By Sandra L. Gottlieb Condo Lawyer and Community Association Attorney at SwedelsonGottlieb
It is a sign of the times that an association’s board of directors has to consider and consult with association legal counsel on the association’s responsibilities with respect to an owner’s separate interest unit or lot to which the association obtains title through the nonjudicial foreclosure process (for purposes of the following discussion, we will refer to an owner’s separate interest unit or lot as a “unit”). As more and more California community associations are deciding to foreclose against an owner’s unit for non-payment of assessments (rather then waiting for the senior lien holder to foreclose), and with many associations taking title by reversion to units following those foreclosure sales (when third parties don’t bid on the unit at the foreclosure sale), many association boards and managers want to know what the association’s responsibilities are once it takes title to a unit through foreclosure.
Following is an outline of the main responsibilities a board needs to consider and act upon when its association has become the owner of a unit through non-judicial foreclosure:
• Mortgage Payments – As the association is not the borrower under the loan/deed of trust applicable to the unit, the association has no legal obligation to pay the mortgage payments; the borrower/prior owner of the unit maintains that debt obligation to their lender. That said, if no mortgage payments are made on the loan (which we don’t expect there will be by the borrower/prior owner of the unit), the lender will eventually foreclose on its secured interest under the deed of trust and take ownership of the unit from the association. From that point forward, the lender will be liable for assessment payments and owner obligations for the unit until the lender sells the unit to a third party purchaser. Unfortunately, in this economic climate, lenders are reluctant to foreclose, as a lender is not interested in taking a property back into its inventory and does not want to assume the obligation to pay assessments to an association; some lenders have waited longer than two years after an owner stops making mortgage payments before foreclosing on its interest in that unit.
• Insurance – During the time that the association owns the unit, it should carry property and liability insurance on the unit in no less than the same types and amounts required of the owners. An association-owned unit may be covered at no extra cost under the current liability policies maintained by the association, so the board should confer with the association’s insurance broker/agent to ensure that the proper insurance is in place for the unit and what the additional cost, if any, for that insurance is.
• Property Taxes – As the record owner of the unit, the association is technically responsible for the property taxes from its date of ownership forward. That said, we are aware of no instance in California of a taxing authority recording a tax lien against a unit owned by an association for unpaid property taxes and foreclosing on that lien (not that this could not happen). The board can/should make the business decision for the association not to pay property taxes for the unit and let the lender deal with this issue when it forecloses on its security interest in the unit. If the association were to face a property tax lien issue during its ownership of the unit, a board should confer with association legal counsel at that time as to what to do based on the particulars of the situation. We would be thrilled if the city, county or state foreclosed on its tax lien, as it or the buyer of the lien at the foreclosure sale would then become the owner of the unit and be obligated to pay assessments to the association from the date of its foreclosure forward. That said, we have not yet seen that happen, but presumably it could.
• Maintenance and Repair – As owner of the unit, the association will need to routinely inspect the unit to ensure that there are no water leaks/mold, health and safety issues, conditions that pose a threat to the protection and preservation of the common area, etc. Any costs to maintain and repair the unit would be borne by the association, and the association should maintain the unit in accordance with the owner responsibilities set forth under the association’s CC&Rs. If the association plans to rent the unit, it may need to perform certain maintenance and repairs to ensure that the unit is habitable, marketable and secure. On the other hand, if the association plans to leave the unit vacant, it should ensure that the unit is locked and protected from the elements and squatters. The board should keep in mind that any replacements and upgrades it makes to the unit will likely become a fixture of the unit and the property of the lender when it forecloses upon its interest in the unit.
• Utilities – The association will be responsible for the cost of the centrally metered utilities to the unit. If the association leases out the unit (we discuss leasing below), it can require the tenant (in the tenant’s own name) to individually open accounts with utility companies for separately metered utilities for the unit. If the association plans to leave the unit vacant, it can turn the utilities off and leave them off; however, if the association believes that a certain level of heat or air conditioning is necessary to protect the components of the unit and prevent moisture or other conditions that could damage the unit, the association can decide to leave those utilities connected and on, in the association’s name.
• Ongoing Assessments – An association’s CC&Rs will likely permit the board to allocate the ongoing assessments and expenses payable by the unit to all of the remaining owners, in accordance with the assessment allocations established under the association’s CC&Rs (the board should confer with association legal counsel to confirm this is provided under the CC&Rs). Alternatively, the association could charge the expense of these ongoing assessments and expenses against the association’s bad debt expense budget (assuming there is room in that budget to account for these assessments and expenses). If the association leases the unit, it can use the rental proceeds to cover these assessments and expenses.
