As buildings age, repairs become necessary. For associations that have funded reserves, money will be in short supply, leaving two possible options depending on what is permitted under your governing documents: special assess and/or borrow money from a bank.
The problem with special assessing, especially in some communities, is that unit owners may be on fixed incomes and cannot afford a sudden spike in monthly payments. Under such circumstances some associations consider applying for a loan from a bank so that funds are immediately available for repairs or reconstruction but repayment is spread over time, thus lowering the monthly payments for each unit owner.
In considering these issues, the following checklist should be followed to guide you through this process.
- Speak to your attorney first. There are a number of legal issues with regard to loans such as, whether you have the authority to borrow; and if you do, whether the Board can make this decision, or if a vote of the owners is required.
- Determine what kind of collateral you will use for the loan. Some loans have not been able to be finalized because the Board did not consider this issue in advance. Generally speaking, real property is not used as collateral for community association loans. The collateral is created primarily by providing the bank a lien on your accounts receivables; which includes your assessments and special assessments as well as other income derived from other sources. Most term sheets require that “all” funds be used as collateral without any consideration of the three points listed below because they are not used to working with community associations. Keep in mind the following basics regarding collateral:
- Reserves accounts and reserve funds can only be used for the purposes for which they were intended unless the membership vote to use those funds for another purpose.
- Special assessment funds can only be used for the purposes for which they were levied. If the special assessment was not levied for the purpose of repaying the loan, it should not be used as collateral.
- Property/casualty insurance proceeds should not be used as collateral. Such insurance is usually purchased for the unit owners and their mortgagees (a general statement in Declarations of Condominium) and, therefore, should only be used for the purposes for which they were intended without the risk that the bank will retain those funds to pay down the loan when you need those funds in the aftermath of a casualty.
Many associations skip any discussions with their attorney during these initial steps which cause a number of problems when the process is too far underway.
- The Board should determine which bank it wishes to use for its loan transaction. You should consult with your attorney they have probably worked with a number of banks and can give you a list of banks which handle loans for community associations.
- Provide the bank with all of the financial reports, budgets, audits, etc. that they may require. If you are approved, the bank will provide you with either (or both) of a term sheet and/or a commitment letter. These documents outline the main terms of the loan.
- Once the term sheet/and or loan commitment letter has been negotiated, the bank will provide you with a set of loan documents. Generally, it is best to let a bank use their attorney to generate the loan documents than to use computer-generated documents which are not specifically geared to condominium or homeowner association loans. It should be noted that the association will pay the bank’s attorney’s fees as well as its own attorney’s fees.