LOANS TO CONDOMINIUM ASSOCIATIONS:

A STEP-BY-STEP GUIDE

Does your condominium property need repairs or renovations?  Most do, from time to time, as managers and unit owners are acutely aware. Most associations require continual upkeep, and major repairs and replacements can become necessary. Older apartment house conversions were often done with little more than the installation of an awning and a fresh coat of paint in the hallways. Other condominiums were newly constructed, but perhaps poorly designed in some way.  Physical plant problems may have come up, such as the necessity to upgrade a heating system, replace air conditioning components or solve water intrusion problems. Roofing lasts only so long. Other problem areas are balky elevators, malfunctioning windows, septic/ sewerage treatment failures and less than watertight building exteriors.  Specific reserves have been developed by some well-run condominium associations for solving such problems, when they are easily anticipated. However, many are not that obvious.

Historically, associations have paid for major projects by introducing a special assessment with management dividing the project costs among the unit ownership on a percentage of interest basis. Those payments could be of considerable size in the case of a major project and are frequently spread over several months, depending on the nature of the work.  At times, a single lump sum payment may be possible, but politically difficult for the trustees to present and collect smoothly. An alternative to short-term special assessments can be the utilization of a bank loan, which provides associations with the flexibility of paying for these major repairs or renovations in monthly installments.

The condominium documents determine whether such borrowing is permissible.  Most condominium documents allow trustees to borrow funds on behalf of the association for the purpose of repair and renovations, although not necessarily for replacements, such as windows. A determination by the borrower’s and bank’s counsels’ of the appropriateness of the borrowing purpose may be necessary, particularly in the matter of windows as their ownership can be a tricky issue.

Loans to condominium associations are unique. They are not exactly commercial loans, although they are structured and priced like commercial loans and they are not real estate loans, although they obviously involve real estate. Possibly the most practical way to view them is as home improvement loans made to homeowners. More on that later. 

With loans that do not involve real collateral (mortgaging property) the bank’s security takes the form of an assignment of all common area charges, special assignments and other income, such as parking space or unit income (if applicable) as well as an assignment of the condominium association lien rights.  What this provides to the lender is the ability to step into the shoes of the condominium trustees, hire a management company, run the condominium and pay itself in th event the loan is defaulted on.

Applying for a loan is a relatively simple process. Appraisals are not necessary as there is usually no real estate to appraise. Most professionally managed associations are producing much of the underwriting data a lender would require. As we view this business as loans to homeowners, it follows that a high level of owner occupancy is a must. Our strong preference is that at least 75 percent of the beneficial interest be owned by owner-occupants.  We make modest exceptions as there are always extenuating circumstances, but generally speaking the higher the level the better quality the asset in the eyes of the lender. Naturally, a well-located, physically attractive and financially sound condominium will present the best application to a lender.

Application materials will include, but are not limited to, two or three years of historical operating data, the current year budget and year-to-date results. Other application exhibits should be copies of the association’s receivable aging (also known as a delinquency report), the most recently audited financial statements, a copy of any capital reserve schedule and component study (if available), the last two years tax returns, and minutes of board meetings during which the proposed projects were discussed and approved. 

It is always our practice to visit the property, walk through the common areas and inspect some representative units as well as observe the work to be done. We also meet with trustees involved in the project and their management company.  Evidence of unit owner approval is also critical to the loan application process.  With loans commonly approved following the application process, community associations should look to them as important funding alternatives to assessments.