The 500 West Hotel located in the old Armed Services YMCA building in downtown San Diego, may only have several more years of life. In March 2013, the hotel operator, a company called 500 West Broadway, LP, reaches its first option to buy the building and the land it occupies. Not surprisingly, investors are contemplating a “higher and better use” for the property. But a hurdle lies in the way. Although the firm is currently protected by bankruptcy, it faces a challenge from the City of San Diego’s Redevelopment Agency. The agency extended the partnership a $1.63 million rehabilitation loan in 2001 and, as a result, holds a leasehold deed of trust and claims as security an interest in the property’s future. Now 500 West Broadway and its general partner, Alliant Holdings of West Broadway, LLC, are asking the bankruptcy court to void the claim.

Not long ago, I went down to look at the six-story facility, which is advertised as a “hostel hotel” and is located on Broadway between Columbia and India Streets. Rates for its 259 rooms range from $55, for a single bed and no TV, to $89 for two single beds plus TV.

Inside the lobby, immediately to the right, there is a room with rows of exercycles maintained by the San Diego Downtown YMCA. A huge fireplace, looking out of place, is situated halfway down the room’s inside wall. That same room and same fireplace can be seen in a picture on a wall in the building’s basement. But instead of exercycles, Navy sailors in now-outdated white hats and blue dungarees sit by twos at small, round tables that fill the room. The young men are reading newspapers or playing checkers. The scene looks to be straight out of 1945, the last year of World War II, when the streets of San Diego swarmed with sailors.

Ground was broken for the Armed Services YMCA in 1921, and it opened in 1924. It had a basketball/volleyball court and the city’s first indoor swimming pool, now empty in the building’s depths. A neighborhood friend told me his father took him to swim in the pool during the 1930s. Today, a flight of steps up from the empty pool, the Downtown YMCA runs a state-of-the-art fitness center as well as the exercycle room on the first floor. From the hotel lobby one can enter the Grand Central Café, which also has an outside entrance at the corner of Broadway and Columbia Street. Both the YMCA and the café rent their spaces from the hotel.

According to Navy veterans, the hotel’s interior had become run-down by the 1950s. But after 500 West Broadway used the Redevelopment Agency’s loan, rooms and hall bathrooms took on a clean, modern appearance throughout. New kitchen and laundry facilities now grace the second floor, and there are snack rooms on several other floors. But all through the building one sees blue and gold ceramic tile lining the walls and floors, a pleasant reminder of the building’s original interior. The building is listed in the National Register of Historic Places.

Completion of the remodeling in 2004 brought with it debilitating cost overruns and a bank default, which initial revenues did not alleviate. 500 West Broadway has been paying rent of approximately $60,000 per month to the property’s owner, the Armed Services YMCA of the USA. Alliant Holdings of West Broadway, as a general partner, initially assisted the renter with infusions of cash that now total nearly $7 million. In order to avoid defaulting on its lease, the hotel must “remain operational.”

On October 10, 2006, the U.S. Bankruptcy Court approved a Chapter 11 reorganization plan for 500 West Broadway. But the company’s financial situation got worse as the low-rent hotel market began to collapse in 2007. So despite reorganization, 500 West Broadway contends it won’t be able to pay off creditors without eventually exercising the 2013 option to buy and redevelop the property. And that will be impossible, according to the company’s attorneys, if the court does not grant 500 West Broadway relief from Redevelopment Agency “encumbrances.”

A complaint filed in bankruptcy court on March 16, 2010, lays out the challenge and its circumstances. In 2001, to receive the Redevelopment Agency loan, 500 West Broadway signed a promissory note that included an “Agreement Affecting Real Property.” Portions of the agreement involve a sensitive issue the City had to face in the wake of its downtown redevelopment: the provision of affordable housing after so many low-rent hotels were demolished. According to the court document, the agreement requires the hotel, as long as it operates, to “designate 20%, or 52 of [its] 260 hotel rooms for use by persons of low income.” More precise breakdowns of the low-income demographic are mentioned, including the following: “For 25 of the Restricted Units…the [hotel] must give priority to persons that are habitually homeless or have a history of mental illness or substance abuse.”

