Condo board tries new tactic to collect delinquent fees

As published in the Miami Herald yesterday, Oct. 22nd the article Condo board tries new tactic to collect delinquent fees by Monica Hatcher points out one of the latest "bleeding edge" tactics that condominium associations are using to try and collect enough dues to survive this crisis.   

The focus of Ms. Hatcher's article, the Jade Brickell Condo has been a poster child of the boom for many years.  These strong-arm tactics are turning Condo Associations into realty investors in a last ditch effort to stave off bankruptcy, receivership of the association or wholesale degradation of property improvements.   

Ironically, the new judicial decrees are allowing condominiums to do to delinquent owners what banks are being punished for doing to delinquent owners - to enforce court remedies on real property while avoiding due process in court.  As if the legal issues weren't difficult enough, there are State Sales Tax implications to weigh when Condo Associations become landlords.   

This leads me to imagine that perhaps condominiums should reserve a certain percentage of their units solely for rental purposes to benefit the association as a regular practice.  Ultimately, some associations will be declared unfit and terminated as a result of the success or failure of today's Hail Mary legal tactics.

Condominium associations are a not for profit entity created to maintain, operate and own common areas in shared living communities like apartment and town house developments.   They are not truly intended to be landlords, nor are they investors, nor are they designed to evaluate the market transactions that they facilitate.   If associations are unable to pay the bills, they may wind up taken over by their creditors in receivership - or forced to file bankruptcy to forestall the complete loss of control over the property by its owners.   Perhaps its time to re-evaluate this not-for-profit as standard practice in the hopes of making condominium associations more intelligent creatures.  

The real irony is that courts are allowing condominiums to do what banks may not - gain benefit from legal action through unorthodox tactics.  The goal of these blanket receiverships are to give income to the HOA while saving the costs associated with filing individual foreclosures on all units.  Meanwhile, banks are filing foreclosure, and in many instances, instructing their legal council to refrain from pursuing repossession actions further in hopes of avoiding monthly assessment payments.  Banks are avoiding full repossession, where they have to pay for contents insurance (known as the HO-6 contents policy), property management fees, bookkeeping fees and - in many cases - costs to rehabilitate foreclosed property.   Banks are attempting to raise the cost basis of their bad loans by racking up large default interest bills which will never be paid, so when they eventually satisfy their mortgages with short sales, they can reap  

Some condominium law firms have argued - successfully at times - that these delay tactics are not equitable in the eyes of the law and obtained court orders for banks to begin paying pre-foreclosure monthly assessments on property which they do not own in fact.    In this circumstance, the bank gets stuck with the continuing assessments while the association then attempts to place the rental income into receivership to satisfy as close to 100% of dues outstanding as possible.  

Condominium associations may not be prepared for the tax implications of becoming a landlord. "Remember that leases with less than 6 months duration are subject to Florida sales tax, which associations may not be presently collecting," said Steven Price, a CPA with the local firm Goldstein, Schecter & Koch.  Associations should carefully review their leasing policies to ensure that they are registered with the Florida Department of Revenue if they are conducting short term leasing or face a tax levy in the future. 

Perhaps condo associations should be directed to spawn their own subsidiary, for-profit investment companies to buy up and lease out a reasonable percentage of their units as a matter of normal business.  An association owned, for-profit venture could provide an income for maintaining the property through good and bad times, Strict limits on leverage would have to be maintained for these controlled entities. However, in good times, this type of arrangement could be suitable to lower the monthly maintenance assessments and build replacement reserves for condo buildings. This practice could provide a safer, lower cost source of leverage in lieu of Special Assessments - by allowing banks to mortgage a small percentage of the property directly, rather than encumbering the entire association, which could then be reserved for emergency settings only.

The radical legal tactics and creative decisions issued by local judges can act as a band-aid for many struggling associations in Florida.  However, it only takes 1 successful challenge by a unit owner to unwind the judge's order.  The stakes in the event of a successful challenge could be high, a struggling association having to repay rents collected as well as the possibility that they may have to pay attorney's fees to the challenger.  If an association is challenged before something like this worst case scenario, it will be wiped out afterwards.  Unless there's an obvious benefit to these radical tactics, or the property's distress is largely past, we suggest evaluating Condominium Termination as an alternative to dubious practices.

Broken Condominiums

Reprinted from Condo Vultures® Opinion Column, April 20, 2009

I just found out that the high rise tower I call home has 40 foreclosures out of 195 units, and 60 units owned by investors who are likely just pushing their foreclosures out over the horizon.

