Opportunity in an Owner's Misfortune: Sublet Limits Force a Foreclosure

In late 2007, the shareholder in question had begun to fall behind on his monthly maintenance. The board got its attorney involved, but attempts to collect arrears were spotty. As the co-op's legal fees mounted, patience began to wear thin.

"Early in the process we tried to be patient," says Dan Hughes, 59, an assistant professor at Mount Sinai School of Medicine, who has lived in the building since 1977 and is now the board president. "As it dragged on, the outstanding balance waxed and waned but the legal fees kept piling up. The shareholder was not prepared to get his mind around the fact that the legal fees were his responsibility. There were periods when we got no response to our communications." (The shareholder was not contacted for his version of events.)

After Sublet Period Ends

Problematically, the shareholder had moved out and the apartment was unoccupied. Since he had used up the three years of subletting rights allotted to all shareholders, there was little hope he'd be able to generate enough surplus income to erase his growing debt. And though the board could have chosen to allow a hardship extension allowing subletting, it instead, after "12 to 15 months of negotiations," says Hughes, proceeded with a dispossess action.

Having to chase after

someone's maintenance

and then take [that person]

to court is not a pleasant process

The five members of the board — Hughes, two teachers, an attorney and a social worker — had little stomach for seizing a neighbor's home. "From the board's perspective," says Hughes, "having to chase after someone's maintenance and then take [that person] to court is not a pleasant process. As a group we regarded this as the option of last resort.," other than allowing an extended sublet. (It was not, strictly speaking, a foreclosure proceeding, because the co-op is a corporation, not a lending institution.)

The first question the board faced once it had decided to take the apartment: Should the co-op buy the shares, or let someone else buy them and then try to recoup the unpaid maintenance and legal fees?

Carl Borenstein, president of Veritas Property Management, has managed the co-op since 1993 and is familiar with its history. With board accountant Martin Hirst and board attorney Scott C. Konner of Konner Teitelbaum & Gallagher, he advised the board that several conditions should exist before they bid on any apartment: The co-op should have a healthy reserve fund and not be facing any major expenses or capital improvements; it should have a history of apartments selling for attractively high prices; and the apartment in question should be bought at a low price.

The co-op met these conditions: It was then sitting on healthy reserves of $225,000 and had no major projects coming up. One-bedroom apartments, which sold for an average of $170,000 during the market's peak, were still fetching about $130,000. Historically, when selling off shares in the co-op, the sponsors had done "very well," according to one board member. Based on these considerations, the board decided to bid up to $50,000, but no higher, when the apartment was auctioned off on the steps of the Bronx County Courthouse last fall.

Enter Serendipity

At the public auction sale, three parties outbid the board. The directors then had to perform a routine analysis of the top bidder's financial condition. The top bidder, who'd offered $102,000, was rejected over questions of his income and fears that he was speculating. With the city's real estate market growing more bearish by the day, the other two bidders hastily withdrew their offers, which were both slightly under $100,000. At a second auction, the board's $50,000 bid bested the only other bidder.

And just like that, the co-op had purchased the shares to the apartment at a fire-sale price. The board renovated it and prepared to rent it for about $1,200 a month. If the real estate market rebounds, the board may sell the shares.

"It made sense for us to diversify our portfolio," says Hughes, the board president. "We can rent the apartment and cover our expenses and slowly replenish the reserve fund. With the market so low, why sell now? The longer we hold it, the more valuable it will become, assuming the market strengthens. I don't think our exposure to loss here is great. Essentially we have an apartment 'in the bank.'"

Borenstein, the property manager, gives the board high marks for turning sour economic conditions into a sweet deal. "I think they did a great job of banding together and establishing what their limits were," he says. "These are intelligent people who realize how their money should be invested. They keep their shareholders informed, and they take everybody's issues into consideration."

So by the board not granting a sublet extension, a shareholder lost his apartment and 76 neighbors benefited at his expense.

Adapted from Habitat September 2009. For the complete article and more,  join our Archive >>

Illustration by Jane Sanders