Small Condominiums Can Have Big Problems

The lyrics of a 1970's song insultingly declared, “Short people got no reason to live.” The same has been said, although usually somewhat more diplomatically, about small condominiums.Think about all the positive terms used to describe large organizations:

• “Strength in numbers”
• “Leverage”
• “Economies of Scale”
• “Broad-based”

All apply to large and mid-sized condominium communities; none apply to small ones (for purposes of this article, those with five units or less).There are plenty of negatives hurled at large entities, to be sure, “impersonal” and “bureaucratic” among them. And there are nice things to be said about small ones, too: “Comfortable,” “informal” and “close-knit” are common. But when talking about small condominiums, the old nursery rhyme comes to mind: “When she was good, she was very, very good, but when she was bad, she was horrid.”You can find residents of small condominium communities who have good, even great things to say about their experience. But it often seems that I hear more about the horrid ones, like the three-unit self-managed community that had operated smoothly for more than five years. But then the owner responsible for handling just about everything accepted a job in another city, dumped all the management tasks, rented his unit , and stopped paying his common area fees.Because he hadn’t turned over any of the financial records to his co-owners, they had no idea what bills were due or how to pay them. They lost heat in the middle of winter when the oil ran dry because no one paid the bill. To add insult to injury, the remaining owners could not even bring a lien enforcement action against the delinquent owner because the documents required unanimous consent for all action. They called and they wrote – but as you can imagine, the non-paying owner was less than responsive to requests for his consent to be sued.Crisis AvertedA financial crisis and court action were averted when the lender holding the mortgage on the owner’s unit intervened and paid the delinquent fees. The owner, who had no problem ignoring demands from his fellow-trustees, did respond to past-due notices from his lender and became far more cooperative after that. But the experience of this community illustrates three of the most serious problems with smaller condominiums:

• Their documents are generally poorly drafted, and typically better suited to larger communities than smaller ones.
• The owners operate informally, without meetings, records or a clearly defined decision-making process. Bills and other management tasks are either handled by one individual (as in this example) or handled haphazardly.
• They can be paralyzed easily. A five- or seven- or nine-member board in a large community is unlikely to be deadlocked. As long as all positions are filled and all trustees are participating, a majority can always rule and usually rule rationally. But small communities typically require unanimous consent on all decisions. That is understandable in one sense ─ a situation in which two owners regularly run roughshod over the third wouldn’t be desirable. But one obstinate owner who objects to everything, or who (as in the above example) withdraws from the community but retains his ownership status, can make it impossible for the remaining owners to do anything, including approving expenditures for essential repairs or even to heat the building.

Equally important, and equally problematic, a two- or three-unit condominium doesn’t have much financial wiggle room. If one or two owners in a 100-unit community become delinquent, the other 98 can probably cover their share of common expenses without much financial strain; a few delinquencies in a large community will be annoying but usually manageable. But in a three-unit community, with only two owners to pick up the slack, a single delinquency can be fatal.And because secondary market rules bar mortgage financing for units in a community in which the delinquency rate exceeds 15 percent, owners in a small condominium community may be unable to sell their units if one owner is delinquent.People Who Need PeopleThis underscores another fundamental problem with small condominiums: Only a few people live in them. In a large community, if an owner becomes delinquent or violates the rules, the collection demand or enforcement notice will typically come from a management company or from a multi-person board. There is no such buffer in a small condominium, where the other owners/board members must enforce the rules against each other and then smile in the morning when they meet in the hallway. And there is no pointing the finger at an anonymous “majority” responsible for unpopular board decisions. All the owner/trustees on a three-member board know how the others voted.Lacking the insulation provided by a manager, large numbers on the board, or a large number of residents, disputes between neighbors in a small condominium are likely to be more intense, more disruptive, more personal, and, thus, more difficult to resolve.The personal relationships among owners in a small condominium can be comfortable, warm, and mutually supportive – like a family. But families can also be dysfunctional. And living in a dysfunctional condominium community, one of my colleagues has pointed out, is like being trapped in a bad marriage. A divorce, or its legal equivalent, can end both bad relationships, but with this essential difference: The parties exiting a bad marriage don’t have to find someone else to marry their spouses; the owner exiting a bad condominium relationship must find someone to buy his/her unit and take over the relationship where it is left off. In a bad market, this may be difficult or impossible.Prescription for ChangeWhile some of the problems with small condominiums are inherent in their size, well-drafted documents and sensible operating procedures can avoid, or at least minimize, many of the common problems facing them. I suggest the following:

• Amend the Documents. The governing documents of many small condominiums incorporate boilerplate language pulled from the documents of larger communities. If that is the case, amend the documents to match the unique needs of small communities. The most important changes:
  • Don’t require elections. In a condominium with five units or fewer, all owners should be trustees.
  • Except in a two-unit condominium, don’t require 100 percent approval for any decision. Make a majority vote or a majority of the percentage interests the governing standard.
  • If you do require unanimous approval, carve out an exception for lien enforcement actions. Specify that the approval of a delinquent owner is not necessary to initiate a lien enforcement action against him/her.
  • Establish a binding arbitration requirement, but make it a last resort for resolving conflicts that threaten the community’s viability, not a default means of breaking deadlocked votes. Avoid deadlocked votes by having an odd number of trustees and, as noted above, by substituting a majority vote or a majority of ownership interests for unanimous consent.
  • If binding arbitration is required, modify it to control the costs. At $300-$350 per hour per arbitrator, the normal process – the opposing sides each pick one arbitrator who selects a third ― can become very costly. Requiring the trustees to agree on a single third-party arbitrator would be more cost-effective.
• Treat the condominium association like a business. It is not a profit-making enterprise, but it’s not a hobby, either. Buying a unit in a small condominium is like going into business with two or three people you don’t know, who may sell their units in the future to other people you don’t know. This argues strongly for establishing sensible procedures and sound business practices to govern the operations.
  • Don’t put one owner in charge of everything. Divide responsibilities reasonably and fairly among all owners, and make sure everyone knows how to handle all essential tasks. The illness, relocation or irresponsibility of one owner shouldn’t trigger a desperate search for checkbooks, bank statements and bills to be paid. Require that all records be available and readily accessible to all owners.
  • Make decisions formally – not on the fly, in passing, or in the hallway. Hold regularly scheduled meetings at which owners discuss issues, vote on proposals and record their actions in minutes distributed to all.
  • Establish a reserve fund. Don’t assume, as the owners in many small condominiums do, that everyone will just “write a check” for major repairs when they are needed. It doesn’t always – or often – work out that way.
  • Create a maintenance schedule for common area spaces and equipment, specifying when and how essential maintenance tasks (painting, yard work, snow removal, etc.) will be performed.
• Get professional help. Few small condominiums can afford a full-time manager, but most can and should hire someone to handle their finances ─ pay bills, collect fees, reconcile the bank statements, and produce periodic financial reports. Accountants and some management companies will provide these limited services at a reasonable cost. This expense isn’t a luxury, it’s a necessity. Also look into a real estate law firm, these can help you set up processes to make things a lot smoother. Professional help won’t prevent all the problems that challenge small communities, but it can reduce a major source of potential friction among owners and do much to ensure the long-term financial health of the community. MEEB is great for any Massachusetts condominium law you may need!