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February 9, 2010 |
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| March 12, 2007 |
By: Oscar Pedro Musibay |
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Illustration by Matt Morrow
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eal estate investor Edgar Romano feels trapped. The Miami property manager pooled his money with his mother and signed a contract three years ago for a $525,000 unit at the Related Group’s Ocean 4 condo development in Sunny Isles Beach.
When he put down the deposit in late 2004, he was told the monthly maintenance fees would be $600. But as the closing approached, Related sent two letters notifying him the bill would climb more than 50 percent to $900.
Romano tried to flip the contract for $650,000 and considered canceling, but Related made it clear the Miami-based developer would fight him.
“They tell us, ‘We are not accepting cancellations.’ If you want to get out, you are going to have to fight them, and in the end you will not win,” Romano said. “They bring you into this trap, and then you are done.”
Romano closed on the unit last month. He bought another unit in October 2004 for $759,000 and sold it for $895,000 in June 2005, an 18 percent gain. The maintenance on that unit went from $700 to $1,200.
Romano said he is “well off” and “not going to lose his shirt” over the higher fees. The profit on the other unit would pay the fee increase for 38 years. But he feels the developer forced his hand.
“I invested wisely. I didn’t expect this group to pull this and raise the maintenance and say, ‘You have to close,’ ” he said. “I didn’t do anything stupid. I got taken advantage of.”
Matt Allen, COO of Related Group, said the company has seen few cancellations but they are increasing. The developer closed on 3,100 units valued at $1.4 billion in 2006. He said insurance increases related to maintenance fees does not give a buyer the right to cancel a contract.
He said Related is not strong arming anyone and that the contracts are legally binding. He says buyers can walk away without closing. "That's his perogative and I will keep his deposit," he said.
But Romano isn’t alone in his sentiment.
As a new wave of major condo projects is wrapping up across South Florida, he is joined by a growing number of contract holders with sticker shock over maintenance fees.
When buyers sign contracts they are often given a copy of the condo documents, which include the operating budget and starting maintenance fees. In many cases these budgets were created years ago, and there have been drastic increases in insurance and other costs since then that drive up the budget and fees.
The first budget is part of the condominium documents, which detail how the condo will operate and what owners can and cannot do. Buyers get 15 days to review the condo docs. During that time they can rescind the deal. State law also says buyers are allowed another 15-day rescission period if substantive condo doc changes are made before closing by the developer. The debate is whether or not budget changes trigger another opportunity for buyers to cancel contracts.
Gary Reshefsky, risk management director at USI Insurance Services, said property insurance makes up as much as half of an association’s fees.
Insurance bills are hurting homebuyers in ways they never anticipated when they signed pre-construction contracts two or three years ago.
As developers schedule more and more closings, they are notifying contract holders of higher fees tied directly to spikes in insurance costs. The size of Romano’s increase is fairly common, but the jump makes it tougher for buyers to close.
Greenberg Traurig shareholder Gary Saul in Miami said insurance and utilities, specifically electricity, are the two biggest contributors to budget changes for condo associations. He said nearly all the projects he represents have had a budget change, and every developer from Miami to Naples is affected.
About 10 percent of buyers who get form-letter notices of budget changes are responding with a letter saying they want to cancel, and the numbers are growing as the residential market remains stalled. About half of the holdouts have hired attorneys, Saul said.
Cancellations are coming in a range of market segments.
Saul conjectures the cancellations are mainly from buyers in marginal and emerging neighborhoods who have seen their values dip rather than rise.
But Gary Poliakoff, a partner with Becker & Poliakoff in Fort Lauderdale, said the likeliest to be affected are coastal projects. Those projects are the most expensive, with the highest insurance costs and have a sizeable number of units under contract to speculators.
Rising cancellations
Developers of all types are seeing a spike in cancellations. Publicly traded homebuilders have disclosed some startling figures that experts say indicate the market has not leveled out.
New Jersey-based Hovnanian said first-quarter contract cancellations hit 36 percent, up from 35 percent in the fourth quarter. Miami-based Lennar said last September its cancellation rate was more than 30 percent.
Bonita Springs-based WCI Communities, which builds single-family homes and condos throughout Florida, predicts it will experience defaults this year in the range of 8 percent to 10 percent of contracts.
Under state law, buyers can cancel contracts if a “material” amendment to the condominium documents affecting the buyer “adversely” is made.
But state regulators and developers’ attorneys disagree about whether buyers have the right to cancel over higher maintenance fees.
Fee adjustments and other changes must be filed with the state Division of Land Sales, Condominiums and Mobile Homes as amendments to condominium documents.
Division director Mike Cochran said the rescission issue likely will end up in court, but the crux of the issue is simple.
