If your property belongs to a condominium association, you more than likely know that leasing restrictions are in place that limit the amount of units in the complex that can be leased at any one time. Typically, the rental cap is set at 25%, supposedly to comply with the provisions set by the Federal Housing Administration. The Federal Housing Administration, generally known as “FHA”, provides mortgage insurance on loans made by FHA-approved lenders (also known as big banks) throughout the United States and its territories. FHA mortgage insurance provides lenders with protection against losses as the result of homeowners defaulting on their mortgage loans. The lenders bare less risk because FHA will pay a claim to the lender in the event of a homeowner’s default. Loans must meet certain requirements established by FHA to qualify for insurance. One such requirement is the 25% leasing cap for condominium developments.
In other words, the FHA helps to bypass the “strict” underwriting standards set forth by entities like Bank of America and Wells Fargo. If a loan qualifies for FHA insurance, the bank will be much more likely to lend money to a prospective borrower because, for the bank, it’s almost impossible to lose on the particular transaction. The FHA is basically a (much needed?) subsidy to the banking and wall street cartels. The FHA adopted the 25% cap rule for condominiums because of it’s unique ownership structure. Long story short, the FHA believes that if a complex is over the cap, the loan incurs much greater risk of default and/or loss of collateral value.
While many boards hastily adopt these provisions, oftentimes no one on the Board is qualified to understand the pending ramifications that will invariably result from doing so in a depressed real estate market. The first, and likely biggest concern for condominium owners is the obscene depreciation of unit values over the past several years. In the Atlanta area, condo values have dropped by almost 40%. Many argue that the decline in property values was a much needed correction to the housing bubble and I would agree. But what should be most disconcerting is the lack of any forecast predicting an appreciable recovery of this specific market. The leasing restrictions adopted by these boards do a disservice to unit owners that are underwater on their homes, and prevent condominium values to recover.
Allow me to illustrate. Suppose you were on the market to purchase a condominium and you are looking at two identical units. They are each going for $100k. Unit “A” has a leasing restriction. Unit “B” does not have a leasing restriction. Assuming unit A and B are completely identical in every other way, which unit would you purchase? Everyone should automatically say unit “B”, and it is pretty obvious to see why. Unit “B” is not encumbered by a restriction that will negatively influence the value of the property. When you restrict the use of a piece of property, the value of that property invariably declines.
To make it even clearer. Assume we are dealing with the same hypothetical above, but unit “A” (the one with the leasing restriction) is now on sale for 80k. Unit B remains on sale free and clear of a leasing restriction for 100k. Again, we are talking about identical units. Which unit would you purchase? Obviously, now there are some calculations involved with this decision. What you end up asking yourself is this; how much does the leasing restriction reduce the value of property A.
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