Q: I was particularly interested in a recent column concerning the risk of buying a property in a not fully developed community. I would have liked to see some discussion on the risks in dealing with the loan after the purchase of a property in an unfinished development has been completed.
Someone I know is in a bad condo situation. This couple bought their unit at the height of the housing boom, when the neighborhood and this particular development looked rosy. Since this couple closed, the developer has fallen on hard times.
There is a whole litany of broken promised by the developer, who still owns many of the units and maintains the building. There is no Certificate of Occupancy for the unit from the city, as well as no Certificate of Compliance for the building. Promises made to unit owners regarding certain tax exemptions available to them if they bought weren’t kept due to lack of these certifications.
The developers have let the building run down, and lack the will and/or finances to make required repairs. Maintenance problems persist in the building. The developers are advertising vacant units as hotel rooms or as properties for rent. There are security violations in the building. I could go on.
Here’s the thing: The owners who relied on this developer must keep paying their mortgage even though the unit is worthless and cannot be sold.
I don’t think this is fair. I suggest that banking laws be framed in such a way that the bank share the risk with the buyer in such situations. That is, as part of the mortgage agreement, if certain requirements are not met by a certain date, buyers should have the option to be let out of their mortgage with a deed in lieu of foreclosure without negatively affecting their credit.
It isn’t fair to make buyers keep paying the home loan when the developer (who still maintains the property) is at fault. Is it possible to have a clause in the mortgage agreement to this effect? If not, can the lender be required to emphasize – in clear, bold terms – the risk that the mortgage must be paid regardless of neglect by the developer?
The buyers have an ongoing civil suit against the developers which is dragging on. How can they get the attention of the bank holding the mortgage (a prominent bank receiving TARP money, by the way) in requesting the deed in lieu considering that banks are probably flooded with requests nowadays?
You have written about risk of buying in an unfinished development to prospective buyers. What can a homeowner do who is in the bad situation having bought the property already?
A: You raise some interesting questions and I’ll try to answer some of them this week, with a follow-up in next-week’s column.
I’ll start by saying that I completely disagree that lenders should share the buyer’s risk that a new construction home developer will fail.
Buyers are free to buy any property they want: single family homes, townhomes, or condominiums; city, suburban, or rural neighborhoods; new construction home, existing or historic homes.
Any of these choices gives the buyer the ability to decide what is best for him or her. A buyer who wants the amenities of a new home can buy that type of home. A buyer that wants the charm of a century old Victorian home can find one and enjoy living in a historic setting.
But each home choice has pros and cons, benefits and risks associated with it. An old home may require more maintenance and upkeep. A new home may have defects associated with some new construction homes and developments, including bad drywall, bad soil conditions and many other potential hazardous issues and conditions. A home in a condominium building may have rotten neighbors.
When a buyer decides which type of housing to buy, it’s the buyer’s sole decision and any problems resulting from that choice should not be passed on to the lender.
The lender’s role is to evaluate the buyer and the risk the bank takes that the buyer may be unable to repay the loan. The lender takes other risks that are associated with the development and home, but the buyer takes the first hit and if the buyer fails to make the payments required under the loan, the lender then has the option to foreclose on the home and get what it can from the sale of the property.
(The developer likely borrowed money separately from a different lender to purchase the raw land and construct the roads and common areas. If the developer goes bankrupt, that lender may lose its entire investment.)
The fact that your friend’s lender took TARP funds is beside the point. Your friend will probably lose the home to foreclosure and the bank will add his home to the tens of thousands of other foreclosed homes that the bank has to deal with during the current housing crisis.
Regarding the issue of an additional lender disclosure, most buyers don’t read the documents they receive now. In fact, there are pages and pages of disclosures that buyers have to initial at the closing. In some cases, lenders even disclose to borrowers that they should not rely on the bank’s appraiser or inspector for the condition of the home.
Adding an additional disclosure that states that the buyer is responsible for repaying the loan if the home becomes uninhabitable, worthless, a meth lab or crack house, or unaffordable due to income loss, is probably unwarranted.
It seems to me that buyers should take responsibility for their purchases. The motto for real estate has always been caveat emptor, which is Latin for “buyer beware.”
Buyers should be wary: Local government officials don’t always inspect buildings and new construction homes or developments properly when issuing certificates of occupancy. Lenders can’t replace the experience and representations of a good home inspector. And, the lender’s closing attorney or the settlement agent or title company is not a substitute for a good real estate attorney who represents solely the buyer’s interests in a deal.
The developer’s salespeople – and real estate agents or brokers in general – are not trained as financial advisors, real estate attorneys, or home inspectors and buyers should not rely on them for any financial counsel, legal advice, or insight about the condition of the property.
When home buyers undertake the single largest financial decision of their lives, they should do their homework. They should read about how the process works. One home buying tip is that they should hire a good real estate agent to help them through the purchase process. A second home buying tip is to get a good mortgage broker or lender to help them with their financing. A third home buying tip is to find a good real estate attorney who can make sure they’re protected legally. And finally, a fourth home buying tip is to find a good home inspector who can help them understand the condition of the property, can inspect the property while it is in the process of being built and can tell the home buyer about the maintenance issues that may come soon after closing.
If a buyer chooses a bad developer or one who has been hit hard in this unprecedented housing crisis, and the development never gets finished and the buyer’s home goes into foreclosure, the lender will take a loss on the sale of the home when it doesn’t recover enough money from the sale to pay off what is owed on the loan. And that loss might be larger than the loss the buyer takes.
In many residential transactions, the buyer may put down 20 percent of the purchase price or less. If the home is foreclosed, the buyer will lose that money and his credit will be damaged, but the lender may end up losing half or more of the total cash it put down (in the form of the mortgage) to help the buyer pay for the home. That risk and loss is considerable now and in any market.
During the last several years, buyers were willing to do anything to buy a home and willingly ignored all risks associated with the purchase of a home, even a new construction home in a development that might never get completed. Maybe they didn’t understand the true risks they were taking, but that’s hardly the lender’s fault.
Next week, we’ll talk about the other issues you raised in your letter.