• Leasing of the Unit (Rental Income) – If the association leases the unit, it can apply rental income received against: (1) the cost incurred by the association to market and lease the unit; (2) ongoing assessments for the unit; (3) the costs of any insurance, maintenance and repairs, utilities and other ownership/operational costs incurred by the association for the unit; and (4) the delinquent assessments owed by the prior owner of the unit as of the date of the association’s foreclosure, including not only the base assessments due, but also interest, late fees and costs of collection (including attorneys’ fees and costs) related to those delinquent base assessments.
Were the association ever to receive rental income in excess of the amount of these costs, it would need to immediately turn that income over to the lender (if there is a lender, which there most likely will be). Also, the association needs to be aware of rent skimming laws and the potential for a lender to demand that the association surrender to the lender all rental income received during the first 12 months after the association forecloses on the unit. While we have never seen that demand made on one of our association clients, the association should keep a careful accounting of all rental income and unit expenses during the time the association owns the unit in the event the lender makes a demand. We suggest that the board deposit and not spend any of the rental income received until the association has recouped all money owed to the association, as security in case yours is the first association in California to receive a rental income reimbursement demand from a lender.
• Leasing of the Unit (Legal Protections) – Any lease entered into by the association should be in writing, be on a month-to-month basis, allow for termination at any time for any reason by either party upon 30 days advance written notice, contain a potential lender foreclosure disclosure and properly protect the association. The board also needs to keep in mind that the association will be subject to fair housing laws and other landlord/tenant laws during the time it leases the unit; association legal counsel can advise the board on issues related to these laws as those issues arise.
• Personal Property Left in the Unit – If the prior owner has left personal property (e.g. furniture, clothing, dishware, artwork, etc.) in the unit, the association should notify the prior owner in writing of same and provide the prior owner 30 days to collect that personal property, which should be photographed, inventoried and stored by the association during that 30 day period. At the end of the 30-day period, if the association believes the property is worth less than $300, it can keep the property or dispose of it in any manner the board deems appropriate. If the property is worth $300 or more, pursuant to California Civil Code Section 1988(c), the association must hold a noticed public sale with competitive bidding for the property, and the money from the sale of the personal belongings must be turned over to the county in which the association’s development is located, if it is not claimed by the prior owner; however, the association can deduct and keep from the sale proceeds its cost of storage, advertising and sale of the property. If you encounter this situation, the board should consult with association legal counsel regarding same. These statutory requirements would also apply to personal property left in the unit by a tenant of the association.
• Tenant Rights Upon Foreclosure – There is a 2009 federal law that protects a tenancy in the event a property a tenant is renting is foreclosed upon by a lender or other party. The law is not specific as to whether it applies to homeowner associations, but we believe there is a strong argument to make that it does. This law essentially provides that a tenant will have a minimum of 90 days to remain renting a property after foreclosure, subject to certain factors. If an association forecloses on a unit that has a tenant in place, association legal counsel should assist the board with reviewing the particulars of that situation and the amount of time the tenant can remain in the unit (and the tenant’s requirement to pay rent to the association during such time). This federal law does not apply to the prior owner, and does not apply to a tenant put in place by the association while the association owns the unit. If the association leases a unit and the lender forecloses, that tenant will be accorded the same protections with respect to the lender.
• Association Governing Documents – Generally, the association’s ownership, maintenance, use and leasing of the unit will need to comply with the requirements of the association’s governing documents. A failure of the association to comply with those requirements could result in an enforcement action against the association and/or a breach of fiduciary duty claim against the board.
As you can see, an association faces multiple issues when foreclosing on a unit and leasing a unit. While some boards may think that becoming a unit owner and/or landlord will unnecessarily burden their association, by removing a delinquent owner from a unit, the board can take steps to recoup lost assessment income through renting the unit, ensure that the delinquent owner is no longer using (at the other owners’ expenses) common utilities and facilities and ensure that an abandoned unit does not become an eyesore or pose a threat to the common area (as the association, or a tenant of the association, can keep the unit in good repair and ensure that any water leaks and other issues that may affect the common areas and other units are noticed and addressed in a timely manner). The above information should help provide your board with ensuring that it and the association meet their duties after the association becomes an owner of a unit through the nonjudicial foreclosure process.
For further information on these issues, feel free to contact Sandra Gottlieb by email at email@example.com; Sandra can also be contacted by telephone at (800) 372-2207. Sandra is SwedelsonGottlieb’s Managing Partner and head of the firms transactional division.