order to launch the reader directly into something novel and of great utility. As the reader will soon see, the concepts contained herein are used again and again. We invite you to read on with a willingness to incorporate new information and the desire to stretch your thinking.

RAZOR SLICE & DICE-A NEGOTIATOR SHARES HIS TECHNIQUE

Reflecting upon the disputes I have mediated, certain commonalities are present through the array of cases. In all of them, whether private commercial mediations or court mediations, I utilized the Commercial Mediation Model with its Four Functional stages:

•   The Introduction

•   The Joint Session

•   The Caucuses (as many as it took)

•   The Agreement

In each case the power of the Mediation Model operated as a dynamic force. I searched for other commonalities and spotted something unique to my own particular style. I was using a real estate negotiation technique I had developed many years ago to identify areas of agreement, non-disagreement, non-agreement, and disagreement between the parties.

These concepts of agreement, non-disagreement, non-agreement and disagreement constitute four distinct categories. Whereas most books of this nature limit responses to a point of negotiation to agreement, disagreement, or rejection, my method is a more finely articulated way of disseminating points of negotiation and responding to them. I humbly offer my Slice and Dice to the negotiation and the mediation communities. It’s a technique that cuts across a broad range of negotiations and has particular application to mediation. I find it becomes a powerful tool when used skillfully.

SLICE & DICE TERMS DEFINED

To slice and dice is to break a body of information down into smaller parts and to examine it from different viewpoints so that it is more easily understood. In data analysis, the term means that a body of data has been systematically reduced into smaller parts or views that yield more information. In everyday language, slice and dice means the presentation of information in a variety of different and useful ways.

•   Agreement: the conscious acceptance of a specific provision contained in an offer.

•   Non-Disagreement: the conscious withholding of disapproval of a specific provision contained in an offer.

•   Non-Agreement: the conscious withholding of approval of a specific provision contained in an offer.

•   Disagreement: the conscious rejection of a specific provision contained in an offer.

THE SLICE & DICE PROCESS

Generally speaking, negotiations for the sale and purchase of real estate follow this sequence:

1.   A property is listed for sale with a broker specifying the price and terms.

2.   An offer is submitted on behalf of a potential buyer.

3.   The offer is presented to the seller.

4.   The offer is accepted, rejected, counter-offered, or the seller may not respond at all, effectively pocket vetoing the offer. (There can be and often are multiple counter offers made between the seller and buyer.)

5.   An agreement is reached which is acceptable to both seller and buyer, or no agreement is reached and negotiations cease.

The slicing and dicing begins when a written offer is received and a good faith presentation is made to the seller. In California, the most frequently used standard offer to purchase form has 32 sections and most sections contain subsections; the explanation of which I will spare the reader, as an understanding of the form is not necessary for these purposes. Suffice it that, a good faith presentation occurs when an offer is presented to a seller by an agent who intends to honestly and accurately portray the merits of the bid.

When I present an offer, I systematically discuss each section with the seller. As I discuss the offer item by item, I listen very carefully to the seller’s responses. Take note that I use the word listen. The socialization process teaches people to disguise their facial expressions in negotiations. It is very difficult to disguise one’s voice. I carefully listen to tone of voice, rate of speech, and nervous tendencies such as clearing the throat, word choice, tempo, timbre and timing. I take careful note of silences. There are silences due to hesitation, silences due to reflection, silences due to an effort to control anger, elation, frustration, joy, nervousness, and rage. Filled pauses, instances in which a person will fill what would otherwise be silence with slang sounds, knee-jerk phrases, or words such as uh, um, you know, or well, er, indicate that a person lacks certainty and the strength of conviction in their negotiating position. Non-verbal sounds such as shuffling feet often indicate nervousness. These auditory observations allow me to mentally evaluate the level of response and thereby assist me to move the negotiations forward more precisely than I would be otherwise.

Page one of the standard offer to purchase form deals with many things, foremost of which are:

•   Selling Price

•   The Buyer’s Deposit

•   The Amount of Financing required

•   The Cash Balance of Purchase Price to be placed into escrow prior to close

•   Escrow Holder

•   Escrow Closing Date

•   Disclosures required by law

•   Time frames for delivery to buyer, approval, or disapproval and return to seller

•   Title Insurer

•   Transfer of Possession

•   Pest Control Operator

•   Allocation of costs (These items include escrow, title, pest control, inspection, and minimum government retrofit charges.)

The process of categorizing each item in the offer is the slice. For each item I ask, Is that acceptable? If the seller agrees, I confirm that fact and mentally note page one as agreement or, if the seller is not in agreement with the offer, I mentally note the seller’s response as non-disagreement, non-agreement, or disagreement. My goal is to identify for the seller the key areas of disagreement or non-agreement so that we can focus on those specific areas. Careful attention to the level of response is very helpful in moving the negotiation process forward.