With the distress blanketing such a large portion of the property, even the building's management is wondering if the condominium association will survive the storm.

Fortunately, this is still a very well run project where tenants are screened, security and utilities are paid, and somehow management has kept the lights on without interruption.

So how can you restore order when an association's membership abandons the condominium and it's residents? Is there a way to fix what shared ownership and shared antipathy has brought in the wake of the worst hard asset devaluation in generations?

My recommendation for value investors who want maximum profits for minimum input is to engage in the practice of Condominium Termination.

In several high rise towers, residents have reported the interruption of cable and internet services, rampant squatting, thefts and other misadventures related to non-payment of association dues in the property and lack of proper security.

Residents of the Mirrasou condominium in Northwest Miami-Dade lost access to the most basic of utilities, drinking water, as reported by the Miami Herald on April 16th, 2009. According to the report, the association has a delinquent bill of over $124,000. In the end, it took the direct intervention of a city commissioner to get the water flowing to this 304-unit condominium development.

When the water is shut off in a multifamily building, residents have to watch out for hazards such as infection from unsanitary relief, dry traps in sinks and toilets that create stenches, and the possibility of sudden condemnation of premises leading to emergency evacuations of owners and tenants alike.

During the peak of the great housing boom, dozens if not hundreds of developers hurled themselves into apartment house to condominium conversion projects. These groups operated like miniature private equity hedge funds, buying what were then mispriced commercial real estate assets and converting them for residential use and sale to individual owners.

The dollars and sense of these projects seemed obvious at the time, with condominium prices crossing $300 per square foot for even the lowliest of dwelling houses. And appetites seemed never ending.

Buyers lined up for the opportunity to buy a corner unit because it had much better value than an interior unit. These speculators, for the most part, have been removed from the scene, banks are taking huge losses - often times as a direct result of ignoring their own rules for occupancy and use in lending - and buildings that sold substantial amounts of units have become "fractured".

A "fractured" condominium does not have a functioning homeowner's association and comes in two major varieties. The more benign flavor is the "developer held association" where the majority of the units conveyed to tenants are in various states of delinquency and foreclosure. However, these developers have a large percentage of units, mostly occupied for rental. The "zombie association" is one where the units have been anywhere from 75-100 percent conveyed to individual buyers and more than 50 percent of the units are under water, in foreclosure or delinquent in dues.

The "developer held association" is a stable entity, that will likely survive the market's downturns as the developer typically has a substantial equity in the project and the rental units are producing surplus income, which pays for the delinquent units and often leaves a small residual income with the developer. These entities even reserve for improvements and the condominium property is in a high state of repair.

The "zombie association" is a different animal altogether, and one with a different solution that value investors should employ to not only make a profit, but help repair the open wound to the market caused by oversupply, over leverage and poor quality.

The worst associations were sold out between 2004 and early 2007 before banks discovered lending standards. They were and often sold quickly, remortgaged often and are now bereft of stakeholders entirely--outside of institutional first mortgagees and junior lien holders.

Condominium Termination can provide a faster, cheaper solution to the problems posed by 100-300 foreclosure filings, liens, utility company losses, lawsuits and judgments by creditors, tenants and owners.

Often times, dwellings subject to legal/financial distress are repossessed with major damage to the physical location, which renders them untenable and lowers demand for bank resale. Condominium complexes all have procedures drawn into their legal Declaration of Condominium which allows the Homeowner's Association to voluntarily disband the fee simple rights of the owners and revoke the subdivision of airspace that demarcates condominium boundaries.

Some projects require as little as 70 percent of unit owners and institutional mortgagees to disband; others demand that 95 percent of stakeholders are in agreement.

Condo Termination buyers should command a significant discount to be priced into the purchase of units. The goal is to buy as many units as possible at a high Direct Capitalization Rate, insure one's self against developer's liability (there is commercial insurance available for this) and then use the powers of the association to demand compliance or title from any parties who refuse to sell at the price that the majority accepts.

Once the association is terminated, all rights in the property typically revert to a tenancy in common, though this may be specified otherwise in the documents. At that time, the condominium entity and it's obligations can be terminated, leaving the building in the state of a commercial multi-family dwelling.

The irony is that while the market was booming, condominium units were valued at double and triple their income values (if one existed, many had "negative carry"), while commercial properties maintained pricing in line with income. Now the reverse is true, and condominium units are selling at a discount rate compared to commercial property--even when a condominium may throw off a steady income stream in relation to the sales price.