Condo Deals Die in Shadows of Financially Distressed Buildings

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Condo buyers who sat out last year’s real estate market, waiting for prices to bottom or their own financial footing to improve, find themselves in an enviable situation.

Prices have plunged, and mortgage interest rates, while slowly rising, remain near 5 percent, creating the best home affordability in decades for consumers who qualify for loans.

There’s just one problem. It’s not just the borrower who has to be up to snuff, it’s the building, too, and in the Chicago area there are plenty of buildings that lenders won’t touch.

Among the deal killers: too many renters in a building, pending litigation, inadequate association reserves and delinquent assessments. Those are some of the criteria lenders must look at in order to sell the loan to Fannie Mae or Freddie Mac, the troubled, government-sponsored entities, and the Federal Housing Administration, the first choice for many first-time homebuyers. Combined, the three agencies account for about 90 percent of the secondary loan market.

Real estate agents and lenders say they are seeing more developers, condo associations and individual owners in economic distress, and, as a result, so are buildings.

“Anybody who can’t hang on anymore, that stuff is starting to come out,” said Eric Rojas, a Prudential Rubloff agent in Chicago. “We have people who want to buy units and sellers who want to sell units, and it’s not going to happen.”

Added Gail Lissner, a vice president at Appraisal Research Counselors: “Someone told me it’s called mortgage jail because you just can’t get out. That’s a scary problem.”

There’s no single list to check and no way to quantify the number of buildings in the Chicago area that don’t measure up. Rather, real estate agents have learned from experience what buildings to steer buyers clear of, and in other cases they are investigating a building’s health before they schedule showings.

Meanwhile, some lenders maintain a frequently updated list of “blackballed” condo buildings, where they know a loan won’t get approved. They also are working with homeowner associations to improve their building’s lending potential by improving financial reserves and limiting the number of condo units that are turned into rentals.

Several years ago, there was an assumption that every condo building would pass scrutiny, but that’s no longer the case, said Jim Linnane, Northeast division sales manager at Wells Fargo Mortgage’s retail sales group. Wells Fargo has a dedicated group of employees whose job it is to dig into the financial details of a condo development and work with borrowers and buildings to meet agency guidelines.

The situation is slowing any recovery of the condo market, often the housing of choice for first-time buyers. Owners in troubled buildings aren’t able to refinance, and sellers who want or need to sell find thin ranks of buyers. Last year, 42.5 percent of all initial foreclosure filings in the six-county Chicago area were against condos.

The requirements are thwarting the plans of some potential purchasers, who have abandoned their searches and remain renters.

Others continue to pore through real estate listings after finding that the condo they thought was perfect for them isn’t so perfect after all.

Two weeks ago, Mario Donini was ready to trade his Buffalo Grove apartment for a two-bedroom, two-bath unit, with a parking space, in Chicago’s Lincoln Square area, a unit he couldn’t afford when it was first listed last spring. When it came back on the market recently, with a $60,000 price reduction, Donini jumped.

“It was exactly what I was looking for in a place,” he said.

Then he and Rojas, his agent, started asking questions and found that three of the seven units, or 43 percent of the building, are non-owner-occupied rentals.

Donini decided to pass on the condo.

“I wasn’t comfortable moving into a building that’s becoming a rental building,” he said. “This is somewhere I want to live for a few years. I’m just worried if this stays as a rental building, it makes it hard for me to get out of there and make back some money or even break even on my investment.”

Now, Donini is back in the market but asking about a building’s health before he’ll agree to see it.

Some lenders will look past a problem in a building and still offer to take the loan and hold it in their own portfolio, but that acceptance comes at a price. The borrower’s credit has to be stellar, they have to make a sizeable down payment, and the loan will carry a higher interest rate.

Russell Martin, a loan officer for Perl Mortgage, questions why buyers would want to invest in what he terms “zombie buildings.”

“Not only are the banks protecting themselves, but they’re protecting the borrower,” Martin said. “There’s a reason the bank doesn’t like that building.”

Guidelines differ, depending on the agency and whether the condo is in a new development or an existing building.

For instance, Fannie Mae and Freddie Mac require at least 70 percent of the units in a new building to be sold as primary or second homes before it will back a loan. In a lending environment where few lenders are willing to hold mortgages in their own portfolio, it’s difficult to get to that percentage without an agency-backed loan. Fannie Mae also requires that established buildings have an owner-occupancy ratio of at least 51 percent; Freddie Mac has no such requirement.

FHA used to offer “spot” loan approvals on individual condo units, but now entire buildings need to be FHA-approved. With its attractive 3.5 percent down-payment requirement, new and existing developments have lined up to apply for that certification, for which they have to reapply every two years.

In Illinois since August, 61 buildings, from three-flats to high-rises, were denied FHA approval for reasons that ranged from outstanding litigation to the use of more than 25 percent of the building for commercial purposes.

Last fall an affiliate of developer Belgravia Group Ltd. acquired a “busted” condo conversion project near Loyola University in Rogers Park. The 20 units acquired have been turned back into rental units, and 18 have been rented, said Belgravia President Alan Lev. Also living in the building are five homeowners whose units would be difficult to sell or refinance, but Lev thinks the existence of renters in a maintained building beats the alternative.

This article was first published on February 28, 2011 by the Chicago Tribune.