Northwest Real Estate Law Today

Professional Insight on Real Estate Law

Co-ownership of real property: Your co-owner’s fortunes can affect your own

By Mark Schedler on Posted in Real Property

Co-owning a residence, investment or vacation property can make a lot of sense, but one should accept the fact that co-ownership is more complicated. Doing it the right way takes experience and care and should be done with the help of a good lawyer and broker.

1. There’s no substitute for integrity when picking a co-owner. No matter how great the investment, matters of integrity will come up. There is no lawyering that can serve as a perfect substitue for a great partner.

2. A co-owner, or its creditors, may be able to force a sale that would be harmful to the other owners.

• A client went through a tough divorce made worse by huge business debts of my client’s spouse. Most of the debts were only the spouse’s, but they had to be paid. The residence held most of the wealth, so the couple agreed to complete the divorce and co-own the residence as “tenants in common.” When the property is a home, a condo, or other property that can’t be divided, a tenant in common can force the sale of the entire property through a “partition action” in State court or through bankruptcy. This can force the other owners to sell at a time that would be bad for them (the market is down or they would rather defer the income for tax purposes).

• Where the ownership is in a corporation or limited liability company the creditors could force a sale of only the membership/stock of the indebted owner. This is just one reason why it is usually best to co-own real estate through such business entities.

3. Absent a written agreement:

• A co-owner could sell its interest without consulting the other owners;

• Co-owners would not have the first chance to buy out an owner looking to sell

• Co-owners would not have the opportunity to match a third party offer

• A co-owner’s heirs could become co-owners

• Co-owners willing to pay their share of expenses would have a harder time getting contributions from the other owners.

• Maintenance, insurance and improvement decisions would have to be unanimous.

• One owner could allow others to use the property without the consent of the other owners.

• The decision to sell could require a unanimous vote.

• An owner’s death or divorce could affect everyone.

Underwater Condos – They have their own considerations before deciding on a short sale or other option

By Mark Schedler on Posted in Real Property

A client recently brought to me a situation where his nephew’s new wife had purchased a condominium unit prior to their wedding. She financed the entire price with two mortgages and now it’s under water.

When advising owners of distressed properties it’s easy to begin with a discussion of the owner’s financial situation. Is this the only problem or are they bankruptcy candidates? Will the owner need credit in the near future for a job transfer or to finance a business?

With condos, my first questions go to the marketability of the unit:

• What’s the owner occupancy ratio? Are we looking for a landlord or someone who wants to live there? Owner occupancy rates affect the availability and cost of financing as well as the type and number of willing buyers.

• How healthy is the homeowners association? If owners have stopped paying their assessments the HOA could be under funded. This would discourage almost all buyers.

• How well has the HOA planned for major repairs and capital improvements? Is there a reserve study? Will there be large special assessments in the coming years for roofing, painting, deck replacement, etc.?

• Has the owner been paying their assessments? If not, will they be able to bring the assessments current at closing?

Many owners are unable to answer these questions because they stopped reading newsletters and minutes from the Board or going to owners meetings.

There are opportunities for investors and others in distressed properties. But, to help an owner, much of the craft is in knowing the questions that will quickly tell you what you’re dealing with. When it comes to condos, I want to know about the marketability of the unit before spending much time on the owner’s financial situation.

 

Due Diligence: What does that mean in real estate deals?

By Mark Schedler on Posted in Due Diligence

Today, it is generally recommended that buyers do a thorough investigation of the property before they are committed to buy. This reduces the risk the buyer will be disappointed and increases the chances the seller will get what they most want besides a good price–a clean break from the property and the buyer at closing. What follows are items learned from hundreds of transactions.

Residential Sales

  • Almost always, the seller will not be responsible for problems the buyer doesn’t discover. The reasons vary with the cases, but this is the most common outcome.
  • Almost always, buyers choose to do less due diligence than they could. Few take responsibility for this decision.
  • Almost always, buyers should conduct a neighborhood review re: school quality, how the look and use of the neighborhood might change in the future, the location of registered sex offenders, frequency and number of burglaries and other crimes, etc.
  • Video inspections of sewer lines can discover expensive problems cheaply.
  • Large families moving in to homes that have been vacant, or inhabited by one or two people, can often find problems the seller never had with plumbing, septic and other systems.
  • Buyers contemplating remodeling or construction should consider a feasibility study period that is long enough for them to get some comfort with what can be built and what it might cost.
  • Most buyers choose not to do a full feasibility study because it’s more work than they are up to doing at the time.
  • Too many buyers believe that, if they’re unhappy, someone will make it right. I call this the McNordstrom Mentality. In real property deals, this is a fantasy usually built on past retail experiences involving shoes or snow tires.
  • Review of covenants, including those of homeowner associations can be critical if a buyer wants to operate a business from the home, park trade or recreational vehicles, have a lot of pets, perform some remodeling or add antenaes and dishes for radio, TV and other equipment. Once reviewed, the buyer should learn to what extent the neighbors adhere to the covenants.
  • A view property may command a premium price, but the view could be lost to future construction or plantings. Views can be protected by covenants, easements and building codes–all of which are available to prospective buyers.

