Condominium Assessments and the Recession

Jeffrey R. Schmitt

By Jeffrey R. Schmitt



Why Bankruptcy and Foreclosure Aren’t Always the End of the Line in Missouri

The past decade saw a surge in condominium, loft, town home, and other multi-unit developments, in both urban and suburban areas. Urban revitalization resulted in renovated commercial and industrial buildings for loft developments, and baby boomers and empty-nesters have been drawn to the convenience of maintenance-free living provided by multi-unit developments in cities and suburbs. The recent recession and ensuing economic climate has impacted the real estate market and construction industry particularly hard, and many unfinished developments suffered as a result. However, the down turn in the economy poses problems for existing, fully occupied, and even well-managed buildings too.

Traditionally, the payment of condo fees or assessments by a unit owner was a priority, just like the payment of a mortgage. As increasing numbers of unit owners face job loss, reduction in pay, or other financial hardship, this tradition is falling fast, and payment of condominium fees and assessments has become less of a priority.

Other than headaches for building management and board members, delinquent condo fees and assessments pose a variety of dilemmas for multi-unit developments. Legal and practical ramifications of increasing delinquencies include the inability to obtain loans for capital improvements, a loss of services for the buildings and grounds, and an obstacle to sales of existing units.

Condominium associations and boards have long relied on collection lawsuits to compel delinquent owners to pay, and, ultimately threaten the sale of the unit by foreclosure of the condominium’s assessment lien. Increasingly, this litigation option is becoming less viable. The recent and continuing onslaught of foreclosure sales and personal bankruptcies strip the building management of the power to collect through litigation. However, all is not lost when a unit is subject to foreclosure or an owner files bankruptcy, and it is important that associations and boards are aware of their rights in these situations.

Foreclosure

In Missouri, and in approximately half of the states, lenders have the right to foreclose on a delinquent borrower through a non-judicial “power of sale.” Power of sale gives the lender the right to provide notice of foreclosure proceedings and sell property on the courthouse steps. Foreclosure sales by lenders threaten to extinguish assessment liens against a condominium unit that are imposed by operation of the building’s governing documents and Missouri law. In most cases, the lender will buy the property back and will become the new owner of the unit. In these cases, the sale price at foreclosure will likely be less than the loan value, and there will be no surplus for other lien claimants, including condo associations.

It is important for the board to know whether the foreclosing lender made a purchase money loan, that is, a loan used by the owner to purchase the property from a previous owner, or rather a refinance loan. The Missouri Condominium Act gives different treatment to condominium assessment liens and their priority over purchase money loans as opposed to refinance loans. In some cases, building associations can assert priority over the lender for all or part of the unpaid assessment lien. This means that the lien may survive the foreclosure and can be enforced against the lender or other subsequent owner. In any event, the subsequent owner is responsible for payment for fees accruing post-foreclosure.

It is also imperative that building management and the board are mindful of the building indenture and bylaws, and ensure that the provisions concerning assessment lien priority are consistent with those protections provided by the Missouri Condominium Act.

Bankruptcy

A unit owner’s bankruptcy, while initially causing collection problems, does not always result in the removal of an assessment lien. Most personal bankruptcies in the United States today are Chapter 7 cases, meaning that the owner’s assets are liquidated in order to pay creditors. As soon as a Chapter 7 case is filed a condominium association must cease collection activities against the property owner for the past debt. However, the assessment lien against the unit may remain as an encumbrance against the property. This means that in the event of a subsequent sale or refinance after the bankruptcy, the delinquent assessments may be paid at closing, even though the association cannot pursue the owner for those delinquent assessments directly.

Depending on the equity in the unit after a mortgage, the assessment lien, and any other liens against the property, the Bankruptcy Court may allow an assessment lien or other liens to be reduced or eliminated all together, in order to provide value to creditors. Of course, many lenders will begin foreclosure proceedings after an owner has filed bankruptcy, with permission from the Court.

It is also important to remember that even when an owner files a Chapter 7 bankruptcy case, monthly fees and assessments payable after the date of the bankruptcy filing may be collected from the unit owner, and may result in an assessment lien which can be enforced through litigation.

Some individuals file Chapter 13 bankruptcies, which are reorganizations of their financial affairs. These owners will propose a plan to the Bankruptcy Court to repay their debt over a period of three to five years. In many Chapter 13 cases, the delinquent assessments will be paid to the building over time.

Bankruptcy cases can vary widely, and building managers must keep abreast with the status of the case, the effect on the unit, and whether or not a claim for assessments should be filed.

Conclusion

Bankruptcies and foreclosures can seem ominous to building managers and boards seeking to recover delinquent assessments from owners. However, these circumstances do not necessarily preclude the recovery of unpaid accounts. Multi-unit developments are not always doomed to the fate of helpless victims in these scenarios and the management should respond to bankruptcy and foreclosure notices with an investigation of the circumstances in order to evaluate the options that remain and how the building’s rights can be enforced both in the immediate and long term future.