“A huge increase at any time in the budget, whether it’s insurance or some repair they have to make … instead of a regular-size pool they are going to have an Olympic-size pool, anything that substantially increases the cost of that purchase and adversely affects the purchaser and they [buyers] have a right to rescind,” he said. “It’s not about what causes the problem, but whether it’s adverse.”
On big insurance increases, he asked, “How can you say it’s not adverse?”
Saul said the division has voiced that position publicly but backs off on the issue officially.
In a subsequent interview Cochran sought to soften his stance.
He said insurance increases “could” be adverse and open up a contract to rescission, but he did not want to define what is adverse.
State law doesn’t explicitly say whether budget changes triggered by higher insurance premiums for associations open contracts to rescission.
But the general consensus of the industry, attorneys and lenders is that buyers have no out. That is also the official position of the real property, probate and trust law section of The Florida Bar.
Saul and Pete Dunbar, past chairman of the state condo advisory council and a Bar board member, say lenders will pull out of Florida if issues like rising insurance premiums give buyers an easy out.
“This issue is really about flippers who don’t want to keep their units,” said Dunbar, a shareholder with Pennington Moore Wilkinson Bell & Dunbar in Tallahassee. “It’s not about my mom who wants to buy her unit.”
Closing loopholes
In an effort to clarify the law and protect developers, Dunbar is helping craft legislation to close any possible loophole regarding condo budgets.
Dunbar worked with state Sen. Gwen Margolis, D-Bay Harbor Islands, and Majority Whip Mike Fasano, R-New Port Richey, on Senate Bill 396, which would amend the state condo law to insulate developers from budget-driven rescissions.
Budget figures in condo documents “are estimates only and represent an approximation of future expenses,” the bill states. “Changes in cost do not constitute material adverse changes in the offering.”
The bill also would require a host of new disclosures favoring buyers. For the first time, developers would be required to prepare budgets using “good-faith estimates” and keep a record of how the numbers were generated.
A buyer may end up telling a developer, “Hey, wait a minute. You lowballed this thing, dudes. That isn’t fair. It’s a bait and switch,” Dunbar said. “This bill will require developers to maintain those records in case anyone wants to challenge it.”
The bill also would require developers to give buyers a copy of the latest budget at the closing table.
“Now there is no obligation for the developer to do anything,” Dunbar said.
Saul, who represents some of South Florida’s biggest developers, including Related and Fortune International, said his firm already takes the position that a budget change triggered by an uncontrollable variable such as insurance costs is not an opportunity for legal cancellations.
Matthew B. Gorson, the national operating shareholder of Greenberg Traurig in Miami, said, “When setting a budget, you can’t you tell me what the insurance is going to cost in three years. … A budget is always an estimate.”
Saul denies developers are “strong arming anyone.” He said most buyers who want to cancel are doing so only because the market is flat and valuations are not escalating like they once were.
But he warned developers better be confident they have “good facts and good law” before telling buyers their position on cancellations.
“It’s great to tell a buyer we are going to fight them, but we better be right,” said Saul, noting the losing party pays attorney fees.
Buyers aren’t the only ones that are anxious right now. Developers pay off their construction loans with money from unit sales and can’t afford to swallow a high volume of cancellations.
“That’s death,” Saul said. “The only way to pay off a construction loan is with sales.”
Pathman Lewis partner Hal Lewis said all kinds of factors can affect condo budgets, including rising construction costs, but the increase in maintenance fees he’s seeing are tied specifically to insurance.
His developer clients are all telling buyers that maintenance fee increases are not material changes that would open a contract to rescission.
At the height of the condo market, developers changed unit sizes, budgets and maintenance fees with little risk of losing contracts because buyers including many speculators thought a flip of their contract was as sure as the sun rising in the east.
But where condos were on the market for only days 18 months ago, a “for sale” sign sticks around for many months now.
Some contract holders who get notices of higher fees see that as an opening to get out of what is now deemed a much riskier investment.
“Now they are looking for any excuse they can find to get out of the contract,” Poliakoff said.
He represents about 25 developers from South Florida to Fort Myers and said all developers are dealing with contract holders who want out.
His firm is getting letters from prospective buyers and attorneys for contract holders who claim budget increases entitle them to rescind their contracts, and most letters come from speculators who bought more than one unit.
Contract disputes
Rather than focusing on higher maintenance fees, some attorneys also look for a wedge for contract holders by examining other changes in condo docs, ranging from unit sizes to adjustments to common elements or rules. Something as small as the elimination of a window could provide a buyer with an out.
James D. Ryan of the law firm Ryan & Ryan in North Palm Beach noted it can be very costly for contract holders to take on developers. He is representing several contract holders who are trying to get out of real estate purchases.
