If You Can’t Beat It, Exempt It

Does your co-op have a flip tax that it is higher than five percent of the gross sales price? If it does, you should be concerned. Lewis Kobak is.

Kobak, the longtime general manager of Brigham Park Co-op Section 4, in Brooklyn, first became worried earlier this year about his co-op’s transfer fee – more commonly known as a flip tax – when several shareholders were having trouble selling their apartments. Buyers were being turned down for bank financing.

That was strange because the policy wasn’t new – it was instituted in 1984, when the cooperative first began to allow open-market resales.

Brigham Park’s flip tax, or option-waiver fee, is an important source of revenue, and its calculation is unique to the property. Basically, it takes the total dollar value of all the apartments sold in one year and divides that by the number of shares they represent. Ten percent of that number is the dollar-value of the flip tax. Currently, it amounts to $110 per share, and this fee contributes between $100,000 and $200,000 per year to Brigham Park’s reserves.

The problem was the Federal National Mortgage Association (FNMA, but commonly abbreviated as Fannie Mae). About 18 months ago, the lending agency instituted a new guideline that changes the terms under which it buys apartment loans in buildings with flip taxes. Lenders who resell their loans to Fannie (which then assumes the risk associated with the loan) followed suit. “The Fannie Mae rules say that if flip taxes are higher than five percent of the lower of the selling price or appraised value, the loan is a no-go,” explains Jerry Niemeier, an expert in co-op lending who has worked for several major lenders and is currently the vice president of risk management for Nationstar Mortgage.

Why the change? If a loan goes into default and the bank has to take over and ultimately resell the unit, Fannie Mae doesn’t want to get stuck with the cost of a hefty flip tax, Niemeier says. Co-ops are unusual in lending in that they are always in first-lien position, ahead of the lender. So as it is, Niemeier adds, if the defaulting borrower does not pay his maintenance, the lender will pay the monthly maintenance charges to the co-op so that the loan does not default.

While most traditional co-ops don’t exceed the five percent cut-off in the guidelines, the rules are particularly onerous for older co-ops that were developed in the ’50s and ’60s under the federal government’s Section 213 program, which financed construction at lower rates to reduce unit costs. Those buildings typically were set up with rules giving the co-op the option to purchase apartments back from shareholders.

“When these buildings converted into regular co-ops, we kept the same language for the option to purchase, and we added a flip tax because these buildings were getting older and older,” says attorney Andrew Brucker, a partner at Schechter & Brucker. The “tax” in these cases is essentially a waiver-of-option fee. “You can go ahead and sell your apartment for fair market value, but just remember, we waive our option provided you pay us X percent. It’s sharing.”

(Some portfolio lenders, which hold onto their loans rather than resell them, do provide financing for buildings with higher flip taxes, though the terms differ from lender to lender. The National Cooperative Bank, for example, can often offer financing through its adjustable-rate loan products, which it keeps in portfolio, to buildings that are stable financially, according to Janet Cupp, an assistant vice president for loan origination.)

Before the rule change, Fannie’s flip tax limit was three percent of appraised value, which may sound even more restrictive. But that rule actually gave lenders more latitude. In buildings where the flip tax exceeded three percent, Fannie Mae would still back the loan if the lender adjusted the mortgage amount to reflect the flip liability, Niemeier says.

Under the new rule, lenders aren’t even allowed to offer a lower loan amount.

In conversations with loan representatives at Citibank and Wells Fargo about how to resolve the problem, Brucker has been told that co-ops with higher flip taxes basically have two options if they want to qualify for financing.

They can officially reduce their flip tax to five percent or less. Or they can formally exempt lenders from having to pay the flip tax in the event of foreclosure or deed in lieu.

That’s what Brigham Park did. About a month ago, the board amended the resale policy to exempt lenders from the flip tax in situations where they foreclose and have to sell an apartment. “For me,” Kobak says, “it was a no-brainer. The reason we were so quick and ready to change our policy to exempt the banks is because we have practically no foreclosures. There’s no point in stubbornly fighting it as a matter of principle while we’re holding shareholders up from selling apartments.” Kobak, who has been associated with the building for 48 years, can recall only six foreclosures in that time.

“We can bang our heads against the wall and fight this as much as we want, but that’s not helping those individual shareholders who are trying to sell their apartments,” he says. “We can’t disregard that.”