During my visit to the hotel, I spoke with its manager, Tom Cartwright. The presence of mentally ill folk and substance abusers in the facility, according to Cartwright, presents him with the “tricky” task of encouraging a smooth interaction with other guests, such as language-school students, international travelers, and convention attendees. The hotel keeps people who can cause problems mostly on the second floor, where the kitchen facilities are located. “I had one guy who would howl in the middle of the night,” said Cartwright. “I talked to him, and he tried to cooperate. He told me he thought he could control himself and did pretty well after that.”

Howling is not the problem 500 West Broadway’s investors worry about. The court filing complains that the requirement to rent to low-income people means the hotel must charge them “significantly less than the market rates” it can get for other rooms. The hotel operator also worries about the extent to which, if any, the agreement with the Redevelopment Agency might give it a future claim on the hotel property. So the company’s attorneys argue vigorously that such a claim could never be valid. First, they maintain that California law requires that for the agency to have an interest in the hotel property, there would have to be a “grantor-grantee relationship” between the City and 500 West Broadway in connection with the property. Second, 500 West Broadway is a renter rather than owner and therefore has “no interest” in the property that the Redevelopment Agency could claim if the company defaults on the rehabilitation loan.

The argument that the court should void the Redevelopment Agency’s encumbrances now appeals to the Downtown Community Plan. The plan, goes the reasoning, calls for a much higher density of offices and employees than the YMCA hotel can provide. The hotel’s “development for another use would promote the…Community Plan.” If it weren’t for the Redevelopment Agency’s encumbrances on the hotel, it “could be redeveloped according to the Community Plan, which anticipates a higher, better, and more appropriate use” for the property.

I called Donald Cohen, executive director of the Center on Policy Initiatives, an organization that promotes local affordable housing. Cohen sat on the board of the Downtown Community Plan immediately prior to its update by the city council in 2006. There were some voices then, he told me, such as wealthy new condo owners, who viewed the downtown core as “a nice place for some, not all. But the area is a redevelopment zone and, as such, is required by statute to include a percentage of affordable housing.” A study that the board never released, he said, looked ahead 20 years to how much employment there would be downtown and what kind of housing the wages for those jobs could pay for. The study showed there would be plenty of need for affordable housing.

Redevelopment law gives tremendous power to the public sector, Cohen continued, such as eliminating blight, eminent domain, and tax increments. With that power comes the trade-off of affordable housing. “And there is no wiggle room,” he said. “Redevelopment is intended to lift up people, not just buildings.”

So return for a moment to the rooms now set aside at the 500 West Hotel for cheap rent. And let’s imagine that the court nullifies the agreement with the Redevelopment Agency to offer the rooms to low-income persons. Nevertheless, 500 Broadway says it has been told by the agency that offering the restricted rooms would still be required by the City’s Single Room Occupancy Ordinance. And any “successor owner” of the business would be likewise obliged.

But 500 West Broadway denies that the single room occupancy law has ever applied to its hotel business. As evidence, the company cites a section of California law called the Ellis Act, which “generally prohibits public entities from compelling property owners such as [500 West Broadway] to offer low income rental housing by regulation.” Exceptions to the Ellis Act are residential hotels, legally defined as those that rent rooms for longer than one month. But 500 West Broadway says it has always operated a transient occupancy hotel rather than a residential hotel, despite occasionally offering a few rooms for long-term living. It is telling, according to the complaint, that the City has “substantially benefited by annually imposing and collecting Transient Occupancy Tax from the Hotel since at least 2004, providing a significant source of revenue for the City’s general fund.”

So concludes the argument. The court should take from 500 West Broadway’s shoulders not the debt it still owes the Redevelopment Agency but the accompanying encumbrances. These, according to the complaint, make it difficult for the company to pay off all its creditors and eventually enrich its investors.

The court granted the San Diego city attorney until June 28 to hire outside counsel to prepare a rebuttal. On that date, I asked for a copy of the brief. A spokeswoman for the city attorney’s office replied by email, “We filed a motion to have the bankruptcy court abstain from entertaining the request to adjudicate matters of local zoning and housing law.”