“The developer has hired the most well-heeled firms in town, and they can bury you in paperwork,” he said. “They are very much into fighting wars of attrition. And just because you are right doesn’t mean you will win a war of attrition.”
Juries are less likely to be friendly to plaintiffs challenging a contract based on an insurance-related dispute, Ryan said.
“The original cost was an estimate. It’s going to have to be a real big change for a jury to say, ‘Yeah, that’s substantial. We are going to give you the right to cancel,’ ” Ryan said.
But a change in the size of dogs allowed at a new complex or the cost of concierge services could be a ripe opening. He uses the Interstate Land Sales Act to help his clients, he said.
“The size of the dog was not an estimate to begin with and completely within the developer’s control,” Ryan said.
Attorney Neal Litman of Miami-based Neal S. Litman P.A. said he’s gotten more calls in the last few months from people looking for ways out of contracts.
Developers are in a position of strength because they hold buyers’ deposits.
“The developer can wait and resell,” Litman said. “The buyer is in a very weak position.”
Ryan said he recently got back a $90,000 deposit on a single-family home in Boca Raton for an out-of-town client who was buying the property as an investment.
She changed her mind in part because of the South Florida housing downturn. A contributing factor to her decision was an appraisal by her lender that valued the home less than the contract price, which meant she wasn’t able to get enough financing.
Ryan was able to successfully cancel her contract because the developer didn’t follow through on contract changes requested by his client previously and because a faxed copy was cut off during transmission.
He said his clients include both experienced and inexperienced speculators. Some are in over their heads financially, and others are pushing to cancel because their profit margins have shrunk.
One condo buyer, who spoke on condition of anonymity, said he was notified by letter in 2003 that the maintenance fees for a condo under contract at the Meridian in Miami Beach were going up.
The developer attributed the uptick to “market increases of insurance premiums and to increase building services to the same level as those found in the typical luxury condominiums,” according to a letter sent to the buyer.
But he had no intention of backing out because he intended to flip the unit, and nobody saw an end to double-digit appreciation. At the time, buyers were sleeping outside sales centers to sign contracts, and dozens of people would end up on waiting lists.
After months in the doldrums, condo activity has picked up again, spurred by “desperate people” trying to dump overpriced units, Esslinger Wooten Maxwell broker Kevin Tomlinson said.
Much of that interest is from bottom fishing by buyers looking for a good deal.
Peter Zalewski, a former Daily Business Review reporter who launched the brokerage Condo Vultures Realty to take advantage of the market downturn, is busy dealing with buyers trying to dump contracts and units.
Zalewski said he’s been getting calls from buyers at several projects with many trying to escape from contracts to buy units including one at La Perla in Sunny Isles Beach.
Richard Lamondin, president of La Perla developer Cornerstone Premier Communities, said he hasn’t had any cancellations in his 326-unit oceanfront project. He expects to close on the last 11 contracts at the 43-story project in the next few weeks.
Units were priced at an average $320 a square foot — now considered a bargain — before construction started three years ago, and unit values have doubled.
But one recent buyer offered to sell his unit to Zalewski at the contract price in an effort to get his deposit back.
Zalewski said he wasn’t interested because he only wants to buy units at a discount from contract prices set at the height of the building boom.
Lamondin said developers can expect cancellation rates of 5 percent to 8 percent, and he attributes his lower rate to pricing and timing.
Stefan Johansson, the developer of Downtown Dadeland in the Kendall suburb of Miami, said he’s had only one cancellation out of 400 closings so far.
Johansson said the project hasn’t seen many buyers looking to get out because of pricing at $275 a square foot and the suburban location which attracted many more end users than investors. He also said his sales team worked to avoid purchase of multiple units by the same buyer and contract flipping.
“We didn’t advertise an attractive valet girl,” he said. “We advertised an urban lifestyle.”
The developer of downtown Miami’s Everglades on the Bay hasn’t seen many attempts to cancel contracts but is worried that may soon change.
Misha Mladenovic, national vice president of development for Everglades developer Cabi, said he has been careful not to make changes to the budget that could open contracts to rescission.
“I’m walking on eggshells,” he said.
No one disputes there is plenty on the line for both developers and buyers.
“There is a lot of inventory, and people are going to walk from deposits,” attorney Ryan said. “Developers are going to be stuck with them unless they lower their prices.”
Romano doesn’t think developers are going to be left with inventory because they have the money to continue to force buyers to the closing table. And he can’t sell the unit he bought because the amenities aren’t finished.
“I’m actually trying to sell it now,” he said. “I have listed it with a broker, and I’m getting screwed $4,000 a month.”
Oscar Pedro Musibay can be reached at omusibay@alm.com or at (305) 347-6651.
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