Bye Bye Sponsor

Running the building – that’s a task most people don’t consider while shopping for a new condo apartment. When newly constructed condominiums first open, the property’s sponsor is usually in charge of everything from the financials to operations to repairs. And when unit-owners finally do form a board and take over, the transition can be overwhelming. A brand-new crew is suddenly entrusted with running a business with lots of moving parts and a budget in the millions of dollars. But there are a few basic steps new condo boards can follow to make the transition easier.

First Steps

The first item on a new board’s to-do list is a comprehensive review of the association’s documents, including unit-owner records, contracts, insurance policies, and the all-important financial records. “If a sponsor did what it’s supposed to do, there will have been an audit every year by an independent firm to make sure that all money collected and all expenses paid were properly accounted for,” says attorney Robert Braverman, principal and managing partner at Braverman Greenspun, which specializes in co-op and condo law.

Poring over the association’s budget – and assessing its financial health – is key. Many developers, knowing that capital items will not have to be replaced for many years, fail to channel adequate funds into the reserves in an attempt to keep common charges low and enhance sales. “Sponsors often run buildings on a shoestring with minimal services and staffing, which means the board may need to make changes,” Braverman says. In those cases, the managing agent can help identify what needs fixing, which is why Braverman generally advises new boards to retain the developer’s management company. “Absent some real cause, I wouldn’t discharge them, provided it’s an independent company,” he says. “Otherwise, you’re left without somebody who has an institutional knowledge of running the property.”

New boards should also review the line items to make sure the sponsor hasn’t allowed any unit-owners to become delinquent in paying fees, or has failed to pay fees to the condo association for any unsold sponsor-owned units, or has paid for any sponsor costs out of the association’s funds. If there are any suspicions, Braverman suggests hiring an accountant specializing in condos and co-ops to do a forensic audit.

A Building Physical

In the meantime, there should be a physical inspection of the property. One reason is to ensure that what was promised in the offering plan has actually been delivered. “Even in the fanciest condos, the drawings filed with the Department of Buildings don’t necessarily get translated to the building itself,” explains Mark Levine, a principal at EBMG Management. “Whenever a building is coming online to unit-owner or shareholder control, the board should hire an architectural engineer to see how closely the documents and the structure match up.”

The engineer can also perform a “reserve analysis study” by determining the life expectancy of such major components as the roof and elevators, then projecting the costs to replace them. That way, boards can budget sufficient reserves for capital projects.

These days, many boards are going a step further by hiring a forensic architectural engineer to search for construction defects, such as a faulty roof, facade, or window installation, leaky pipes, poor water flow, or failure to install firestopping materials. These problems have increased dramatically over the last decade, according to one architect, who notes that a forensic survey, using infrared photography and sound resonance testing, is the only way to discover whether a problem is localized or building-wide.

Cost aside – a survey for a 45- to 50-unit, 12- to 15-story building starts around $10,000 but can end up costing many times that – actively looking for trouble is the last thing many boards want to do. “It does go against the grain, but in the end it depends on how risk-averse you want to be,” says attorney Julie Schechter, a partner at Montgomery McCracken Walker & Rhoads. “Some boards want to roll the dice and not spend money, while others would rather pay for peace of mind – or, if the news is bad, for a chance at recovering money from the sponsor.”

The Clock Is Ticking

Time is of the essence. Courts have held that the statute of limitations for a breach-of-contract claim in construction-defect cases expires six years after the sale of the first unit. With developers typically retaining control of new buildings for five years after the initial closing, the window of opportunity is short-lived.

“The engineering report should be sent right away to the board’s attorney so you can figure out your next steps,” says attorney Lisa Radetsky, a partner at Phillips Nizer. “That said, boards have to maintain perspective and avoid taking an adversarial approach right off the bat. If you speak with your sponsor directly – and calmly – they’re more likely to fix the problems.”

It helps to keep in mind that defects are not always the result of egregious cost-cutting or shoddy workmanship. Some building materials now come from as far away as Poland and China, architects note, and some contractors are installing them for the first time. A single defect can resound through an entire building.

And if a developer isn’t willing to make repairs? “You can file a lawsuit and hope the sponsor will settle, which they often do,” says Schechter. “But beyond that, litigation can be costly and can take years. Also, many sponsors create LLCs with limited assets, which also diminish over time, making it less likely you’ll collect.”

There’s another downside to prolonged litigation: it can tarnish a building’s reputation and reduce its reserves. “When a case drags out, it becomes a matter of public record, which can scare off buyers and potential lenders,” says Braverman. “And if there are life-safety issues, like inadequate fire-stopping, you can’t wait for an uncertain outcome in court to make repairs. In the buildings I’ve represented with construction defects, we’ve sued only 20 or 30 percent of the time. Sometimes you have to bite the bullet and make assessments and move forward.”