Give Due Diligence It's Due: Investigating Before Signing the Contract
April 5, 2010...
Investigating Before You Sign the Contract
For most people, "due diligence" is something that investment bankers and their lawyers do before they take a company to market. In essence, due diligence means finding out whatever you can before you make an investment. Since buying an apartment is usually one of the most significant investments that you will make, finding out as much as you can about all aspects of your co-op or condo before you buy is essential. I can’t emphasize enough that there in no such thing as too much due diligence when you're about to buy an apartment. But what due diligence steps should be taken before the Contract is signed? Here's the Residential Reality of due diligence:
You don't want to discover two months after you've purchased your apartment that major capital improvements will be required at great expense to the unit owners or that your apartment is plagued by recurring repair problems.
What Should be Done by your Attorney in Advance of Signing the Contract?
Every transaction is a little different, but here are the steps that should be taken by your attorney before you sign on the dotted line and cut a big check:
The offering plan, as amended, for the building that your apartment is located in should be reviewed in its entirety. That's the document that the Sponsor was obligated to file with the New York State Attorney General’s Office in order to create a new co-op or condo or to convert an existing building to cooperative or condominium ownership. If that document is more than ten years old, it’s substantive significance starts to diminish. Nevertheless, the document should be reviewed. In addition, the organization documents for the cooperative or condominium should be reviewed. That would include the certificate of incorporation, by-laws and proprietary lease for a cooperative and the declaration (that is, the organizing document) and by-laws for a condominium.
The minutes of the co-op or condo Board should be reviewed to get a snapshot of the current status and recent history of the physical and financial status of the building and the apartment you're buying. If something weird happened with your apartment (a major leak or other problem), it may be reflected in the minutes.
The maintenance or common charges and real estate taxes stated in the listing or in the contract should be confirmed. You would be surprised how often those numbers are incorrect and sometimes the error is significant.
The account executive of the Managing Agent should also be consulted to determine the most up to date information about the building and any particulars about your apartment. Take a look at "Hey Nineteen", for a list of my favorite topics that should be discussed with the account executive.
Review of the Financial Statements is Essential
The most current financial statement should be reviewed to understand the financial condition of the Building. Since the financial statement is dated as of December 31st of the most recently ended year, that information is always out of date. For example, if you're looking for an apartment in August, the information in the financial statement is already eight months old. As mentioned above, the account executive of the Building must be consulted to determine the current financial condition of the Building, particularly the cash reserves maintained by the Building. If you have an accountant that you work with, I recommend forwarding a copy of the Building's financial statement to get your accountant's input.
If You're Buying From A Sponsor
If you're buying your apartment from a "Sponsor," that sale will be regulated by the New York State Attorney General and all of the relevant information about the project, including financial and technical information, will be disclosed in the "Offering Plan." It is essential that your attorney review the sponsor’s offering documents carefully. Offering Plans can contain a minefield of goodies for the uninitiated (particularly the “Special Risks” section at the beginning of each Offering Plan). Make sure your attorney has explained the unique features of the condo and the potential risks. For more information on purchasing an apartment from a sponsor, please see the other articles on the site relevant to this topic, including: "Life’s Not Fair, or Purchasing from a Sponsor.”
What Can You Do?
While your attorney is busy with his or her due diligence checklist, there are a number of things that you can do to better understand what you are getting yourself into:
Confirm the square footage of the apartment as well as any other signficant fact about the apartment recited in the listing.
Google everything: the co-op or condo, the seller, the neighborhood and anything else that might be relevant. You would be amazed at how much information turns up on the Internet. Sometimes that information is about you and the co-op Board will soon know those salient facts as well.
If you are purchasing a condo in a new development, check the Internet for stories about the sponsor as well as about the development itself. The website curbed.com is a great resource for background on your proposed project and the neighborhood it's located in. Brickunderground is also an excellent source of information on all aspects of apartment ownership.
If possible, speak with the superintendent or the on site property manager about the building in general and your potential unit specifically. The person who deals with the building’s problems 24/7 has the most current information about the current and past status of the building and the apartment.
Because of the limited availability of credit at the moment, your mortgage broker or lender should be consulted to determine whether the building has any impediments (such as low owner/occupancy), that would discourage your bank from making a loan in that building. Many co-ops and condos are on a bank’s “approved” list. Knowing your building has been cleared by your bank, will save a lot of frustration further down the road.
If you are planning renovations of any significance (that is, anything other than re-finishing the floors and painting), bring in your professionals to go over your plans to determine if there are any threshold problems that would keep your renovation plan from becoming reality. Although most managing agents will not discuss renovation plans in advance, try to get as much information about the coop or condo’s renovation policy to determine whether your proposed plan is likely to be approved.
Do You Need a Pre-Purchase Inspection by an Engineer or Home Inspection Company?
The buyer should always consider retaining an engineer or home inspection company to do a walk-through of the apartment and the building prior to the contract signing, particularly with small buildings or if you plan to renovate the apartment. Although it's an additional expense (approximately $600.00 to $750.00 for an inspection and a written report), a pre-purchase inspection is the only way that a buyer can have any certainty about the physical condition of the building and the apartment. In a situation that came up several years ago, prior to the contract signing, the engineer retained by the buyer discovered that the fireplace had a makeshift flue. In that case, the purchase price was reduced to compensate for the cost of replacement. When the subject of retaining an engineer or inspector is discussed, the mantra sometimes uttered by the real estate broker is: "I've never heard of anyone doing that". Don’t be pressured into not doing what is required or appropriate under the circumstances. For more information on pre-purchase inspections, see “Is a Pre-Purchase Inspection Necessary?”
Residential Reality: Do Your Due Dilly
Once the above steps are taken, you should have a pretty good idea of the physical and financial condition of your Building. Although it happens infrequently, every now and then, something is revealed in the above due diligence that would caution against going forward with the transaction. In most cases, you will find your way to the closing table and your new home.