Condo buyers too often leap before they look
Article Courtesy of United Feature Syndicate 

 
Posted April 6, 2003 
By Lew Sichelman 
Baffling and bulging documents hold the key
to the financial soundness of association
WASHINGTON -- Annual sales of condominiums and cooperatives surged again in 2002, setting a record for the seventh year in a row. But buying a condo is different from buying a house, and too many people don't take the extra steps necessary to make sure their purchases don't turn into nightmares.

A condominium isn't a type of dwelling at all. It's a form of ownership in which you take title to your particular house, town house, villa or apartment and share ownership of the community's common spaces and amenities with your neighbors and fellow owners.

In other words, buying into a condo or, for that matter, into any community in which an association of owners collects fees and contracts for services is like purchasing a share in a privately held real estate company. You own your unit. But with all else, you have partners who have an equal say in how things are run.

Sometimes, unfortunately, the property isn't operated as well as it could be. And that could create problems.

For example, one out of three associations doesn't have enough cash on hand to fix the roof, patch the sidewalks and meet other major repair and replacement obligations, according to Association Reserves, a company in Calabasas, Calif., that has completed more than 12,000 financial studies for community associations in 43 states.

Worse, most people who buy into a condo or community association don't do the research necessary to determine whether the places they are considering are financially sound.

Most states require that buyers be given all the condo papers -- the governing documents, or the codes, covenants, conditions and restrictions (CCC&Rs); bylaws; budgets; balance sheets and profit and loss statements, among others -- often at the time they sign a sales contract. And most jurisdictions give buyers three days to pore over the papers and change their minds.

All too frequently, though, the inches-thick stack of documents isn't handed over until well into the process. Sometimes, buyers don't receive the papers until a few days before closing. And sometimes, they don't get them at all.

Even when the papers are delivered on time, however, few purchasers know what they should be looking for or are experienced enough to determine quickly and accurately whether the condo is in good financial health. And their real estate professionals aren't providing much help along those lines, says Mitzi Romiti of Jobin Realty in Alexandria, Va.

"Many agents fail to point out the importance of the condo documents," says Romiti, who has sold more than 75 condos over her career and is currently president of the condo association where she lives. "And most don't explain to their clients what they should be looking for or what could happen."

What could happen is this: If your association is underfunded, you could be hit with a major special assessment over and above the monthly or quarterly dues you already will be paying. Romiti recalls one condo in which all the balconies had to be replaced, resulting in an assessment that owners didn't expect.

First, read the rules

So what should you be looking for to guard against such surprises? For starters, obtain a copy of the codes and covenants and read them. These are the rules and regulations by which your new community will be run, so you'll want to understand what's required and what's prohibited and be sure you can live within these parameters.

"I have only been here six weeks, but I've learned that much," says Frank Rathbun, the new vice president of the Community Associations Institute, a group in Alexandria, Va., representing all stakeholders in the nation's nearly quarter-million condo, co-op and homeowner associations.

Beyond that, though, you'll want to take a hard look at the "financials," particularly the association's operating budget and its reserve fund. If you don't feel qualified to assess these records, you might find it worthwhile to spend $89 for a Risk Evaluator Report from Association Insights (ainsights.com or 1-888-527-1700).

The one-page diagnosis delivers two key pieces of interpreted information:

  • An overall rating, from a high of "A" to a low of "F," that allows you to determine whether the property is financially sound.
  • A prediction of whether a special assessment will be required over the next 12 months to cover shortages in either or both the operating budget or reserve funds.
Know the risks

The Risk Evaluator also covers three other important risk factors:

Percentage of reserves funded. This is an indication of the association's willingness to plan. If it doesn't, the place is either primed for a special assessment or necessary maintenance will be deferred.

It won't do you any good to look at how much money the community association has on hand because every community has different amenities in different condition. But there is a generally accepted standard percentage.

Ideally, the reserve should be 100 percent funded. But if it is more than 70 percent, that's OK. An assessment is "very rare" when the association has that much money on hand, says Association Reserves president Robert Nordlund. If funding is less than 30 percent, though, look out. "That's a very weak position," the condo association expert warns, "and it means you are heading right for a special assessment."

Percentage of 60-day delinquencies. This shows how the association handles its business. According to Richard Thompson of Regenesis, a consulting firm in Portland, Ore., that specializes in owner associations, if a higher than normal number of owners are allowed to be behind on their dues without aggressive collection, the board probably isn't doing its job. Moreover, if people aren't paying their share, there won't be enough money to pay the bills.

If no more than 5 percent of the members are two months late, that's a sign of a well-run shop and strong cash flow, says Nordlund. If 5 percent to 10 percent are late, the place is in "fair" shape. But if this key benchmark is above 10 percent, it's a sign of poor management and an under-funded association.

Percentage of owner-occupants. Generally, the higher this figure is, the better. For one thing, owners tend to take better care of their places than absentee landlords. For another, lenders may balk at granting loans to purchase in a community that has many tenants.

"Since a lender has a share of the common area liability, they want to be sure a majority of residents have a high motivation in caring for the property and are willing to ante up the money to do it," consultant Thompson explains. "Homeowners have a greater likelihood of doing that."

If owners inhabit 75 percent or more of the development, the financial risk is low, according to Association Insights. But Thompson says that if the percentage drops below 67 percent, financing options start to disappear and property values may decline.

The Risk Evaluator also sends up a red flag for these other indicators of financial risk: the association's history of special assessments, tax and legal filings, financial audits, insurance coverage and whether a professional manages the place.

Finally, one more item worthy of looking into is how the association invests its money.

"Just keeping it in a bank account is not good enough," says Nordlund. If it has more than $200,000 in reserves, an investment manager specializing in reserves planning should handle the money. If it's less than $200,000, the money should be placed in a local or regional bank that has a community association program.