Price is nearly always the foremost concern of a seller. Imagine a seller says, The price is too low! What do they think; we’re crazy? I would interpret that as a point of disagreement. I’d calmly say, Let’s move on and come back to that one. I’d treat a response where the seller did not indicate his or her opinion as either non-disagreement or non-agreement. If the price being offered were acceptable to the seller, I would actively confirm that fact with the seller until I attained a response such as, The purchase price is acceptable. Let’s go through the rest of the offer.

A potential buyer will often want a purchase completed by a certain date; while a seller may indicate other dates are preferable. A buyer may propose a 50/50 normal escrow by any reliable buyer’s choice to be closed in 60 days. (Use of shorthand codes is common in the real estate profession. A few common terms of art used in Southern California include 50/50 normal escrow, any reliable, any reliable seller’s choice, and any reliable buyer’s choice.) Such terms may not be to the seller’s liking. I would note the discrepancy when it happens and then say, We will counter that point.

The entire offer is presented in this systematic way. I tick through each item and categorize the responses in my mind. (The reader, of course, will most likely want to take notes.) For instance, with transfer of possession, I will tell the seller which date would be preferred by a potential buyer and then wait for a response. If one is forthcoming, I place it into one of the four categories. I generally know that if there is no response there is either non-disagreement or non-agreement.

We all know what agreement sounds like. Disagreement is not difficult to detect, either. You may be wondering at this point, however, how to know the difference between non-disagreement and non-agreement. Non-disagreement can be characterized as a Whatever Attitude. A buyer may want a 60-day escrow; which could produce a response by the seller like, That’s fine. That’s non-disagreement. Other non-disagreement sounds include words like sure or uh-huh. Conversely, non-agreement may elicit phrases such as Well, we’ll see about that, or, I don’t think so. You may hear um, or uh, or unh-uh, when dealing with nonagreement.

Page two of the standard offer to purchase contains more entries made by the offeror (party making the offer) or his agent. If the second page is completed as I would complete it, I make a mental note to simplify the presentation. If there are any variations, I point them out as I review the second page with the seller. This is usually a very brief process.

After the good faith presentation is made, I review the points of agreement, non-disagreement, non-agreement, and disagreement with the seller. It is important for the agent, negotiator, or mediator to be cognizant of when a clause falls into the categories of non-disagreement and non-agreement. Why? It’s important because in negotiations, as in the larger business world, decisions are made at the margins. The non-disagreement and nonagreement categories drive much of the strategy for how to respond to an offer in the dice portion of my slice and dice technique.

The analysis following the good faith presentation of an offer is the dice. Analysis is a word that is often used when someone is interpreting a body of information. For instance, The Wall Street Journal or The New York Times will offer News Analysis when an editorialist is giving an opinion. My use of the word analysis in this context, however, means to strategize as well as to interpret.

In the dice:

•   Areas of agreement are confirmed with the seller, and areas of Other Than Agreement are discussed further to establish what the seller’s negotiating position is or should be.

•   Items classified as areas of non-disagreement are further refined until the proper strategic response is formulated.

•   It may be that the seller has no firm conception of how to respond to items of non-agreement, in which case I will help examine them until a position is established.

•   Items of disagreement are left for later discussion.

Items in Other Than Agreement drive the holistic strategy that determines how to respond to an offer. They are the margins for negotiation. It is upon these pivot points that the successful agreement is reached. Each item in the Other Than Agreement category is a chip that can be hoarded or given away.

For example, a potential buyer may suggest a certain pest control operator and ask that the seller pay the cost of the service. The seller may at first find this objectionable in a way categorized as Non-Agreement. Experienced real estate brokers like myself are able to procure such inspections for free. This is an example of a chip that can be given away at essentially no cost, but such things should never be given away freely. Never give away something for nothing when negotiating.

Another example: A potential buyer may wish to close escrow in 60 days in order to have enough time to arrange for the financing. This may impress upon the seller an attitude of non-disagreement. Sellers who are not pressed for time usually don’t care too terribly much about 30, 45, or 60 days for escrow; so long as the escrow closes. Again, here is a chip that can be traded.

A seller may still have issues in the Other Than Agreement category even after discussing each point a second time. Most times there are fewer items in the Non-Disagreement category. Why fewer items in this category? This is because many times the seller will be indifferent about the selection of a particular company to perform services like escrow, title, pest control, or building inspection. Still, each item represents a chip that can be held longer or given away in the interests of the bigger picture.

