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Vengeance Foreclosures Unwise on Part of Boards

By November 22, 2011 No Comments

There was a time in the not-too-distant past when a condominium association meeting involved discussions of a dirty swimming pool, a satellite dish on a balcony and the maintenance schedule for repairing potholes in the driveway.

While those topics are certainly on agendas these days, it’s more likely that conversations center on the growing number of delinquent residents – the ones who aren’t paying their assessments.

Emotions rise and tempers flair as reliable owners realize that in order to maintain services, they will have to shoulder the burden for the ones who aren’t paying. At that point, one of the board members leans across the table and says, “Let’s just foreclose on them.” this is met with heads nodding in agreement as emotions take over during this contentious meeting.

We call this a “vengeance foreclosure,” and while it may make some board members and residents happy, this action usually just deepens the financial crisis most condominium associations in Florida are experiencing. the bottom line is that unless a unit has substantial equity or a rich but recalcitrant owner, it is always best to allow the banks to foreclose and allow them to assume the
financial obligations related to this legal action.

The association stands a much better chance of recouping more back-owed assessments and writing off fewer assessments when the bank forecloses. this assumes there is proper legal work and association representatives negotiating with banks and not “giving in” to bank claims of owing the lesser of 1 percent of their mortgage or the last 12 months of assessments to the association, as per state statutes.

Let’s take a look at some of the factors leading us to the conclusion that vengeance foreclosures are irresponsible and put an association at further financial risk.

  • The cost to foreclose typically ranges from $1,500 to $2,500 in attorneys’ fees.
  • The foreclosure process can take from six months to a year or longer. During that time, assessments accrue and the association will be responsible for payment.
  • When an association forecloses, it trades its lien on the property for the title. Here’s the math for a hypothetical scenario in which the balance due was $5,000 when the foreclosure process began. Add $2,000 in legal fees and an additional $2,000 in accrued fees, and the association is surrendering a lien that would otherwise total $9,000.
  • Once the association owns the unit, it is likely that renovation will be required so it can be rentable. This could range from paint and new carpet to replacement of appliances, counters, etc. – all coming at a cost.
  • An association is a nonprofit entity that will now be a for-profit entity for a landlord. The association will be responsible for paying taxes on this income, thereby further reducing money recovered.
  • There are costs associated with marketing property, which the association will have to assume. The current
    management firm manages the condominium, not individual units. The usual fee for this is approximately 10 percent of the monthly rent.
  • The association will have to maintain insurance on the unit and will be responsible for paying the property taxes. If the taxes aren’t paid, a tax lien will be attached and the unit could possibly be sold in a tax deed sale. In other words, another person could take the title away from the association after significant cash has been spent on the unit.
  • Finally, the association will have to pay the monthly assessments. The unpaid assessments are the reason emotions ruled and the association pursued the foreclosure action in the first place. Realistically, residents could end up in the same situation as before: paying assessments to make up the difference for those not paying. the major difference here is that the delinquent owner is actually the association.

These are just some of the factors that should encourage condominium boards to act with restraint and not let emotions rule during these difficult times. It is much better to let the banks foreclose because, at the end of the day, the association is assured of collecting some assessments and may even collect all past-due assessments in the event of a short sale or loan modification, or if the bank fails to properly complete its foreclosure.

The following are a couple of strategies to consider:

  • Get a new appraisal. In this market, as values have decreased, is it likely that an appraisal now will be lower than previous ones, which could reduce the premium. the downside is that with a lower appraisal, the association runs the risk of getting a lower payout in the event of a disaster.
  • Many associations today are increasing their deductibles as a way to lower the premium. If this strategy is implemented, it is important that the association have a plan to fund the still-significant deductible and to cover shortfalls in coverage amounts. Associations can do this in two ways: by building reserves over a period of time or securing a line of credit. However, if an association has a large percent of assessment delinquencies, or if the building has a substantial vacancy rate, it is unlikely that a bank will extend a line of credit.

In analyzing these options, it is important for an association to understand the “personality” of the building. In short, the definition of real estate has changed over the years, from an asset that should be lived in to an asset that should serve exclusively as an investment. the latter – the investment – has resulted in conflicts in buildings. For example, an older building with a stable owner/resident base will likely have owners who are in favor of building reserves and keeping premiums at current levels. After all, they plan to live there for the long term.

On the other hand, a building with a younger, more transient resident base may be less willing to build up reserves. these owners may have purchased units with no money down and would be more willing to walk in the event of a job loss or a hike in monthly assessments. these buildings are also more likely to have a greater number of investor units available for renters. Likewise, these speculators could very well have bought multiple units with very little down payment. they, too, are likely to walk since they have little invested.

The challenges facing today’s condominium market are relatively new. up until several years ago, payments of monthly
assessment were rarely a problem. the economy was strong and people were happy to pay for services. But with the recession and the growing number of underwater units came an inability to pay assessments. And with it came a need for associations to become more creative and aware of issues related to managing an organization with a multi-million-dollar-a-year budget. While maintaining services such as landscaping, pool care, valets and security are important, perhaps the most important line item on an association’s budget is insurance. Lenders will make sure there is coverage, and associations must make sure they understand the risks and rewards associated with it.