Condos – Part 3 - Financing

In the final part of this series, I want to discuss financing of condos.   Remember my comment that a portion of the “value” you are buying consists of the value of the common area beyond the individual unit you will occupy.  

No one thinks about it this way, but the reality is that if you could break down the value of a condo priced at $200,000, the right to occupy the unit might be $150,000 and the value of the common areas might be $50,000.   If a lender has provided a $190,000 loan to finance the purchase and if something happens to compromise the value of the $50,000 part, the lender’s collateral is also compromised. Thus lenders ask associations to complete a questionnaire designed to answer questions about three factors that can affect the value of their collateral.

First, when a project is new, how many units have been sold?   They don’t want to lend on the first units in a project and find that the builder couldn’t sell the rest.   If there aren’t enough owners to pay dues, the association would not be viable. Alternatively, if the builder drops the price significantly to move the remaining units, that has a negative impact on the value of the units they just lent on.   If they did a lot of those $190,000 loans and the builder drops the price to $175,000, how does the lender feel?   How would you feel?   That’s why you should be just as concerned as the lender about the sales progress.   By requiring pre-sales of a number of units the lender is looking out for your interests too.

Second, even with a mature project, if an owner becomes disenchanted with the association, he might stop paying his dues. Lenders feel that when a project gets in trouble, the occupying owners will make payments, but owners of tenant occupied properties will not. For that reason they ask the association to tell how many units are owner-occupied.   If that is less than 70 percent, lenders feel that the association would be in jeopardy in the event of problems. This doesn’t affect just lenders, as if you were looking at a project that is less than 70 owner-occupied, you ought to be concerned as well.   

Third, it is possible that there are defects in the construction of the units that affects the value of the homes they are lending on. If defects have been discovered and a lawsuit has been filed against the builder, it is pretty much the kiss-of-death on getting financing.   Lenders typically will not touch such a project until the lawsuit has been settled AND all the repairs have been made.

In California , unscrupulous lawyers have been running around drumming up such lawsuits.   If the association agrees to litigate, it becomes very hard to sell and finance homes. The truth is that this last issue really isn’t all that severe as almost all of these are settled satisfactorily, but it make take years.   But maybe it’s a huge problem, so it’s hard to get a lender to ignore the possibility.

The lending community seems to be modifying its position somewhat, and that is good news.   A few have a “Don’t Ask, Don’t Tell” philosophy.   They figure, correctly in my opinion, that most of these issues work themselves out. So if you are putting 20 percent down on a home, there are lenders who will not ask for stringent documentation.

In summary, condos are here to stay, and they afford investment potential and a lifestyle that meets the needs of a lot of people. If you are considering buying one, just acknowledge that a little more due diligence is required. I hope you are as happy as I am.

Go for it!