Cash-for-Keys Strategy Gaining Momentum in St. Louis

James M. Heffner

By James M. Heffner



Interesting article in today’s St. Louis Post-Dispatch on the Cash-for-Keys program. The Cash-for-Keys program is designed to entice tenants residing in bank-owned, foreclosed upon properties to willingly vacate the property for a pre-negotiated sum. The tenant receives some amount of money for leaving, the bank saves money by avoiding litigation to remove the tenant. What the article fails to mention is that the bank needs to properly document the Cash-for-Keys transaction to ensure the tenant actually vacates by the agreed upon date.

Stepping Back. US MicroLending with Kiva: Raising Capital + Raising You

Ruth Binger

By Ruth Binger



When the usual suspects are rounded up to determine the reason for the decrease in start-ups and/or business failures in 2009/2010, in this author’s view, some blame must be placed on the business owner’s own failure to have introduced himself to his “better self” in the words of Napoleon Hill.

Bob Calcaterra recently noted this problem in the August 2010 Missouri Venture Forum Newsletter.

In Ralph Waldo Emerson’s essay “Experience,” he posits that all of us have an iron wire which he calls “Temperament” upon which the seeds of the individual are strung. He further argues in his essay “Compensation” that “strength grows out of our weakness and that indignation which arms itself with secret forces does not awaken until we are pricked and stung and sorely assailed.”

This veto or limitation power of adversity is the theme in the Summer 2010 Wilson Quarterly article “What Next for the Start- Up Nation” where the author speculates as to what attributes Israel start-up founders have that create so many successful start ups (persistence, mission critical focus, etc.) .

In twenty-seven years of counseling small businesses, I have found that the business owners who are the most successful are self disciplined, incredibly focused, hungry and have an iron will.

When one reviews the evidence of successful start-ups, one sees so many first and second generation Americans who will not give up. So, for those of you with the iron will or who want to develop that iron will by apprenticing at the bottom or “start where you are and build”, please check out the Microlending article in the New York Times. You will be introduced to Kiva.org, who has just started a pilot program lending to business owners in the United States. Remember, Microsoft was created in 1975, at the end of the first great recession since the Depression.

Who knows what will happen, you may become a Bill Gates.

The End of LIFO/FIFO Loan Participations between Banks?

James M. Heffner

By James M. Heffner



Loan participations are invaluable to community and regional banks who want to service their borrowers’ needs beyond its legal lending limits or risk tolerance. Loan participations frequently include “LIFO” (Last-in, First-out) and “FIFO” (First-in, First-out) provisions designed to streamline the lending process, simplify monitoring the legal lending limits, and entice banks to participate in a loan they would not otherwise consider.

LIFO loan participations are effective when the originating bank advances funds to its borrower up to its legal lending limit for that single borrower – subsequently the participating bank purchases that amount of the loan which exceeds the originating bank’s lending limit. For the participating bank’s trouble, or relative bargaining power, the participating bank is repaid its principal before the originating bank. The opposite holds true for FIFO loans. Regardless of the loans LIFO or FIFO status, in the event of default losses are shared between the originating bank and the participating bank on a pro-rata basis.

Effective January 1, 2010, FASB Statement No. 166, Accounting for Transfers of Financial Assets (“FAS 166”) altered what constitutes a transfer of a portion of a financial asset, e.g., a loan participation, to be treated as an actual sale. Per FAS 166, LIFO and FIFO participation loans do not qualify for sale accounting treatment. What this means to bankers is that the originating bank is now obligated to report that portion of the loan “sold” to the participating bank as a loan on its balance sheet. So, rather than account for only what the originating bank has outstanding, less what it sold to the participating bank, the originating bank now must include the aggregate balance of a borrower’s debt, which, in turn, is used to determine compliance with legal lending limits (see generally12 USC § 84; Reg O; RSMo § 362.170; and CSR 140-2.080).

The American Bankers Association has been proactive on this front, authoring a March 3, 2010 letter discussing the regulatory requirements for loan participations effected by FASB Statement No. 166. In its letter to the Federal Reserve and interested parties, the ABA recommends that FAS 166 should not be used to regulate legal lending limits – rather, “[c]ompliance with such limits should apply on the basis of the contractual borrower.”

To be clear, FAS 166 does not apply to loan participations where all cash flows from the entire financial asset are divided proportionately among the participating interest holders in an amount equal to their share of ownership. What is less clear, however, is whether banks must are required to modify accounting methods for loans made pre-2010 but include disbursements post-2009, such as a revolving line of credit.

In sum, until the certain clarifications are made, in order to qualify for sale accounting the originating bank must carefully review its policies and procedures for loan participations, and understand the implications that come with FAS 166.