Commercial Real Property – Sales and Leasing

  • Interviewing tenants, neighbors and employees can be greatly informative, though it often is impractical.
  • Buyers and tenants are often surprised that the property’s utilities or HVAC must be upgraded for their use.
  • Permits for tenant improvements can be conditioned on upgrading an entire building’s fire or other systems.
  • Buyers/tenants would be better off if their signage plans are approved by the city, landlord, etc. before they are committed to the deal.
  • The cost and availability of insurance should be investigated. The claims history of the seller/landlord or the previous tenants may have some effect.

Selling Your Business – Retain your ability to regain control until you’re fully paid

By Mark Schedler on Posted in Sale of a Business

Many business owners are so anxious to retire or move on they take risks in the sale of their biggest asset that are greater than they ever would have taken in their business. This anxiety may lead some sellers to agree to finance part of their sales price–they become lenders in order to be sellers. Then, they don’t act like smart lenders.

  • If you’re going to be a lender, think like one:
    • Know the source of the buyer’s down payment. If it’s borrowed, the buyer will have less incentive to make the business work;
    • If part of the down payment is borrowed and secured by the assets of the business, be sure you know the terms of the loan–you may have to pay it to protect your investment.
  • Negotiate the ability to learn of problems early and to regain control of the business. This protects its ability to generate the income to pay you and keep its valuable employees.
  • Be willing to manage the hand-off of your goodwill. Your customers could be part of your early warning system to discover problems while they’re manageable.
  • Build a financial incentive for your buyer to pay you early. Discounts for early payment and scheduled  increases in interest rate are common methods.
  • Satisfy yourself that the buyer is capable of running a successful business.
  • Beware the broker or closing agent that tells you an attorney isn’t needed. Every deal is different. While the industry has forms to help streamline negotiations, they are not written to replace lawyers and the advice only they can give. Every seller and buyer of a business should have a lawyer.
  • The closing agent, even when a law firm, is not a substitute for your own lawyer. Closing agents are neutral third parties – they can’t advise one of their clients over their other client. Closing attorneys often use paralegals – so the firm’s attorneys have limited contact with a file. For a neutral third party, that’s fine. It’s your attorney that should be finding the red flags.

An all too common scenario:  seller accepts an offer with a top price and a hefty down payment. The balance of the price will be financed by the seller and secured by the assets of the business. That loan will be in second lien position on the assets behind a loan the buyer gets for the down payment and other expenses.

The seller is attracted by the high price and down payment. The seller is confident the business will succeed and the buyer will be able to pay the remainder of the purchase price.

No one’s there to say “snap out of it!” At closing, the buyer will owe more than the purchase price but will have invested none of their own money. If things go badly, the bank will get paid first from the sale of the assets. The seller may not have the money to pay off the lender to protect the business. Thanks to the buyer’s poor management the business may have lost its value or its ability to succeed. The seller might sue the buyer on the promissory note, but could face expensive litigation costs and, as often happens, counter claims from the buyer related to alleged oral promises from the seller. Even if the seller prevails the buyer has never had to show that he was good for the money.

Earnest Money – What everyone ought to know

By Mark Schedler on Posted in Earnest Money, Interpleader

When a transaction fails the earnest money is NOT automatically delivered to the rightful party. Here is what every buyer, seller and real estate broker should know about how earnest money is handled when a transaction fails:

  • The agreement does not control the outcome. When the escrow agent holds the earnest money it will need new consistent written instructions from the parties to disburse the money to either of them. When a broker holds the deposit it may be able to disburse the money directly.
  • The agreement could require the escrow agent to “interplead” the earnest money if consistent instructions are not delivered within a stated period of time.
  • To avoid interpleader while they work things out, the parties can instruct the escrow agent to continue to hold the money pending further instructions.
  • Interpleader is a lawsuit. Like all litigation, it begins with a “complaint”. The buyer and seller are defendants. The complaint is “served” on the parties by the local sheriff.
  • Getting served with a lawsuit is unpleasant.
  • In interpleader, the escrow agent is the plaintiff, but it seeks no money or other remedy. Once the case is begun and the money is given to the court, the escrow agent is done.
  • Without lawyers, the parties will be on their own in the lawsuit. There is no judge, clerk or other government employee to swiftly see that justice is done.
  • The process does not adjust itself to the size of the earnest money. Most earnest money deposits are less than the legal fees that would be spent arguing over them.
  • A party who simply does nothing could end up with a judgment against them for the attorneys fees of the other side and the court costs of the Interpleader.
  • Most parties eventually split the earnest money to settle their dispute.  Some do it immediately. Some spend many hours and dollars to come to the same result.
  • Good brokers can often help their clients resolve earnest money problems and get those consistent written instructions to escrow quickly. Lawyers with experience in these matters can also help resolve matters where possible.
  • Buyers can limit their risk by depositing their earnest money with in their broker’s trust account. While this can limit the risk of a problem few brokers have trust accounts for this purpose. Coldwell Banker Bain and Coldwell Banker Seal are two brokers that still maintain trust accounts.