Making a deal come together requires an overall sense of what is worth making particular and what can be sloughed off in the interest of reaching an agreement. I devote sufficient time and care to each issue in the slice until, like a dealer at a poker table, I know where to stack the chips. More than this, though, I don’t simply rake chips to one side of a negotiation or to the other. I am helping my client perceive value and navigate a path to reach the desired outcome. I am not just the dealer spreading chips. I am the dealmaker who helps my client or customer know when to toss a chip in the pot and when to hold one in reserve. Overall strategy prompts these decisions and, in this way, a fifth category is generated.

The fifth category is Items to be Counter Offered. If the process results in very little to counter, I point that fact out to the seller. For example, What we are really looking at here is the home warranty and whether the escrow period will be 45 days, which is your preference, or 60 days which is the buyer’s preference. As close as you are to an agreement here, is it worth fussing over a $400 home warranty and whether the escrow is 45 or 60 days? I wait for the reply. Stated objectively, the seller’s choices are simplified. As their agent, I must allow them to make the final decision. If they still wish to make a counter offer, I write it with them.

Thus endeth the lesson.

CHAPTER 2

HOW NOT TO NEGOTIATE

The following story is about how not to conduct one’s affairs when trying to put a deal together; though all the actions taken by both sides may seem perfectly legitimate. We tell it now to serve as an example of what not to do in a negotiation. The story that follows can act as a yardstick by which to measure the amount you have learned by the end of this book. You may want to come back and read this story again (and we hope you do) to see if you can spot opportunities lost, mistakes made, and time squandered. Nothing you are about to read involves anything illegal. There is not even any outright deception. Everyone in this story is just trying to make a buck, get along as best they can, and live to see another day. There are no miscreants or monsters involved. There are no thieves or rogues. You will find, instead, an average buyer and a seller represented by run-of-the-mill agents who can’t get out of their own ways.

NEGOTIATION TRAIN WRECK

Winter never truly visits San Diego. The dog days of August give way to Indian summer and then a six-month temperate season relieved at intervals by hot, dry Santa Ana winds. The Santa Ana begin as a rumor: a single gust that stirs a high tree branch late at night and then relinquishes it to stillness for an hour or more. When they exert themselves in earnest, the winds ebb and gust as low pressure at the coast invites hot air down from the high Sonora. Insomniacs and night owls are lulled to sleep by wind chimes in the dark. Residents wake on Santa Ana mornings to unlimited visibility and the debris of a sub-tropical paradise littering their path to work: palm fronds on sidewalks, overturned potted plants, and lawn clippings blown to the seaward side of streets. In this way the Southern Californian revisits summer a half dozen times between fall and the onset of the marine layer that heralds again the approach of sustained heat.

It is better to say that we have no winter in Southern California. Residents in other parts of the country say that because of this we are soft. It may be so. Historians and philosophers often posit that colder temperatures make tougher men; and the Mediterranean aspect of the Golden State’s climes ask little of us. We may be soft when it comes to the weather, but real estate is a game played for keeps where we come from; and it is a game that nearly everyone plays. Cabbies in New York are conversant with stock prices. The counter person at a liquor store in Silicon Valley can tell you where to find venture capital. In San Diego, though, everybody has a real estate license. It’s toothy smiles, sharp elbows, and long knives in this arena. Real estate professionals need wisdom, patience, and preparation in negotiations to put food on the table.

MARKET CONDITIONS IN LATE 2008

Late 2008 through early 2009 was San Diego’s mild of discontent. The Dow Jones Industrial Average fell by nearly half from Labor Day of 2008 to March 4th of 2009. As if that weren’t bad enough, the real estate market, San Diego’s lifeblood for so many years and source of so much California dreaming, had cratered even worse. Famous houses of finance had recently collapsed. Several prominent national banks had, in startlingly rapid succession, closed or been forced by federal dictate to merge. Consumer confidence was bad and getting worse. Foreclosures were up. The local notice-of-default list that tabulated delinquent mortgagees routinely stretched to in excess of 50 pages per day. Banks and mortgage lenders found their business processes jammed with paperwork generated from a glut of short-sales. (A short-sale is one in which the selling price is insufficient to fully pay off the mortgage note owed by the seller. The sale thus requires approval from the lender to accept partial payment of the loan. A transaction is able to close escrow only after this satisfaction of the seller’s obligation.) Both the Bush and the Obama Administrations were trying to quell panic with massive infusions of capital and spending, but this spooked investors, bond prices, and mortgage rates with the prospect of inflation. The State of California was running a deficit and its legislators were intent on taxing the populace to get out of the hole; a stratagem that succeeded only in making the hole deeper. The City of San Diego was faced with tremendous budget problems ranging from deferred maintenance to unfunded pension liabilities to employee contracts it couldn’t afford. While grayer heads in America’s Finest City pondered Chapter 11 bankruptcy for the local government, the city’s politicians continued business as usual: spreading money from slush funds, funding boondoggles, and kicking every problem they could down the road.

