May 3rd, 2013
by Diana Hill
I had this question from a student not too long ago -
“I want to buy a condo and turn it into a rental property in three years. What should I look out for?”
Condominiums can be good rental opportunities depending on your strategy and if the property is purchased correctly. One of the things that can make a condominium or townhouse less desirable, however, is the HOA (Homeowner Associations) and the rules that are created for them. These rules are CC&R’s (covenants, conditions and restrictions). Let’s take a closer look at how this can affect your investment.
A homeowner association (HOA) is usually a not-for-profit organization established by a community board which governs by a set of rules established by that HOA. It determines the rules and the money that is spent on the shared property.
A homeowner association primary job is to: establish that set of rules called the CC&R’s. The CC&R’s establishes monthly dues for all homeowners and can restrict the rights of the owner and how they use their own property or the jointly owned property. For example, a HOA may have rules on who can occupy the property on a permanent basis, what colors can be used on the exterior of the unit, what time the common areas can be used and so on. Homeowners associations are established to hopefully protect the rights of all in the community.
Another big issue that affects the investor is the fairness of the HOA to prohibit or restrict an owner from renting out their property. Should this be an issue of law? Well there are many states where these issues are currently being argued on both the legislative level and in the courts.
There is no argument that a HOA has the right when it is formed to adopt rules restricting the ability of its member to rent out their units. In fact there are retail buyers that will look for complexes that have restricted rental rules. These owners want to be assured that they are living with other owners. Investors would look for the opposite. Associations are changing the rules after they were formed and they are adversely affecting investors.
Here is a case study that will demonstrate what I’m talking about. You purchased a unit in a Townhouse development as your residence. The CC&R’s had no rule regarding the ability of an owner to rent out his property or properties. Over the years, you acquire a few more units for the purpose of renting them. You might even purchase some in an LLC with family members to use as rentals.
Then members of the association become concerned that the number of rentals units is too high and some of the renters are becoming a problem. An election is held and the proposed rules are adopted. According to these new rules, no more than a certain number of units in the development may be rented at any one time. No owner is allowed to own more that two rental units. Leases are subject to approval of the HOA. No lease may be longer than one year. Existing leases are honored, but, at the termination of the lease, if the owner has more than the allowed number of rentals, then they cannot continue to re-rent that unit.
The issue here is that the right to lease one’s property is a fundamental property right. In a brief filed by CAR (California Association of Realtors) they stated -
“This fundamental right should not lightly be taken away from those who acquire real estate with those rights intact … Any attempt by the homeowner association to take away the fundamental right to lease one’s property without adequately accommodating existing owners’ investment should be considered unreasonable…”
The CC&R’s and the HOA were established to create a pleasant living situation for all residents.
Its main job is to provide things like gardening, outside repairs, pool upkeep, other maintenance issues, collection of membership dues and managing common areas. HOA should not be totalitarian in their control.
To avoid these kinds of issues as an owner/investor, at a minimum, you should attend all association meetings and, even better, run for a position on the board.
Also, make sure that your tenant knows what the HOA rules are and that they are responsible if rules are broken and you are assessed a fine. Make sure in the lease that the fine can be then assessed to your tenant.
Condominiums and Townhouses can be very good rentals that attract good tenants but you must be aware of these things.
In future articles I’ll provide you a list of specific things to look for when doing your due diligence of a HOA.
Illustrations added by Econintersect.