What you should know about commercial investments
In a hot market where property values are appreciating, it makes sense to be the first buyer on the block. In fact, many speculators in the last few years were signing up to buy condominiums at preconstruction prices, solely for the purpose of flipping the unit – or even the contract – in order to profit.
But did you ever wonder what happens if the owners of a commercial or residential condominium sign a contract and close, but then the developer files for bankruptcy or the other owners default? It’s a scenario that today is becoming increasingly common in Southwest Florida. The current risk in our condo market is that there won’t be enough revenue to operate the owners’ association because so many people are defaulting. Here are a few tips on what to do.
The Association’s Role
The success or failure of any condo owners’ association hinges on many things. For example, if the association isn’t fully funded or hasn’t made provisions among a building’s owners to address its funding issues (via reserve or special assessment), that’s cause for concern.
Condo owners must realize that in essence, they’re partners with the other condo owners in their building. Accordingly, they’re collectively responsible for maintaining the elements that affect the value of their investment. Examples include the property’s common areas, mechanical systems and structural components.
In addition, there are the occasional, miscellaneous improvements to address and pay for, such as interior/exterior painting. Often, that sort of maintenance is funded by special assessment. But what if you’re the only owner to assess? Suppose the majority of owners and/or tenants have walked away from the project or defaulted on the terms of their lease agreements?
Ideally, if the majority of the project is unsold, the developer will step in and take care of the problem. If not, the owners can always sue the developer to perform. However, if that person or entity is missing or bankrupt, the dilemma of funding reverts to the owner(s).
Of course, even the most cooperative owners won’t always agree on how to do things unless they’re explicitly defined in the association’s legal documents. And at some properties, certain aspects of ownership and maintenance are far from cut and dried. For instance, while one owner’s idea of proper maintenance may involve replacing an aging roof before it starts leaking, another’s may be to postpone the expense until the roof is completely shot. Both are reasonable and yet indicative of entirely different ownership philosophies.
Pre-Purchase Checklist
Although there is no way to guarantee that a condo developer or owners’ association will perform according to the terms of their contract, there are some pre-sale steps that you as an owner should take to protect yourself.
n Legal Documents. First, be sure that you understand the legal documents behind your condo association, namely its Bylaws and Declaration. The Declaration serves as a deed that establishes and defines the condominium, and describes how the owner-developer plans to convert or construct the property as a condominium. It also specifies the various components of the property, such as the common elements, limited common elements and units.
The Bylaws contain the rules for self-government of the condominium by an association of the unit owners. Besides directing the affairs of the condominium, the association administers policies outlined in the Bylaws and generally oversees the upkeep and administration of the condominium.
n Developer. Initially, the developer is the board because he owns all the units. As units are sold, the developer’s obligation to pay the association’s assessments usually diminishes.
However, in the event that sales are sluggish and unit owners few, the developer must be capable of carrying the project for an extended period. Therefore, your pre-purchase checklist should include checking out the developer carefully before you commit to purchasing space. What is that person’s/company’s professional reputation? Do they have the financial strength to sustain the project if it takes years to sell out? How many units are under contract?
Further, insist that the developer – and your mortgage lender – strictly adhere to a requirement that at least 50 percent of the units be under contract before you have to close. In addition, ask the developer to agree that if comparable units in the project are discounted more than 10 percent of your sales price, he will either match the price or refund your money.
n Other Owners. Beyond talking to the developer, it’s equally important that you talk to the other condo owners/prospective buyers in the building. Because these people will be your business partners, it’s critical to find out as much as you can about them. How are their businesses doing? What are their goals and objectives?
In order to protect the value of your investment and preserve your peace of mind, you should be on the same page with the other owners. If you’re on a shoestring budget, for instance, and everyone else supports lavish improvements to make the property the best on the block, you may want to locate elsewhere.
The bottom line is to do your homework. Make sure that you clearly understand the obligations of the developer and other owners (your partners), as well as their ability to perform. After all, you don’t want to be in a situation where you have to sue someone to uphold his or her end of the deal. Typically in those cases, no one wins, especially if the developer is long gone.
Gary Tasman is executive director of Cushman & Wakefield’s Southwest Florida office. For more information, please contact him at (239) 489-3600 or gary.tasman@cushwake.com.