ENTER THE SCHOOLTEACHER

Harmony LeMarm was a schoolteacher intent upon avoiding an old age of clipping coupons and depending upon government pensions. Harmony had made herself aware of the riches to be had by savvy investment in real estate. She attended self-help seminars, acquired a financial planner, studiously saved for a downpayment, nursed her credit, and bided her time.

In late October of 2008 Harmony LeMarm contacted a real estate agent named Duly Newby. Newby spoke at length with LeMarm. He determined that LeMarm’s goals were appreciation over a five to seven year time-frame using maximum leverage, and an affordable payment for a home in a neighborhood in which she could abide. Newby set for LeMarm a first task of getting pre-approved for a mortgage. Harmony complied and returned in short order with a letter from a large national bank in hand. The letter approved LeMarm for a purchase up to the amount of $385,000.

Newby then began to counsel LeMarm on the virtues of buying residential income property as opposed to a single-family home. Income property is real estate that is bought to fix up and sell for a profit or in order to rent and generate income while growing equity. Income properties should put money in one’s pocket each month. Rents help defray the burden of monthly mortgage payments as property appreciates. Single-family homes drain finances as mortgagees struggle to maintain the residence, pay utilities, taxes, insurance, and meet financing commitments. Newby helped illustrate how the four benefits of income property (cash flow, reduction of mortgage balance, tax deductions, and appreciation) would accrue to LeMarm if she made a wise purchase. LeMarm would be able to acquire a loan at owner-occupied rates by living in the property. Incredible as it seemed to Harmony, a career renter, Duly Newby plainly showed that she could purchase a property and actually reduce her monthly housing obligation by being a landlord.

Newly informed and eager to get into the real estate game, Harmony set about doing her own research (such is often the way today.) In late October, Harmony brought to the attention of Newby a large house with cottages in the rear: 666 Bridge Street. The lot on which the house and units at Bridge St. sat was nestled in the middle of a block in an as-yet unfashionable part of town, but the neighborhood was one which stood a good chance of being gentrified when the next surge of real estate enthusiasm swept over the San Diego landscape.

The property was billed as a 4-unit mix: a 2-bedroom, 1-bathroom house, two 1-bedroom, 1-bathroom cottages in the rear with separate access off an alley, and a 1-bedroom, 1-bathroom apartment created by the partition of the original house. Lastly, a space under one of the cottages was billed as an efficiency. An efficiency is usually defined as a small apartment consisting typically of a combined living room and bedroom area, a bathroom, and a kitchenette. The space at Bridge St., however, consisted solely of a room with adjoining bathroom, but with no closet or kitchenette. The efficiency did not appear on the county tax rolls or assessor’s office information.

A meager yard filled the space from the sidewalk to the front of the house, but this was more than offset by the large, unkempt yard found between the cottages and main structure. The apartment and cottages were accessible by way of a side yard. In the rear, two garages had been built into the slope of the hill that descended under the cottages to the alley. It was a mere step from the alley to the efficiency’s position under one of the cottages.

All told, the 7,000 square foot lot contained 2,282 square feet of housing. Projected rents were claimed to be $1,100 per month for the 2-bedroom main house, $700 per month for the 1-bedroom apartment, $650 per month for each of the cottages, and $400 for the efficiency. Newby knew that the garages could each generate $100 a month as storage spaces.

Schedule of 666 Bridge St. Rents

FIRST SIGNS OF DANGER

Newby and LeMarm decided to put aside the matter of whether the efficiency would spoil financing plans by being classified as a fifth unit. A fifth unit would have pushed the Bridge St. property into the domain of commercial income property, which would disqualify LeMarm for an owner-occupied residential mortgage. (Commercial loans are reserved for properties with five or more income producing units. Mortgagees are limited to corporations and experienced property owners. Harmony obviously did not fit either type and thus would be out all the time and effort spent pursuing the Bridge St. property in the event that an appraiser or lender decided that the efficiency actually constituted a fifth unit.) A metallic letter nailed to the exterior door frame of the efficiency seemed to serve as a house number, but there was no mail slot or mailbox to be found. The space had no closet or kitchenette. The tax rolls for 666 Bridge St. listed the property as 4-units, but the efficiency was rented to a fifth party inhabiting the premises. Would the efficiency