As we take stock of 2021, we note that there were no major changes or amendments to the Illinois Condominium Property Act. Given the relative silence coming out of Springfield, we conclude that the tragic Surfside Tower collapse is the most substantive development to impact our condominium association clients this year. While this tragic event had no immediate impact on Chicagoland condo owners, we believe it will alter association governance for years to come.
Surfside is a cautionary tale of the worst-case scenario that can arise when a condominium board continues to defer critical building maintenance over an extended period of time. We do not intend to be overly alarmist here, and our association clients need not worry that their building is at risk of catastrophic collapse. For one, the Surfside Towers were built on a unique geological surface, a barrier island, which likely made the foundation more susceptible to deterioration. We also note that, as compared to the town of Surfside, the Chicago Department of Buildings has a more robust construction permit process, as well as stricter building code enforcement. With that being said, there is no denying that there are thousands of older condominium buildings in Chicago, both large and small, that are in need of major repairs.
As this tragedy continues to resonate in the collective public conscience, our thesis is that association boards will feel more pressure from owners (and even buyers) to more timely address building defects. For many first-time homeowners and investors, often the entry point to property ownership is not a single-family home or new construction condominium, but a “vintage” condominium. The challenge however is that many of these same owners simply do not have the financial flexibility/liquidity to afford paying for the necessary maintenance on the vintage property. This fact has contributed to a decades long cycle of condominium associations kicking the proverbial can down the road when it comes to addressing common element maintenance problems.
Whether it is a deteriorating masonry facade or a leaking roof, it is always easier for owners and board members to choose a “band-aid” repair over a comprehensive solution. Once again, we believe that owners are now becoming more attuned to the risks associated with this short-sighted approach. As such, condo boards may now be more empowered and proactive in timely investigating, maintaining and repairing the structure and mechanical systems of a building.
We believe that this positive trend will also be influenced by the more discerning condominium buyer. For too long, the typical condo buyer’s due diligence has been limited to only two data points: 1) confirming a low monthly assessment, and 2) whether a special assessment has been levied or is imminent. However, in our residential transaction practice this year, we have noted that condo buyers are being more deliberate in evaluating the overall condition of the building, as well as the financial health of the association. For these prospective buyers, it is no longer enough to confirm that no special assessment is imminent. Rather, these buyers are further inquiring whether common element repair projects may be needed in the future, and if so, how will it be funded.
With the prevalence of the more diligent buyer and consciousness owner, we expect more attention to be focused on association reserve accounts and use of reserve studies. The Illinois Condominium Property Act requires all association annual budgets to provide for a “reasonable reserve” for future capital expenditures and deferred maintenance. However, the term “reasonable reserves” is not defined in the state statute. One guidepost is that most all conventional lenders will only provide mortgage financing for a condo owner if there is at least 10% of the association budget allocated or earmarked for the reserve account. Beyond that baseline, however, Illinois condo boards have an incredible amount of discretion in determining how much to contribute to the reserve account each year. The decision to allocate 10% (of a $100,000 budget) into reserves may be just fine for a well-maintained building. However, that budgeting decision will simply not suffice for an association in need of a $400,000 building wide plumbing replacement within the next few years.
An excellent option available to a proactive condominium board is to commission a reserve study or reserve report. A reserve study, typically prepared by an engineering firm, is a hybrid between an engineering report and an accounting analysis. The report examines a building’s physical structure and provides an estimated useful life for each building component as well as the estimated future cost of that replacement. This report is not inexpensive, and as such, it has often proven to be financially out-of-reach for most smaller condominium associations.
Another tool available is an association bank loan or line of credit. This type of loan is secured by the association’s pledge to the lender of all of its assets, including the association’s assessment receivables. The board will still need to a levy a large special assessment to pay for the major repair project, but the bank loan will get the contractor paid right away. Thereafter, an interest only payment to the bank further allows owners breathing room to pay off their share of the special assessment over a period of years (rather than weeks). The challenge is that the few banks that provide this loan product are not interested in underwriting small association loans (below a certain dollar threshold). This market reality again puts the small and mid-sized associations at a disadvantage. In order for this positive trend to continue, we encourage these banks (and engineering firms) to consider more flexible pricing for these important services. For these smaller association boards to continue to be proactive, they will need cooperation from these industry partners going forward.