What To Look For In Condo And Co-op Financials
It is essential to review the financial information of a co-op corporation or condominium association prior to buying. When conducting due diligence on a building, one of the key documents is the annual financial statement. The financial statement is an indication of whether the building is in good or poor financial condition. Under New York law, every co-op corporation or condominium association must furnish its board of directors, and shareholders or unit owners, a financial report prepared by an independent, certified public accountant. Prospective purchasers should seek the advice of a diligent and experienced real estate attorneys like the firm of Kakkar & Associates to conduct due diligence on the building’s financial status.
The financial statement will usually include the CPA report, balance sheet, income statement, cash flow statement and reserve fund. In reviewing each of these items, the focus should be on the assets, income and expenses of the building. If the building is a co-op it should have sufficient cash-on-hand to cover monthly expenses, and it should also have a healthy reserve fund to cover repairs or capital improvements to the building. If the reserve fund is insufficient, the likelihood of an assessment for such repairs or capital improvements is greater. Additionally, a lot of lenders will not lend in buildings where reserves are not at a minimum 10% of the gross annual revenues.
In a co-op, where the underlying land is owned by the cooperative, the underlying mortgage can have a significant impact on the financial condition of the building. If the mortgage is maturing and rates are going up, then it is likely that shareholders’ maintenance will increase. A fixed rate mortgage, generally lasting five years, with twenty five year amortization, might be more favorable as compared to adjustable rate mortgage where the monthly payment may fluctuate. In co-ops where the underlying land is leased, you must examine the lease terms, including rental rates, renewals, etc. to make sure owners are not subject to onerous increases at lease ends. It is also more difficult to find lenders for leasehold buildings with less than thirty years remaining on the lease. Due to lease uncertainly, leasehold buildings tend not to appreciate and maintain values compared to fee owned building.
In contrast, while a condominium association does not have an underlying mortgage on the building, unit owners may be financially impacted if the sponsor owns a large number of units in the building and cannot meet the expenses of those units. Thus it is imperative to examine the sponsor’s ownership. Lenders will be hesitant to lend in buildings with greater than 10% units owned by sponsors.
Although a financial statement provides valuable insight into the building, it should not be relied on in and of itself by purchasers. Most financial statements become dated very quickly and a lot of the buildings don’t prepare their past year’s financials well into the following year, thus making them less and less useful. In addition to the actual financials, it is helpful to review the budget for the current and future years. If buying in a co-op, prospective purchasers should have their attorney review the meeting minutes from the co-op board meetings. These minutes offer information about building issues, such as building maintenance or repair projects and legal issues. Maintenance and common charge histories, if available, should also be examined. Frequent maintenance or common charge increases serve as a warning sign.
Balram Kakkar, Esq., CEO,
NMLS # 3500
Panam Mortgage & Financial Services, Inc.
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